Signal Type	Trade Date	Index	Return since issued
		Nasdaq 100
		Russell 2000
		S&P 500

Market Update

Despite tremendous daily volatility, the major indexes did not move much overall during this past week. Stocks finished Monday's session at their lowest level of the year as oil prices continued to surge and more bad news came out of such financial heavyweights as Bear Stearns and Lehman Brothers. The market rebounded sharply the next day after the Federal Reserve and other central banks announced a $200 billion plan that would loan Treasuries to investment banks in exchange for the battered mortgage-backed securities they carry on their books. The move is yet another attempt to stop the ongoing deterioration of the financial sector. Investors did not question whether the Fed's action would have any lasting effect as they bid stocks sharply higher, with the Nasdaq Composite gaining 4% by session's end and the Dow Jones Industrial Average posting its biggest daily percentage gain in five years. The major averages initially moved higher Wednesday morning but could not hold onto their gains and instead reversed to losses as record oil and commodity prices took their toll. Plunging once more Thursday, stocks found a silver lining in a Standard & Poor's report suggesting that we have seen the worst of write-downs for large financial institutions. The major indexes turned a 2% loss into gains after the report was released. Stocks finished the week on a sour note following news that Bear Stearns had to turn to rival bank J.P. Morgan and the Federal Reserve to prevent it from collapsing. The news stunned investors as Bear Stearns is one of the most respected names on Wall Street. Renewed selling ensued, causing the S&P 500 to shed 2% on the day.

The Nasdaq 100 and Russell 2000 posted respective gains of 0.37% and 0.42% on the week, while the S&P 500 lost 0.40%. All three indexes remain located well below both their 50-day and 200-day Exponential Moving Averages (EMAs).

For its part, our World Index Ranking underperformed its U.S. counterparts this week with a loss of 2.81%. The portfolio consists of the 5 top-ranked world indexes as of February 29, which marked the beginning of the current 4-week holding period. Please note that since we now have an active Sell signal, the World Index Ranking approach calls for selling your holdings if you follow the "Long Only" or "Long and Short" strategy. Only if you follow the "Buy and Rebalance" strategy should you remain invested in the top 5 indexes, as the strategy calls for staying invested at all times. Please go to our "Strategies" page for all the details.

Our current Sell signal remains in effect.

Trend Timing School

Correlation of world stock markets

It is good every once in a while to review some of the basic tenets of our investment approach, and today we focus on the correlation of world equity markets. Economists and historians of the stock market have long noted that as world economies have grown more entwined and interdependent through international exchanges and commerce, their stock markets have increasingly been moving in unison. Since our service is entirely focused on the stock market to the exclusion of other asset classes and, instead of attempting to time individual securities or indexes, we extract the broad market trend with one single model/signal, it is even more critical that we stick with markets which are well correlated.

What makes this investigation timely is that there has been much debate and controversy in economist circles lately about "decoupling", the thesis advanced by some that a U.S. recession would not necessarily drag other developed and emerging economies into recession. The long standing view, supported by historical evidence, was that the more intertwined economies are, the more synchronized their business cycles, not less. The new theory suggests that commerce with other emerging nations now represents an important part of the emerging economies and represents their fastest growing markets. A recent report cites the fact that over half of China's exports now go to countries like Brazil, India and Russia. With their exports to the U.S. only growing at 5% annually versus over 60% for exports to developing economies the trend is only expected to accelerate.

For now, we will let the economists continue their debate while we conduct our own survey.

When comparing the movements of two or more stock markets we distinguish between correlation, the degree to which they show a tendency to vary together (in the same direction), and relative strength which deals with the amplitude or intensity of these movements. The relative strength is the realm of the World Index Ranking which helps us target the strongest markets during our Buy signals. For now we want to exclusively examine the synchronization between markets and by far the best indicator for that is the Correlation Coefficient, or CC for short.

CC calculates how closely two data sets move together. CC is a number which varies between
-1 and +1, with +1 being perfect correlation. For a monthly correlation coefficient, "perfectly correlated" means that the two data sets move in the same direction by the same amount every month during the observation period. For example, two investments tracking each other well such as the Nasdaq Composite and the Nasdaq 100 index have a CC of close to 1. Conversely, an investment which does exactly the opposite of another is said to be inversely correlated and earns a CC of -1. Zero is reserved for data sets which do not have any particular relationship, be it direction wise or amplitude wise.

Table 1 below lists the monthly correlation coefficients of major world markets for periods of ten years, five years, and one year, as measured against the Nasdaq Composite index. It is ranked in descending order of one year correlation. It incorporates all of the indexes in the World Index Ranking, plus the Chinese Shanghai-Shenzhen 300 Index and Russian RTSI
Index .

Table 1: The evolution of correlation between world stock markets

Index Symbol	Description	Monthly Correlation with Nasdaq Composite
		10 years	5 years	1 year
^IXIC	Nasdaq Composite	1.00	1.00	1.00
^NDX	NASDAQ 100	0.98	0.98	0.97
^AORD	Australia	0.64	0.60	0.93
^STI	Singapore	0.56	0.62	0.88
^N225	Japan	0.51	0.49	0.87
^FTSE	UK	N/A	0.57	0.87
^DWC	Dow Jones Wilshire 5000	N/A	0.90	0.85
^FCHI	France	N/A	0.68	0.84
^MIBTEL	Italy	N/A	0.64	0.84
^GSPTSE	Canada	N/A	0.66	0.83
^GDAXI	Germany	N/A	0.73	0.83
^GSPC	S&P 500	0.80	0.86	0.83
^BVSP	Brazil	0.62	0.53	0.83
^SSMI	Switzerland	N/A	0.60	0.82
^BFX	Belgium	N/A	N/A	0.81
^KS11	South Korea	0.57	0.59	0.80
^MID	S&P 400	0.76	0.87	0.79
^HSI	Hong Kong	0.60	0.54	0.79
^ATX	Austria	0.32	0.53	0.77
^TWII	Taiwan	0.43	0.45	0.76
^BSESN	India	0.44	0.50	0.75
^OMXSPI	Sweden	N/A	0.64	0.74
^RUT	Russell 2000	0.82	0.89	0.73
^DJI	Dow Jones Industrials	0.61	0.76	0.70
399300.SZ	China	N/A	N/A	0.68
^KLSE	Malaysia	0.33	0.39	0.57
^IBEX	Spain	0.68	0.55	0.55
RTS.RS	Russia	N/A	N/A	0.53
^MXX	Mexico	0.67	0.56	0.33

Since the last time we published correlation data in the fall of 2006 (see "The correlation coefficient") it is apparent that the majority of stock markets have increased their interdependence with the Nasdaq Composite index, not reduced it. The numbers are not exactly comparable because in the 2006 article we used "daily" calculations and the new ones are "monthly". Still, we can see that even the markets which tended to move inversely to the Nasdaq Composite and had negative correlation back then, such as China and Russia, have now swung strongly toward positive correlation. The good news is that there is no sign of decoupling between major world markets, at least not so far.

We decided to see how the Chinese market correlation evolved and what the latest trend might hold. Chart 1 below plots the monthly correlation coefficient over 12-month rolling periods as far back as the data goes.

Chart 1: Chinese market correlation variability


The main lesson we derive from the chart is that under particular circumstances emerging markets can take drastic turns in relatively short periods of time (less than two years in this example). No economy is truly free and open, but many of the emerging economies like China, India and Russia have highly authoritarian governments who exert great control and influence over, not only their local economy, but over international business. Trade barriers or stimuli such as import/export taxes and subsidies, exchange rate manipulations, shifting regulations governing foreign investments are just some of the tools actively employed. In such environments, even mere pronouncements by government officials can have drastic and nearly immediate effects on the local stock markets. We will keep monitoring the situation, but as long as their correlation varies wildly, inclusion of such emerging markets into our correlation-dependent system remains a challenge.

FAQ of the Week

Question: What is the 2008 Year-To-Date performance?

Year-To-Date returns are fairly meaningless until some weeks have gone by, but because of unusual demand for the data we decided not to wait a full quarter to start publishing them. Accordingly, the "Home" and "Results" pages have been updated with 2008 Year to Date. Note that we do not update these numbers in real time to prevent non-subscribers from easily deriving the current signal.

For 2008 Year-To-Date through March 7 our mainstream strategy, the World Index "Long and Short", is up 13.06% compared to a loss of 11.92% for the S&P 500, almost a 25% differential in a little over 2 months. The strategy had us invested in the Top 5 world markets coming into the year and the Sell signal switched us to shorting the Nasdaq 100 on the open on January 7. Since all of the results we publish are based on the indexes they do not take exchange rate fluctuations into consideration, unlike the ETFs we actually invest in. For those applying the "Long and Short" strategy strictly to the U.S. stock market, such as the Nasdaq 100, the returns are somewhat less because of the severe decline they experienced during the first week of the year when we were still long. U.S.-only performance data can be found in the "Trades and Cumulative Returns" section of the "Results" page and adjusting the pull down menu to 2008.

Warm wishes and until next week.

The TimingCube Staff