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

Market Update

Markets moved lower this holiday-shortened week. After rising Tuesday as investors returned from the Labor Day weekend in a buying mood, stocks succumbed to profit taking the next two days. Most of the damage occurred on Wednesday as market participants reacted negatively to an economic report showing that revised second-quarter labor costs rose at a 4.9% pace. The high number once again rekindled inflation fears, and stocks moved lower as a result. There was better news on the productivity front, as it was revised higher, from 1.1% to 1.6%. On Thursday, stocks faced selling pressure again after home builders released disappointing earning reports and the National Association of Realtors said that sales of existing homes this year will be worse than expected. Investors are obviously worried by the impact the slowdown of the housing market will have on the economy. The major averages finished the week on a better note: they bounced back Friday, helped by oil prices that moved lower all week to a new five-month low of $66-a-barrel. This is good news as falling energy prices lower the risk of inflation and might help the Fed decide to stand pat at its next meeting later this month.

The Nasdaq 100 and S&P 500 respectively lost 0.93% and 0.92% on the week. The Russell 2000 fared worse as it closed 1.8% lower. Both the Russell 2000 and S&P 500 remain above their respective 50-day and 200-day exponential moving averages (EMAs). For its part, the Nasdaq 100 still sits between both averages. Our current Buy signal remains in effect.

Trend Timing School

A connected world

The relationship between world stock markets is not something many investors think about, because most invest exclusively in their own country's stock market. When they think about international markets, they intuitively feel that every country has such varied circumstances that their economies and stock markets are on cycles of their own, and largely unrelated to others. When we tell them that in fact most broad world indices are well correlated and can be timed successfully with the same exact signal, they say "no way"! What could the India stock market have in common with the U.S. stock market?
Well, looking at a longer term chart of IFN and QQQQ , for example, clearly shows that while India has been a rocket ship and the U.S. has been stagnant, they both clearly share mid-term trends and generally move in the same direction. The reason most people do not perceive the world-wide synchronization is because of the much too short observation periods. Ironically, it is the very fact that we now have almost instant access to information from around the world which has us submerged with near real-time data. Yes, on a daily or even weekly basis there is not always agreement, but the mid-term trends do not lie, and points of inflections in these trends become clearly visible.

In a world so connected, so intertwined in the way information, products and services flow, it is surprising that the fact that the economies and stock markets of major industrialized nations are tightly inter-dependent is not self-evident. A corner stone of our longer term trend following Model is that most of the major world stock markets are well correlated most of the time. We will not bother our long time subscribers with a repeat of our lectures on the correlation of world markets and the virtues of international diversification. For anyone in need of a refresher, the article "The Trend is contagious" should give a good summary, complete with edifying historical charts.

As yet another way to prove to yourself that the correlation of world markets is not a myth, you can use the "Performance by individual security or index" feature on the "Result" page to compare various world indices and see for yourself that for most international indices the results following TimingCube's Long and Short strategy would generally have outperformed buy and hold, a good indication of correlation. You can find a list of tickers for many international indices and corresponding ETFs in the "What to trade?" section of the "Resources" page.

For at least a couple of years we have been preaching international diversification, and those of us that followed the recommendation have done very well. Yes, it is critical to fully understand the broad correlation which exists between world markets, but we also want to recognize the differences, such as their relative strength, and exploit them to our advantage.

There are two distinct aspects of how two stock markets or investments perform: their correlation and their respective strength. Good correlation means that we can use the same exact signal to time buying and selling the various markets, but that we can also look at relative strength of world markets to see which geographies we should invest in. If not convinced, simply look at the sample returns we have published in the past (for example in the Trend Timing School article we published on August 18^th, 2006 "The ins and outs of backtesting").

There are many factors that impact the respective performance of world markets and how their equities perform, starting with their local economy, their political climate, and ultimately the investor perception of future growth and earnings prospects. For us, U.S. based investors, another important element are the changes in relative currency valuations. Make sure to read the FAQ of the Week below which explains why movements in exchange rates play a major role in the performance of international investments (and why there are discrepancies between the returns of ETFs and the indices they track).

International investments may involve risk of capital loss from unfavorable fluctuations in currency values, from differences in generally accepted accounting principles or from economic or political instability, but we strongly believe they can benefit every investor by offering a way to boost returns and by reducing overall risk through diversification versus a single country/single currency portfolio. Being 100% invested in the stock market of a single country is bad for your financial health. This is especially true for U.S. investors who have experienced a trendless stock market for years and a currency which is in a long term down trend.

This all brings us back to the age old question: "Wouldn't it be nice to have a world index ranking to tell us where best to invest our dollars?". For those of you who have been patiently waiting we apologize for the continuing suspense, but all we can say is that our new index ranking service to use in conjunction with the TimingCube signals will be announced in the very near future.
Watch this space!

FAQ of the Week

Question: Are international ETFs affected by currency movements?

The short answer is yes, currency fluctuations affect both the returns and the volatility of international investments, including international ETFs.

For a U.S. investor, it is the relative valuation changes between the U.S. dollar and the local currency in the country you invest in which matter. Relative currency valuations also explain some of the differences observed between international stock market indices and the ETFs that track them. A stock market index is calculated on the basis of the price of all its component stocks in local currency, and is never converted or traded. That international index will only reflect equity gains or losses, nothing else. An international ETF on the other hand is an international investment which is traded in U.S. dollars on a U.S. stock exchange. The valuation of the ETF begins much the same way as the international index, on the basis of the price of all its component stocks in their local currency, but then it gets converted into U.S. dollars.

Thus, the total return of the investment when measured in U.S. dollars is equal to the equity returns in that particular country times the currency return.

As always, a picture is worth a thousand words. Looking at Canada and Chart 1 below as an example, we can see that over the last 12 months the U.S. dollar to Canadian dollar exchange rate (Yahoo!Finance ticker USDCAD=X) has dropped by about 7%, which means that one U.S. dollar pays about 1.12 Canadian dollars today, but would have brought around 1.20 a year ago. This gain in value of the Canadian dollar over the greenback is also reflected in the share price of the Canadian ETF which has outpaced the Canadian S&P/TSX Composite index . There are other differences between the ETF and the index, such as the fact that the ETF actually follows another index, the MSCI Canada Index , but the currency fluctuations are the largest contributor to the discrepancies.

Chart 1: Currency impact on international ETF performance


The point is that you can observe the currency relationship with all country/currency combinations. Had you looked at Japan instead of Canada, you would see that the U.S. dollar actually gained in value as compared to the Japanese Yen (Yahoo!Finance ticker USDJPY=X) over the last year, and that accordingly, the Japanese ETF lagged the Nikkei 225 index .

Warm wishes and until next week.

The TimingCube Staff