new this week?
We want to
inform you of a minor change in our credit card merchant naming.
To avoid ongoing confusion for subscribers of TimingCube's
sister services (ETFTide
your credit card charges with us will now be listed as coming from
Fraser Partners, LLC, the company under which TimingCube
and the other services have operated all along.
We hope this will avoid any misunderstanding down the road.
Signal Performance as of
Stocks gapped down at the open Monday in a continuation of last Friday's
negative action. The weakness did not last as all major averages
proceeded to move steadily higher during the session to close solidly in
the black. Apple's better-than-expected earnings report provided another
boost to the market Tuesday, sending the Nasdaq 100
2.2% higher to a new 6-year high. A big quarterly loss by Merrill
Lynch and news that existing-home sales fell more than anticipated
last month caused investors to take profit Wednesday, knocking
the major indexes lower before a sharp rebound allowed stocks
to close mostly unchanged. The same pattern was repeated Thursday:
stocks initially fell as oil prices surged above $90 a barrel
but were then able to reverse their losses again, clearly showing
the market's resilience in the face of bad news. Buyers came
back in full force Friday and bid stocks sharply higher after
Microsoft released a blowout earnings report, the company's
shares closing the week at a fresh six-year high. Investors
were also pleased that Countrywide Financial stated that it
expects to be profitable in the fourth quarter, potentially
signaling that the worst of the credit crisis is behind us.
For the week, the Nasdaq 100, Russell 2000
and S&P 500 respectively
gained 2.98%, 2.83% and 2.31%. All three indexes are again located above
both their 50-day and 200-day exponential moving averages (EMAs).
For its part, our World Index Ranking portfolio
outperformed its US counterparts by posting a 4.35%
weekly gain. The portfolio consists of the 5 top-ranked world
indexes as of October 12, which marked the beginning of the
current 4-week holding period.
Our current Buy
signal remains in effect.
Of late, the stock market's seemingly more frequent and larger
swings are causing some investors growing uneasiness. As investors,
market volatility is one of the few things we can almost feel.
We understand price, volume and moving averages, but we can
sense volatility. It might have to do with our innate self-preservation
reflexes (just a wild guess), but we instinctively understand
that something volatile is risky.
A market, or index or ETF, is said to be volatile when its price
tends to fluctuate sharply and regularly. The more frequent
and more acute the price changes, the higher the volatility.
As volatility is a measure of the market's risk, it is also
a barometer of investor sentiment. There are many technical
indicators for volatility such as standard deviation, Sharpe
and put/call ratios, but none are more broadly followed by stock
market investors than the Chicago Board Options Exchange (CBOE)
Volatility Index (VIX) and the CBOE Nasdaq Volatility Index
(VXN). These indexes track the volatility implied by the prices
of near-term options. The VIX tracks S&P
options and the VXN follows Nasdaq 100
Looking at Chart 1 below, we clearly see that
market volatility has been rising substantially over the previous
12 months. After reaching historical lows over the last couple
of years, the volatility indexes have nearly doubled since then,
with sharp upward spikes in early March, August and September
of this year. And it looks like after a brief pause, VXN is
off to the races again.
Chart 1: VXN Volatility Index - 1 year view
Volatility is relative. Absolute values have little meaning.
Chart 2 below offers the perspective of time,
with Nasdaq 100 volatility dating back many years. A VXN reading
of 25 today is high compared to 14 one year ago, but if you
go back 8 years to the days that preceded and followed the tech
bubble, 25 is nothing. During 2000 and 2001, VXN never went
as low as 40 and was routinely above 70. Volatility is also
relative from one item to the next. The levels of volatility
found, for example, in the Top 5 markets of our World
Index Ranking are easily 2 to 3 times that of U.S.
markets. If a 1.5%-2% daily change in price strikes you as very
volatile, maybe you should stay away from markets like Hong
Kong, Brazil or India, which experience daily fluctuations of
Chart 2: VXN Volatility Index - 8 year view
There are many angles to volatility. It is widely used as a
measure of risk, some try to use it as a timing indicator, and
Trend Timers like volatility for the increased opportunities
Traders often thrive on volatility, and for many option traders
the VIX, VXN and similar investor sentiment indicators are at
the center of their mechanical algorithms. And now the gambling
house makes it even easier for them to bet on the future of
market volatility itself, with the CBOE offering options on
the CBOE Volatility Index (VIX). But enough sarcasm, the VIX
options are marketed as very serious risk management tools for
The volatility indicators have been shown to often move in the
opposite direction of their equity index (they are said to have
negative correlation) which has led many investors to use VIX
options as "catastrophe hedging" tools.
The common generalization is that when prices fall, the VIX
index rises and when prices rise, the VIX falls. This basic
relationship is popularized by a famous traders' saying: "When
the VIX is high it's time to buy; when the VIX is low it's time
to go." Yet, in practice, such volatility indicators make fickle
The only reliable pattern is that, as highlighted in Chart
3 below, upward spikes in the volatility index generally
correspond to intermediate lows of the stock index.
Chart 3: VXN spiking at Nasdaq 100 lows
Trouble with such a system is that while it may provide good
buy signals, it largely keeps us guessing about sell signals,
a very detrimental characteristic during bear markets. In short,
volatility indicators play no role in our Model.
As Trend Timers we can profit in times of both high and low
volatility, but the higher the better. With higher volatility
come more pronounced trends, with more amplitude, which translates
into higher profit opportunities. Significant corrections bear
markets and crashes coinciding with volatility spikes are good
for market timers because, by definition, it is during Sell
signals that we have an opportunity to substantially gain on
a buy and hold strategy.
Are lifecycle ETFs applicable to Trend Timing?
Earlier this month, XShares
launched the first so-called "lifecycle" ETFs with their TDAX
Independence ETF family. A lifecycle fund follows a target date
index, with the target date generally meant as a retirement
date when withdrawal is planned. The 5 investment horizon choices
in the TDAX Independence ETF family currently are: In-Target
(TDX), 2010 (TDD), 2020 (TDH), 2030 (TDN) and 2040 (TDV).
The key principle of such funds is to be aggressive far from the target date and conservative the closer it gets, and to do so, they are the first ETFs to combine a portfolio of stocks and bonds. The portfolio balance between more aggressive domestic and international stocks (97% for the 2040 fund) and more conservative fixed-income securities (89% for the "in target" fund) varies with time horizon.
The very philosophy of these funds is that you should keep them until the target date. They are meant as buy and hold vehicles with a potentially large bond component, and as such they do not lend themselves to our trend following form of investing.
Warm wishes and until next week.