Sector Selection / IWM comparison: new Robot call 8/24/2011

[Timothy Clontz]

Models are like people. Sometimes you can have two perfectly great individuals who make a bad couple, and sometimes two unexceptional individuals who make an incredible couple.

Some years ago I tested Value Line's timeliness ranks with Joel Greenblatt's GARP formula to see if they worked together. What I found was that Value Line 1s DID beat Value Line 5s, and good GARP scores DID beat bad GARP scores.

But I ALSO found that the best combination of the two was NOT good Value Line scores and good GARP scores -- but instead BAD Value Line Scores and good GARP scores.

That is, they had negative synergy -- even though they each worked perfectly fine alone.

For the past few months, Billy has been giving me his pivots for nine sector ETFs in order to have the most solid test we could of my sector rotation model using IWM buy and sell triggers. At first it appeared to work well, but then the Robot had to be taken offline and updated. Once that work was completed, Pascal spent a good solid day analyzing my sector selections going back to August 2007 along with the new Robot trigger history.

Pascal also went over and above a simple test and analyzed my sector calls against completely random sector selections.

What he found was that my sector calls were significantly worse than random. 7 out of 9 times that a random sector was selected it performed better with the Robot than my targeted sectors.

This is much like the NEGATIVE synergy I observed between Value Line and GARP scores. Value Line uses positive momentum as part of its formula and GARP selections have negative momentum.

Pascal's model uses effective volume (i.e. volume confirmed with price movements).

My model uses non-effective volume and breadth (i.e. volume and breadth NOT confirmed with price movements).

While my model is designed for investors using some kind of GARP or value investing, Pascal's model appears to work better with the kind of fundamental selection used by IBD. GARP (growth at reasonable price) buys at low P/E and sells at average P/E. IBD buys at high P/E and sells at higer P/E.

Not only would we enter different sectors at different times, we would have different holding periods and different stock selections even within the same sector.

Both of these are perfectly reasonable approaches, with different holding periods. With a good enough model (which Pascal and Billy have), one can make a killing actively trading and shorting the market at precisely targeted times. With my model one can have a good solid return by either staying long or occasionally hedging, and holding these positions for months at a time.

The average holding period for the Robot is (so far) 23 days long and 14 days short.

The average holding period for my model is much longer.

As I've mentioned on a number of occasions, I think Billy and Pascal have an infinitely better model for active traders. My own model is for folks with 401ks who don't want to worry so much about timing.

In any case, this has been a successful failure. The purpose of a test is to determine how something works. Once that determination is made, the test itself is a success. The conclusion is that effective volume cannot be used as a trigger to release excess accumulations long term non-effective volume. Effective volume finds an immediate trend and uses it. Non-effective volume finds an exhausted trend and waits for it to mean revert.

More money is to be made with the Robot, of course.

But Pascal and Billy have been kind enough to suggest that I write in more detail about sector rotation in the VIT forum, and I plan to take them up on it.

Thanks to both of them for their time and help.

Tim

[nickola.pazderic]

I want to read your report, too. Thanks.