Re-balance Cycle Reminder All MyPlanIQ’s newsletters are archived here.

For regular SAA and TAA portfolios, the next re-balance will be on Monday, June 22, 2015. You can also find the re-balance calendar for 2014 on ‘Dashboard‘ page once you log in.

As a reminder to expert users: advanced portfolios are still re-balanced based on their original re-balance schedules and they are not the same as those used in Strategic and Tactical Asset Allocation (SAA and TAA) portfolios of a plan.

Please note that we now list the next re-balance date on every portfolio page.

Summer Blues?

We generally avoid short term timing call because as stated numerously times before, we believe it is futile to predict markets in a short term. However, we do believe that one can use evidences that have shown statistically significance (or in plain language, likely to happen) to help to position one’s portfolio, especially in overall risk management. Currently, we believe there are two significant phenomenons that warrant investors’ attention. 

First, market conditions are not optimistic. Stocks are over valued based on many long term metrics (see Market Indicators): 

  • Buffet Stock Market Indicator: The ratio of the total stock market capitalization to GNP is 145%. US stock market is Significantly Overvalued. 
  • Shiller CAPE10: The ratio of Real Price to the average of last 10 year Real Earnings(CAPE10)(28.01) to its long term average (16.61) is 1.69. US stock market is 69% Overvalued. 
  • Hussman Peak PE: The ratio of Real Price to the average of last 10 year Peak Real Earnings(19.96) to its long term average (12.08) is1.65. US stock market is 65% Overvalued. 

Not only stocks are overvalued on a long term basis, they are also at an elevated level for a long time. In fact, US stocks haven’t had a correction of more than 10% since 2011. Market internal conditions are also showing more divergence including thin volumes on rising days and heavy volumes on falling days; widening bond spreads between high yield bonds and Treasury bonds; side way distribution of broad stock market such as NYSE composite index for a while now (see Hussman’s commentary).

Given the above conditions, the likelihood that  a 1987 style stock market crash will happen has increased. For more detailed discussion, see our previous newsletter October 28, 2013: What Can We Learn From The 1987 Stock Market Crash?.

On the other hand, long term bonds have been increasingly more volatile, indicating an unsettling marketing. Having been in a low (zero) interest rate environment for so long and enjoying bubbling assets (both stocks and bonds), investors are now facing an uncertain future when the short term interest rate is raised by the Federal Reserve. 

Second, now that we are officially in June, we are at the beginning of summer, a period that has been shown, statistically, to be hostile to stocks. 

Sell in May and Go away?

Investors have known for a long time that the so called “Halloween Indicator” (i.e. sell stocks at the beginning of summer and then buy stocks at Halloween time) is one of few stock market anomalies — those can not be explained simply by so called Efficient Market Hypothesis. This phenomenon is well documented. See, for example, the description on Sell in May and Go Away Seasonal Timing page. 

MyPlanIQ maintains a portfolio STS Seasonal Timing Using VFINX on our Advanced Strategies page. The strategy sells VFINX (Vanguard (S&P 500) Index) when it shows technical weakness (to be precise, if MACD Strategy triggers a sell signal in May) and remains in CASH till in October when MACD of VFINX triggers a buy signal. This is an improved version of a simple Sell in May and Buy in October strategy. 

This portfolio serves for two purposes. The first is to serve as a reference for the strategy to some advanced users. Notice we don’t recommend this strategy, at least not for average users. The second purpose is to maintain an ongoing live test on the anomaly mentioned above. Based on the historical back testing and our live data since 2009, we can say that this strategy has again shown a convincing proof for the anomaly. Let’s first take a look at the following data: 

Portfolio Performance Comparison (as of 6/1/2015):

Ticker/Portfolio Name YTD 1Yr AR 3Yr AR 5Yr AR 10Yr AR Since 7/1/1987 Sharpe (since 7/1/1987) Max Drawdown
STS Seasonal Timing Using VFINX 3.4% 10.0% 11.1% 11.8% 7.3% 8.4% 0.38 32%
VFINX (Vanguard 500 Index Investor) 3.4% 11.9% 19.4% 16.1% 8.0% 9.5% 0.3 55%

See detailed comparison >>

Even though the portfolio derives smaller return (7.3% vs. 8% in 10 years or 8.4$ vs. 9.5% since 1987), it incurred much less risk (32% maximum drawdown vs. 55%). Furthermore, from the following total return chart: 

we see that the two charts met in 2011, the last time S&P 500 had a more than 10% correction. It is thus not unreasonable to see that at the next correction, the portfolio will deliver a similar or better total return than S&P 500. 

Bonds in Summer

As an experiment, we also create a new portfolio STS Seasonal Timing Using VBMFX as Cash to test out whether bonds can be used in lieu of CASH: 

Portfolio Performance Comparison (as of 6/1/2015): 

Ticker/Portfolio Name 1Yr AR 3Yr AR 5Yr AR 10Yr AR Since 1987
STS Seasonal Timing Using VBMFX as Cash 10.4% 12.3% 14.3% 9.6% 10.3%
STS Seasonal Timing Using VFINX 10.0% 11.1% 11.8% 7.3% 8.4%
VFINX (Vanguard 500 Index Investor) 11.9% 19.4% 16.1% 8.0% 9.5%

Clearly, using bonds instead of cash has boosted returns by almost 2% annually, better the S&P 500 by almost 1% annually since 1987. So in general, fixed income suffer less summer blues. 

What to Do

The above by no means suggests that we should abandon stocks right now. What it shows is that in general, it is more risky to hold stocks during summer. Combining the risky market conditions mentioned above, we believe it is very important for investors to adhere to the following:

  1. Scale down your risk asset (stocks, REITs etc. ) exposure to a level you are comfortable with, regardless whether you are using Strategic Asset Allocation (SAA)Tactical Asset Allocation(TAA) or any other strategy or portfolio. 
  2. Stick to the strategy. For TAA users, follow the strategy, especially when it calls for a risk asset exposure reduction. 

Again, we emphasize that we are not making a market call here. What we believe is that, from all the above discussion and exercise, we can benefit from the knowledge to make sure we can adjust our expectation and manage our risk better. 

Market Overview

International and emerging market stocks have experienced weakness at the end of May. At the moment, no asset classes look promising. Just as what’s described, summer blues might be upon us. That again really calls for our patience to stick to our investment strategies. 

For more detailed asset trend scores, please refer to 360° Market Overview.

We would like to remind our readers that markets are more precarious now than other times in the last 5 years. It is a good time and imperative to adjust to a risk level you are comfortable with right now.  However, recognizing our deficiency to predict the markets, we will stay on course. 

We again copy our position statements (from previous newsletters): 

Our position has not changed: We still maintain our cautious attitude to the recent stock market strength. Again, we have not seen any meaningful or substantial structural change in the U.S., European and emerging market economies. However, we will let markets sort this out and will try to take advantage over its irrational behavior if it is possible. 

We again would like to stress for any new investor and new money, the best way to step into this kind of markets is through dollar cost average (DCA), i.e. invest and/or follow a model portfolio in several phases (such as 2 or 3 months) instead of the whole sum at one shot. 

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