June 29, 2020: Industry Sector ETF Rotation With Composite Momentum

Jun 30, 2020 | Asset-Allocation, Bonds, Economy, Feature, Gold, Headline, Income, Investments, IRA, Markets, Mutual-Funds, Newsletter, Retirement

 

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

Regular AAC (Asset Allocation Composite), SAA and TAA portfolios are always rebalanced on the first trading day of a month. the next re-balance will be on Wednesday July 1, 2020.

Please note: As of March 1, 2020, we officially phased out our old rebalance calendar for both SAA and TAA. They are now always rebalanced on the first trading day of a month. 

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.

Industry Sector ETF Rotation With Composite Momentum

Last week, we reviewed industry sector rotation portfolio using Fidelity select mutual funds. In this newsletter, we introduce a new industry sector rotation portfolio using ETFs. Since practically all major brokerages offer commission free ETF trades, this kind of portfolios can be used in a non-Fidelity brokerage. 

Industry sector ETFs

We screened out ETFs that are at sector or industry levels. We further require each ETF to have at least $500 million AUM (Asset Under Management) to reduce trading friction (bid and ask spread) and have more iiquidity volume. We then also eliminate redundant ones. Here are the list of 35 ETFs we use in the portfolio: 

As a comparison, we also show Fidelity Select funds here: 

Three are 16 ETFs that are in technology or health care/tech sectors. Furthermore, there are a few in financial and energy/natural resource sectors. One of the noticeable difference between this ETF list and the Fidelity select list is that there are more technology based industry coverage here while Fidelity select mutual funds offer more diversification in other sectors. 

Similar to Fidelity Select Gold, ETF GDX (Gold Miners ETF) in the list offers some good diversification in a period when investors are concerned about loose monetary and fiscal policies (such as right now). Unlike the Fidelity select list, the ETFs also include an agricultural business ETF MOO. 

We also want to point out our list includes three actively managed technology ETFs offered by ARK invest. ARK ETFs have had some stellar records since their inception. These three ETFs are large enough to be included — we have to ignore other ARK ETFs such as ARKQ or PRNT because of their AUM sizes. Things certainly can change as time goes. 

Because of the minimum $500m AUM requirement, several good ETFs are not included. ETFs like ESPO (Gaming &E-Sport) and IAI (broker-dealer) do offer some good alternative companies but unfortunately they have to be left out. 

Composite momentum based sector rotation

The following table compares P Composite Momentum Scoring Industries ETFs with the Fidelity select based portfolio: 

Portfolio Performance Comparison (as of 6/26/2020):
Ticker/Portfolio Name YTD
Return**		 1Yr AR 3Yr AR 5Yr AR 10Yr AR 15Yr AR Since 12/31/2000
P Composite Momentum Scoring Industries ETFs -0.5% 15.0% 8.2% 10.8% 14.4% 14.1% 14.7%
P Composite Momentum Scoring Fidelity Select Funds -1.0% 7.5% 6.7% 7.6% 12.8% 14.8% 15.2%

AR: Annualized Return

10 year chart:

See detailed comparison >>

Discussions: 

  • The ETF one has outperformed the Fidelity one for the past 10 years. We attribute this outperformance by some of the technology ETFs that were introduced in the past decade. These ETFs such as ARK ETFs offer more broad base coverage of new theme based investments. As more and more good ETFs are introduced and become mature, we expect industry ETFs will be able to outplay Fidelity select more in the future. 
  • However, ETFs are inherently subject to the spread of their prices and their NAVs (Net Asset Value). These are especially true in a volatile market environment such as the one we just experienced in March this year. Fortunately, the portfolios were out of stock funds in the period. This is definitely still an advantage for mutual funds (unless, of course, a mutual fund can also limit redemption/sell in some extreme occasions). 
  • In the earlier years, the Fidelity portfolio did better than the ETF one. In fact, it has outperformed the ETF since 12/31/2000, mostly because of its earlier strength. This was mostly caused by the fact that many ETFs didn’t exist in early years. 

The ETF portfolio is available for expert subscribers to follow or customize. A reminder that an expert subscriber can customize/change an advanced portfolio’s parameter in the following steps: 

  1. Click on ‘Customize A New Portfolio‘ on a portfolio page such as this. 
  2. Click on ‘PA‘ next to a strategy and then change its parameters. In this case, if you want to update/change the list of ETFs, you can change parameter  Securities value to a new list of funds, each separated with a comma: 

If you have an idea on updating the list of the funds, you can also let us know through email. 

Market overview

Stocks had some meaningful loss last week as investors began to process the bad news of rising Covid19 cases in many states and their impact on business reopening. Our view is that stocks will at best meander for a while. The reasons include:

  • Rising Covid19 cases and more states are postponing business reopening or closing down some recent reopened businesses. 
  • The impact on businesses by Covid19 pandemic will gradually show up in the coming months. These include permanent layoffs, cash flow issues that might cause bankruptcy and/or debt reset or equity dilutions. 
  • Frankly, many companies will use Covid19 as an excuse to restructure/reduce their head counts and capital expenditure after so many years’ business expansion and rising debts (for stock repurchase and other expenditures) which they have planned to do with or without Covid19 pandemic. 
  • Through recent work from home arrangement and furloughing employees, some businesses might have found out that they might be able to do the same or more with less headcounts. This further exacerbates layoff problem. 
  • Finally, the current extreme stock valuation does not bode well with robust future returns. 

On the other hand, this market has substantial downside risk — if the Covid19 and/or other factors mentioned above turn out to be more serious, a W or even worse shape of economy is not totally out of the question. 

Meandering or correction, both don’t offer a rosy picture for stocks going foward. However, as we have learned numerious times, markets can defy one’s subjective though highly plausible reasons and continue to rise. Importanly, we emphasize to stay the course:

  • For strategic allocation (buy and hold) investors, ignore the current market behavior. Remember, as what we have emphasized numerous times, when you choose and commit to a strategic portfolio, you essentially know and commit that your investment horizon (or the time you need to utilize this capital) is 20 years or longer. As we pointed out, if your investments are those diversified (index) funds such as an S&P 500 index fund (VFINX, for example), you know your money is in some solid ‘business’ that eventually (20 years later) will deliver some reasonable returns. As long as you are comfortable with this thesis, you should sit tight and forget about the current gyration.
  • For tactical investors, again, you have to ignore the current market noise. Furthermore, you should follow your strategy rigorously, especially in a time like this. Human emotion, both optimistic and pessimistic, and human desire, both greedy and fearful, are your worst enemies. This has been shown to be true time and time again.

For more detailed current market trends, please refer to 360° Market Overview.

In terms of investments, stocks are somewhat cheaper. Investors should not be swayed by the current market volatility and economic distress, instead, they should stand ready to take advantage of the opportunities. For most Americans, we offer the following Winston Churchill’s remark made in the darkest days of World War II: “The Americans will always do the right thing, but only after they have tried everything else.” As a country, the US (and the rest of the world) will get over this, as always, even after stumbles. The past development has been very supportive to our optimistic long term view so far. 

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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