S&P 500 Index 1642
By Steve Blumenthal
August 21, 2013
Included in this week’s update:
- Sentiment Charts – working off excessive optimism
- Cyclical Bull Market Charts – S&P 500 Index level 1600 looks important
- Duration of Cyclical Bull and Cyclical Bear Chart – average length (you’ll find this data interesting)
Investment Sentiment charts 8-20-2013:
Sentiment Chart 1. NDR Crowd Sentiment Poll – Extreme Optimism moved lower over the past few weeks but has yet to reach Extreme Pessimism – I continue to favor hedging core equity exposure.
Sentiment Chart 2. NDR Daily Trading Sentiment Composite – Neutral
Sentiment Chart 3. NAAIM Survey: Here too… Extreme Optimism (Bearish)
NAAIM Sentiment Chart – Current reading is in red.
Both the 13/34-Week EMA and Big Mo Cyclical Trend Charts Remain Bullish
Cyclical Trend Chart 1: 13/34-Week EMA remains bullish as the 13-week line remains above the 34-week line. It looks like 1600 is shaping up to be a potential turning point from cyclical bull to cyclical bear.
Big Mo remains in a Cyclical Bull trend
Cyclical Bull and Bear Market Analysis – (Secular is the longer-term trend and Cyclical is the shorter-term trend).
The next chart looks at the lifeline of a Cyclical Bull. I’ve circled in red the “Median” number of days. The current Cyclical Bull, whether you believe it is a Cyclical Bull within a Secular Bull environment or a Cyclical Bull within a Secular Bear environment (NDR’s view), the current bull move is aged.
Some argue that the Cyclical Bull began on 3-9-2009. NDR’s method is defined below. My two cents is not to get hung up on the start date but to look at the history of a given method.
If we are truly in a Secular Bear, the Median number of days a Cyclical Bull lived before the market reverted to a Cyclical Bear is 371 days. The current Cyclical Bull is 669 days old through August 2.
- A secular bull market is a period in which stock prices rise at an above-average rate for an extended period and suffer only relatively short intervening declines. A secular bear market is an extended period of flat or declining stock prices.
Secular bull or bear markets typically consist of multiple cyclical bull and bear markets. - A cyclical bull market requires a 30% rise in the DJIA after 50 calendar days or a 13% rise after 155 calendar days. Reversals of 30% in the Value Line Geometric Index since 1965 also qualify. A bear cyclical market requires a 30% drop in the DJIA after 50
calendar days or a 13% decline after 145 calendar days. Reversals in the Value Line Geometric Index also qualify. - *The current cyclical bull/bear market is bolded. The corresponding end date is the date of the high/low from the trough or peak. As such, the current bull/bear stats could change with a new price peak or trough.
- Summary stats do not include the current cyclical bull or bear market.
- GPA = gain per annum. For bull and bear markets lasting less than one year, the percent GPA will be greater than the percent gain. Extremely high (low) GPAs can skew the mean statistics. As a result, the mean GPAs can be much higher (lower) than the median GPAs.
- Days = calendar days
For the quant geeks: On the next chart I highlight the day count of the last two Cyclical Bulls in red (note the gray area marks Secular Bear periods and the non-shaded marks Secular Bull).
Risk management is most important when it feels most unnecessary. I argue that the mood is shifting from bullish certainty to neutral. Hedge long-term core equity exposure. I favor using “investor sentiment” as a guide to actively manage equity market risk and would suggest deeper stop loss risk management when either the 13/34-Week EMA or Big Mo move to a Cyclical Bear regime.
An idea to consider in your equity bucket:
We recently launched a strategy, the CMG Global Equity Strategy, that selects 50 well known companies based on a culture of exceptional leadership as measured by strong balance sheets and a consistency of delivering strong earnings growth. The objective is to own these solid stocks for a year and then re-rank and invest in what we believe to be the top 50.
Additionally, we hired Dr. Andrew Lo and his team from Alpha Simplex to run their volatility risk management strategy to protect the equity exposure from time to time. The goal is to have excellent equity exposure with built-in disciplined risk management (risk management: as measured and managed by Dr. Lo and his team).
Instead of having to actively manage the equity risk within your portfolios (trading options or some other approach), this may be a good solution for you to gain important long-term focused equity exposure coupled with built-in risk management. Google Dr. Lo. He has an impressive background. There is certainly no guarantee that Dr. Lo and his team get the risk protection correct but I believe such an allocation is an important diversifier within your equity bucket.
Call your CMG advisor representative if you would like to learn more.
Wishing you the very best.
With kind regards,
Steve
Stephen B. Blumenthal
Founder & CEO
CMG Capital Management Group, Inc.
Philadelphia – King of Prussia, PA
steve@cmgwealth.com
610-989-9090 Phone
For hedging, I favor a collared option approach (writing out of the money covered calls and buying out of the money put options) as a relatively inexpensive way to risk protect your long-term focused equity portfolio exposure. Also, consider buying deep out of the money put options for risk protection.
Please note the comments at the bottom of this Trade Signals discussing a collared option strategy to hedge equity exposure using investor sentiment extremes is a guide to entry and exit. Go to www.CBOE.com to learn more. Hire an experienced advisor to help you. Never write naked option positions.
Additional information and disclosures: I continue to favor a hedged approach towards long equity positions put in place from time to time tied to Investor Sentiment extremes. The cost of collared option protection (selling out of the money covered calls and buying out of the money puts) is relatively nominal compared to the potential downside market risks. You might also consider spending just 1% per year of your total equity exposure on buying deep out of the money put options. The purpose of Trade Signals is to begin a dialog around a disciplined risk management approach on core equity portfolio exposure.
33/33/34 – My broader view is outlined in a piece called The Portfolio Construction Game Plan for 2013. And subsequent posts at www.cmgwealth.com.
Modern Portfolio Theory is alive and well. The problem is that most portfolios do not include a broad enough set of important risk diversifiers and far too many individual investors chase into and out of the stock and bond market.
60/40 is not diversified in a low yield, low dividend, relatively high PE valuation world, yet those asset categories are important within the construct of a broadly diversified investment portfolio and the risks can be inexpensively hedged from time to time.
To me, a balanced portfolio today is comprised of 33% Equity (hedged from time to time), 33% Fixed Income (tactically managed) and 34% Tactical-Trading-Alternatives. Of course, you may allocate differently based on your risk level, age, needs, time horizon, etc.
Trade Signals was created with the intention of providing a disciplined process to hedge the long-term equity portion of a well diversified portfolio. You will be right from time to time and look like a genius in those moments and, frankly, you will also be wrong from time to time and look less than spectacular. I am far less concerned about getting a short-term directional call correct. I am more concerned about making money. For me, it is about inexpensive risk management in a high risk world. The cost of protection is nominal if executed correctly.
Investor sentiment indicators have helped me over the years and I hope that the statistical math behind investor sentiment extremes (human behavior) can help enhance the risk management of the equity portion of your portfolio(s) as well.
Overview: A disciplined equity hedge – risk management approach
Several times each year investor emotion reaches levels of Excessive Optimism and several times each year emotions reach levels of Extreme Pessimism. A strategy idea I favor is a disciplined risk management equity (hedge) approach as it relates to the long-term equity portion of a portfolio. Initiate hedges when investor sentiment reaches Excessive Optimism and remove hedges at periods of Extreme Pessimism.
A collared option strategy which involves writing covered out of the money calls and at the same time buying out of the money puts is something to consider. It is a relatively inexpensive hedge approach and allows your client to stay on plan with their long-term equity exposure. The game plan is to implement the hedge just a few times each year tied to sentiment extremes. Then remove hedges tied to Extreme Pessimism. Go to www.cboe.com and search for “collared option strategy” to learn more. I favor selling 5% out of the money calls and buying 5% out of the money puts with maturities several months out. It is important to manage to your risk tolerances/investment objectives but at most budget spending a small percentage of your equity exposure each year.
Given the overbought extremely optimistic nature of the market today, I believe spending a small amount of money to protect that long exposure is prudent.
Please note that this is absolutely not a recommendation to buy or sell any security. For discussion purposes only.
A note on active hedging
Within the long-term secular bear environment I believe we are in, I favor hedging the long-term equity portfolio exposure tied to periods of Extreme Optimism and removing those hedges tied to periods of Extreme Pessimism. As you can see in the above charts, there are just a few times each year that the market moves into “Extreme”. I like put options and covered calls against long equity exposure. Never sell “naked” put or call options. Another idea is to budget a percentage of your long equity exposure to actively put on and take off exposure to a leveraged inverse index based ETF.
I believe that we are in a period of time which favors actively hedging long equity exposure. I like putting hedges on when investors are extremely optimistic and removing hedges when investors are extremely pessimistic. The focus on the long equity portion of your portfolio is to enhance return, reduce risk and preserve capital. Go to www.cboe.com to learn more about options. All investments involve risk.
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Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk. Therefore, it should not be assumed that future performance of any specific investment or investment strategy (including the investments and/or investment strategies recommended and/or undertaken by CMG Capital Management Group, Inc (or any of its related entities-together “CMG”) will be profitable, equal any historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. No portion of the content should be construed as an offer or solicitation for the purchase or sale of any security. References to specific securities, investment programs or funds are for illustrative purposes only and are not intended to be, and should not be interpreted as recommendations to purchase or sell such securities.
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