Perhaps you remember the scene from “It’s a Wonderful Life.” You know, the one where George Bailey realizes that he just wants to get back to what is near and dear to him. I feel like that sometimes – usually when I dare to pick up the newspaper (oops, there I go dating myself again), er, I mean when I dare to surf the news on the Web. More often than not I end up regretting it, because – let’s face it - the news is all universally bad. With the economy allegedly about to tank because of the “mortgage crisis,” with the financial markets supposedly threatening to come unglued because of [your fear here], with the U.S. dollar weakening across the globe, with nuclear war drawing closer by the day, and with global warming purportedly threatening the human race (and more importantly, polar bears) with extinction in any event, it just seems like a good time to go all the way back to the “core” (or to curl up in a ball in the corner, but I digress).
So “Get me back, Clarence.” To one of my core strategies, that is. If you have read my work in the past (Okay, “work” might be a bit strong), you know that I tend to look at and rely upon seasonal trends much more than a lot of other people. I make no apologies for this habit. As a graduate of “The School of Whatever Works,” I try to put my own preconceived notions aside and follow what the market dictates. If you have read my “work” in the past you also know that I have done a lot of analysis sector funds and industry groups. So this week let me revisit an idea I posted several years ago. Let’s start with a leading question:
Q: Is it possible to make three trades a year among market sectors and not only make money but also to handily beat the market?
A: Let’s take a look.
Phase 1: Technology
With the month of November impending, it is a particularly good time to remember that historically, the stock market performs best during the November/December/ January time frame. In recent decades, the pace of advances in technology has greatly accelerated and exerted an amazing influence on our lives. Thus in the long run technology stocks have generally performed well when the overall market has performed well – or is it that the overall market performs well when technology is leading the way? No matter. The first leg of our seasonal sector strategy is to buy and hold technology stocks from the end of October through the end of January. The easiest way to accomplish this is via sector funds:
- Fidelity Select Technology (FSPTX)
- Rydex Technology (RYTIX)
- Profunds (TEPIX)
- Spyders Technology (XLK)
Chart 1 displays the growth of $1,000 invested in Fidelity Select Technology during Nov/Dec/Jan every year since November 1988.
Chart 1 – Growth of $1,000 invested in Fidelity Select Technology (FSPTX) November through January since 10/1988
Phase 2: Energy
Energy stocks tend to perform best during the months when the profitable effects of people trying to keep from freezing to death have their greatest impact. Now most people immediately think of the winter months, say November through February or March. And in fact those are of course the coldest months (if you live someplace warm, trust me on this one). However, it is not until late in or after that time that people really begin to assess the effects of the winter cold on energy companies and are able to get a handle on the actual profitability that occurs as a result. Thus, the second leg of our seasonal sector strategy is to buy and hold energy stocks from the end of January through the end of May. The easiest way to accomplish this is via the following sector funds:
- Fidelity Select Energy (FSENX)
- Rydex Energy (RYEIX)
- Profunds Energy (ENPIX)
- Spyders Energy (XLE)
Chart 2 displays the growth of $1,000 invested in Fidelity Select Energy during Feb/Mar/Apr/May every year since November 1988.
Chart 2 – $1,000 invested in Fidelity Select Energy (FSENX) between February and May every year since 10/1988
Phase 3: Gold Stocks
Gold stocks have had a historical tendency to perform well during the month of September. So the third leg of our seasonal sector strategy is to buy and hold gold stocks during the month of September. The easiest way to do this is to buy the following sector funds:
- Fidelity Select Gold (FSAGX)
- Rydex Precious Metals (RYPMX)
- Profunds Metals (PMPIX)
- Market Vectors Gold Miners (GDX)
Chart 3 displays the growth of $1,000 invested in Fidelity Select Gold only during the month of September every year since November 1988.
Chart 3 – $1,000 invested in Fidelity Select Gold (FSAGX) during September every year since 10/1988
The strategy that I have followed and will present here works like this:
- Buy Fidelity Select Technology at the close on the last trading day of October.
- Sell Fidelity Select Technology at the close on the last trading day of January and buy Fidelity Select Energy.
- Sell Fidelity Select Energy at the close of the last trading day of May and hold cash during June, July and August.
- Buy Fidelity Select Gold at the close on the last trading day of August.
- Sell Fidelity Select Gold at the close on the last trading day of September and hold cash during October.
That’s all there is to it. Table 1 displays the sector held for each calendar month.
Table 1 – Sectors Month-by-Month
Table 2 displays the gain or loss each year for each of the three segments of our seasonal sector strategy. For Technology, the value displayed is the amount gained or lost by Fidelity Select Technology for January of the year shown in the left hand column, plus November and December of the previous year. For Energy, the value displayed is the amount gained or lost by Fidelity Select Energy between January 31st and May 31st of each year. Finally, the value for Gold Stocks is the amount gained or lost by Fidelity Select Gold during the month of September.
# times up
# times down
Table 2 – Annual Gains or Losses for Each Sector segment
So what happens when we put this all together? Table 3 displays the annual results achieved using the strategy outlined above.
Chart 4 displays the growth of $1,000 invested using this system from October 1989 through October 19, 2007.
Chart 4 – Growth of $1,000 from September 1988 through October 19, 2007
The results displayed in Chart 4 are fairly compelling. In sum:
- $1,000 invested in the S&P 500 since October 1988 through 10/19/2007 would have grown to $5,472.
- $1,000 invested as described here since October 1988 through 10/19/2007 would have grown to $117,688.
- To put it another way, while the market gained an impressive +447%, this “system” gain +11,669%. Like I said, fairly compelling.
Still, one must consider the fact that the system suffered a steep 33% decline in equity in just four months at the end of 2000. It is fair to ask just how many people would keep trading a system after it suffered a 33% loss in just four months time. And the answer to that question is fairly critical. Because anybody who had been trading it and who had stopped trading it after taking that big hit would surely be kicking themselves later as the system has subsequently gained about +331% (the S&P 500 is up just under +14% during the same timeframe). Likewise, the system has underperformed the S&P 500 on a calendar year basis 6 times in 19 years. So if you are one of those people who feels compelled to “tweak” things (that’s code for “stop using it”) after your method underperforms the S&P 500 for as much as a quarter, you have to ask yourself if you will actually be able to stick with it. All that being said, it probably helps that its only three stinkin’ trades a year.
To highlight the consistency of this method, let’s consider rolling 12-month rates of return. At the end of each month we will look back 12 months and measure the change in equity over that time. The 12-month change has been positive 91% of the time, with an average gain of 34%.
The good news is that this simple method has performed far better than anyone might realistically expect it to. The real question however, is “what happens from here?” Will the tech stocks keep rallying during the winter months? Will the energy stocks keep advancing in late winter and into spring? And what exactly is the deal with gold stocks and the month of September? Unfortunately, there is no way to answer these questions in advance. We’ll just have to wait and see how things work out.
As always, time will tell.
To search for previous articles written by Jay Kaeppel, please click here.
Staff Writer and Trading Strategist
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