| Model Portfolios: | December | Y-T-D | 12 Mos. | 6 Years | 9 Years |
| Performance Xtender | -0.8 % | 4.9 % | 4.9 % | 130.6 % | 422.3 % |
| Max Xtender | -0.9 % | -3.0 % | -3.0 % | 207.2 % |
1086.8 % |
| Compared to Traditional Strategy: | |||||
|---|---|---|---|---|---|
| Balanced Portfolio (60% stocks 40% bonds) | - % | 0.8 % | 0.8 % | 35.6 % | 45.1 % |
Dear Subscriber,
This issue of the newsletter includes the following:
Monthly Tracking Report: Get an update on the current performance of our Model Portfolios compared with a traditionally balanced buy and hold portfolio consisting of 60% stock funds and 40% bond funds.
Performance Analysis: See a comparison of the Model Portfolios' performance in Bull Market and Bear Market cycles.
Market Commentary: This month we discuss the increasing potential of a new bear market in stocks.
Model Portfolio Allocations: Check the most current portfolio allocations for our Model Portfolios. (Note that allocation changes are announced by email in a separate Trade Alert.)
Performance Analysis
People like to say that "a picture is worth a thousand words." Here we offer two pictures to demonstrate the performance of our model portfolios in two distinctly different market environments:
- Bull Market performance since October of 2002
- Bear Market performance from March 2000 to October 2002
Both model portfolios are compared to a traditional "balanced" portfolio allocation of 60% stock funds and 40% bond funds.
Bull Market
Performance Over the Bull Market Cycle:
Both model portfolios have performed as expected over the period. The Performance Xtender has generated a significant increase in gains compared to a Traditional Balanced Portfolio. And the Max Xtender used leverage to generate almost 3 times the performance, although at the expense of significant volatility.
Bear Market
Performance During the Most Recent Bear Market Cycle:
Both model portfolios delivered a substantial increase in value during the Bear Market of 2000 through 2002. By contrast, a "buy and hold" investor ... holding an index fund representing the S&P 500 index ... would have lost about 45% during the 2 1/2 year bear market. An investor with a "traditional balanced portfolio" would have avoided huge losses during the period but still would have suffered a negative return.
The more significant benefit of following these model portfolios can be seen in the longer term ... over periods that are long enough to include two or more market cycles. A 9-year look back period is long enough to include both of the two most recent market cycles. Over this period of time, the cumulative return of the Performance Xtender (based upon a combination of live returns and "backtested" returns from computer simulation) was 422% ... about 9 times the "traditional portfolio" which returned a cumulative gain of only 45% in 9 years. The Max Xtender, which uses leverage aggressively to accentuate gains in both up and down markets, gained about 24 times as much as the traditional portfolio with a cumulative 89-year return of 1,086%.
- The simple reason behind the models' huge gains over a traditional portfolio is their ability to dynamically shift investment allocations to avoid huge losses and even make gains during bear market cycles. While a traditional portfolio will lose significant value during a bear market, the model portfolios can make money and are able to compound profits from the bear market period on top of profits earned during a bull market. The cumulative benefit of such compounding becomes huge over time after one or more bear market cycles.
While our model portfolios can be more volatile than a traditional portfolio in the short-run, they are much less volatile in the long run because they can avoid the very deep losses suffered by traditional buy-and-hold strategies from which an investor can take years to recover.
Market Commentary
On the Verge of a 'Bear'?
Executive Summary: Our quantitatively-based portfolio models continue to hold lower stock market allocations as part of a defensive posture required by a "Neutral" market reading. A "Neutral" reading means there is a significantly increased likelihood of a serious drop in stock market valuations. In spite of the recent bounce in US stock market averages, our statistics measuring the underlying health of the market continue to show broad deterioration, suggesting that there is significant and rising risk to the primary bull trend.
[Every month we provide a commentary on the market which is based upon a basic charting and technical analysis approach. You will not find us often discussing the types of "fundamental" factors that most market analysts use to make their case. Hopefully, you will find our commentary refreshing and a welcome change of pace from mainstream analysts.]
Since the August newsletter, we have been focused on the potential of the trend of the US stock market to turn bearish. And our model portfolios have remained defensively postured, even as the market moved temporarily to set new highs in mid-October. The models remained defensive because of serious deterioration in the statistics they follow that gauge the underlying "supply/demand" health of the stock market.
And the models were right. After setting new highs October 10th, the market immediately rolled over and dropped into a swift 10% decline.
The market made another rally attempt in early December and attempted to regain the 200-day Moving Average (in dark blue on the chart) which is a technical indicator followed extensively by money managers to help define whether the market is in a bull or bear market. But the market's attempt failed as buyers were swamped by sellers of stock.
Bear Market Potential Increasing
Since the stock market broke from its highs in July, the potential for a new bear market has steadily increased. To begin with, we have seen all of the tell-tale signs of deterioration in the market's statistics that measure the relationship between the supply and demand for stocks. We have seen this same type of deterioration before the beginning of every bear market episode in the past several decades.
And the market has now violated the important long-term technical support provided by the 200-day moving average (in dark blue). The market broke decisively below the moving average in November; and then it failed in its attempt to regain the moving average in early December.
This particular pattern ... the market breaking below the 200-day moving average and then failing on a retest of the moving average ... is exactly what signaled the beginning of the bear market cycle that began in the year 2000. As we said in our analysis of this pattern in the August 2007 newsletter: "After the market broke down through the indicator in 2000, it made one attempt to rally back above the line which it had done successfully many times before during the entire progress of the bull market. In technical jargon, it attempted a "retest" of the support level. But it failed as you can see and the index rolled over into a 2 1/2 year bear market."
A "Wedge-Shaped" Congestion Pattern
The market's violation of the 200-day moving average is just the first sign that investor demand for stocks may be transitioning from a bull market psychology to a bear market mindset. There are two additional technical signals in particular that would "confirm" the transformation to a "bear" if they were to occur.
The first additional signal of a developing bear market would occur if the market were to break lower through the rising red trend line on the chart. As you can see from the two red lines, the market has traced out a "wedge-shaped" congestion pattern over the past five months which needs to be "resolved" by a breakout in either an up or down direction. So, for example, if the market could rally from here and break out of the wedge-shaped pattern to the upside, it would signal that the bulls have returned in force and that another leg up in the bull market could be expected. However, if the wedge-shaped triangle pattern were to be resolved by a break to the downside, then it would signal a resumption of the downtrend.
So keep an eye on that wedge-shaped pattern in the market.
The Long Term Uptrend Line is Still Technically Intact
The second additional signal of a developing bear market would occur if the market violated the rising Long Term Uptrend Line (the green line on the chart). This rising trend line has supported the bull market cycle since it began in early 2003. The line currently comes in and provides support right at about 1370 on the S&P 500 Index. At 1370, the line converges with another support level at 1370 (in light blue on the chart) which held and turned back two previous declines in the market ... in March and August of 2007.
Due to the convergence of these two important souces of long-term technical support, the 1370 level on the S&P 500 Index appears to be a "make-or-break" level.
Since this level has not yet been violated, the market is still technically defined as being in a "bull market" as the market remains above its long-term trendline. But a decisive breakdown below 1370 would confirm a reversal of market psychology and confirm the arrival of a new bear market that ... based on recent historical examples ... could be expected to wipe out 25% to 50% of the value of the S&P 500.
Recommended Model Portfolio Allocations
Model Portfolio: 'Performance Xtender'
(A model portfolio that invests selectively in stock market index funds, plus certain market sectors such as Energy, Gold and Real Estate, and in an Inverse Fund ("Bear Fund"), depending on current market trends for each type of investment. The allocation mix is designed to beat the market significantly during both bull and bear markets with only a limited risk of volatility.)
... Portfolio as of December 31, 2007 ...
| Current Recommended Portfolio Allocations | Rydex Funds | ProFunds | ETFs | |||
|---|---|---|---|---|---|---|
| Allocation | Ticker | Allocation | Ticker | Allocation | Ticker | |
| International Stocks | 40% | RYEUX | 40% | UEPIX | 40% | IEV |
| Energy Sector Fund | 10% | RYEIX | 10% | ENPIX | 10% | XLE |
| Precious Metals Fund | 10% | RYPMX | 10% | PMPIX | 10% | GDX |
| Corporate Bonds, or Money Market |
40% Money Market Fund . | |||||
Model Portfolio: 'Max Xtender'
(A model portfolio that invests selectively in stock market index funds and in an Inverse Fund ("Bear Fund"), depending on current market trends for each type of investment. During strong market trends ... either bullish or bearish ... the model uses up to 2-to-1 leverage to magnify returns. The allocation mix is designed to beat the market substantially during both bull and bear markets but with a relatively high risk of volatility.)
... Portfolio as of December 31, 2007 ...
| Current Recommended Portfolio Allocations | Rydex Funds | ProFunds | ETFs | |||
|---|---|---|---|---|---|---|
| Allocation | Ticker | Allocation | Ticker | Allocation | Ticker | |
| International Stocks | 50% | RYEUX | 50% | UEPIX | 50% | IEV |
| OTC Stock Fund | 50% | RYOCX | 50% | OTPIX | 50% | QQQQ |
| Corporate Bonds, or Money Market |
. | |||||
