| Model Portfolios: | January | Y-T-D | 12 Mos. | 4 Years | 8 Years |
| Performance Xtender | 0.2 % | 0.2 % | 0.7 % | 82.9 % | 346.2 % |
| Max Xtender | -1.5 % | -1.5 % | 13.3 % | 167.2 % |
789.1 % |
| Compared to Traditional Strategy: | |||||
|---|---|---|---|---|---|
| Buy and Hold (S&P 500 Index Fund) | 1.4 % | 1.4 % | 12.3 % | 74.9 % | 25.8 % |
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 traditional "buy and hold" strategy as measured by the S&P 500 Index.
Performance Analysis: Read a detailed explanation of Model Portfolio performance covering the different times frames presented in the Monthly Tracking Report.
Market Commentary: This month we focus on the positive market action during January and recent breakouts in the S&P 500 and Russell 2000 indexes.
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
Market Trend Remains Up
The S&P 500 index continued in rally mode, advancing 1.4% for the first month of the new year. The two Model Portfolios both underperformed for the month because of positions taken in funds that track the Nasdaq Composite. The Nasdaq severely underperformed the S&P 500 Index during the last 2 weeks of January after staging a failed breakout.
Four Year Performance Graph (As of Jan. 31, 2007)
Results in the Performance Xtender model : This model is our most sophisticated strategy for growth investors who have a moderate risk tolerance, having experienced a maximum peak-to-valley temporary reduction in value ("maximum drawdown") of only -8.5% in the past 8 years. [Editor's Note: compare this to a -45.1% maximum loss experienced by a "buy and hold" investor in an S&P 500 index fund].
This model continued a pattern of underperformance in Janaury after putting in a relatively disappointing 2006 which had been impacted by two out-sized losses taken in sector fund investments. Janaury was negatively impacted by the model's move into an OTC Fund that tracks the Nasdaq Composite. The model triggered the purchase on Jan. 13th after the Nasdaq exhibited a burst of relative strength in late December and early Janaury. But then the Nasdaq dropped about 3% into the end of the month while the S&P 500 Index continued to rise. As of the end of the month, this model has now switched into Mid Cap stocks.
It has been difficult, in fact, to lock onto any sustained sector leadership within the market for three months now. Sectors see a burst of strength and then quickly fade. The volatility in sector strength underneath the surface of the broad market has challenged the trend-following logic of the model which is designed to lock onto and benefit from sustained sector leadership.
Over the longer term, this model has excelled in providing the strongest ratio of return relative to risk. Looking at the past 4 years which encompassed most of the recent bull market, the model accumulated a total return of 82.9% compared with a 74.9% gain for the market. Looking at a longer, 8-year period ... that incorporated a severe bear market ... the model gained a total return of 346.2% compared with a Buy and Hold investor who would have earned a total return of only 25.8% holding an index fund tracking the S&P 500. The reason the difference is so substantial is because of the model's ability to avoid losses ... and even make money ... during the bear market periods while beating the market handily during the bull markets.
- Performance Xtender 8-year Compound Annualized Return: 20.5% per year
Results in the Max Xtender model : This is our riskiest strategy because it uses leverage to magnify returns during both strong bull markets and bear markets. Yet it has experienced a maximum peak-to-valley temporary reduction in value ("maximum drawdown") of only -31.5% in the past 8 years. [Editor's Note: compare this to a -45.1% maximum loss experienced by a "buy and hold" investor in an S&P 500 index fund]. The model lost 1.5% in Janaury because of the underperformance in late-Janaury of the Nasdaq Composite compared with the S&P 500 Index. Over the previous 12-month period, the model beat the market 13.3% vs. 12.3%. Over the past four-year bull market period, the model produced a cumulative total return of 167.2%. Looking at the past 8 years, this model generated a cumulative total return of 789.1% compared with the market which did little better than break-even at a total return of only 25.8%. The reason the difference is so substantial is because of the model's ability to avoid losses ... and even make money ... during the bear market periods while substantially out-performing the market during bull market periods.
- Max Xtender 8-year Compound Annualized Return: 31.4% per year
Market Commentary
Bullish Market Action in January
Executive Summary: Our models returned to fully bullish postures after the market seemingly recovered from a shallow correction at month end and our technical indicators showed substantial improvement. The question for the market now is whether it can hold onto these new highs, consolidate and continue to move ahead. If the market reverses quickly here and rolls over, a deeper correction should then be expected.
Trading action in January was very bullish.
The stock market's momentum had slowed in November/December and the rally was quite "overextended" and due for a correction. The S&P 500 index finally broke the steep uptrend line (in green on the chart) in late December that had supported the rally since August. The trend break was strong indication that some kind of correction would likely follow. What transpired in Janaury was a very shallow, sideways correction and a new breakout to the upside at the end of the month. The correction formed a bullish wedge-shaped pattern in the S&P 500 that is usually followed by additional strong action on the upside.
The Russell 2000 small cap index traced out a similar pattern in Janaury. However, in this case we saw a more classic sideways correction pattern. The Russell 2000 broke out to the upside on the same day as the S&P 500.
The one U.S. stock market index that seriously diverged from this pattern was the Nasdaq Composite. After staging a technical breakout in early Janaury, the Nasdaq quickly rolled over into a continuation of its correction. It has yet to recover to challenge its recent highs.
But overall our assessment of the market is more bullish than a month ago. As most of the market indexes traced out corrective patterns that suggest underlying strength, we have also seen significant improvement in most of the technical indicators we use to gauge the underlying supply/demand health of the market.
From an historical perspective, the recovery in the strength of these statistical indicators after more than a year of serious deterioration is very unusual. We would have ... and did ... expect the market to have rolled over into a bear market or a much more serious correction by now. However, the correction last summer amounted to only -8% on the S&P 500. At this point the S&P 500 is closing in on its historic highs set back in 2000 and we would not be surprised to see this index make the final run to challenge these heights soon.
The Models Stick With the Trend: It is interesting to note that as our market commentary had a decidedly bearish tone over the previous year, our Model Portfolios maintained a largely bullish posture throughout ... and we captured the market's appreciation as a result. It illustrates one of the core benefits of following our Model Portfolios -- their ability to follow and stick with the primary underlying trend of the market.
While our models are quantitatively tracking and analyzing a battery of market risk factors, their allocation logic is designed to stick with the trend. Only in extreme instances of perceived high statistical risk do our models trigger a move against the underlying trend.
From your own perspective as an investor, following models such as these can help you reconcile the constantly conflicting views of different market gurus, economists and advisors. The models provide an objective and disciplined method of investing in the face of ongoing uncertainty. The parameters and action triggers built into our models' mechanical logic is based upon statistically-relevant patterns that have proven a high degree of reliability over decades of market history. In a nutshell, the models provide the investor with an "edge" with which to face off against market uncertainty. The timing of the models is not always perfect. However, the mechanical logic recovers quickly from mistakes, cutting losses short ... and letting profits run.
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 Feb. 4, 2007 ...
| Current Recommended Portfolio Allocations | Rydex Funds | ProFunds | ETFs | |||
|---|---|---|---|---|---|---|
| Allocation | Ticker | Allocation | Ticker | Allocation | Ticker | |
| Mid Cap Stock Fund | 100% | RYAVX | 100% | MDPIX | 100% | MDY |
| Corporate Bonds, or Money Market |
none. | |||||
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 Feb. 4, 2007 ...
| Current Recommended Portfolio Allocations | Rydex Funds | ProFunds | ETFs | |||
|---|---|---|---|---|---|---|
| Allocation | Ticker | Allocation | Ticker | Allocation | Ticker | |
| Lev'd Mid Cap Fund | 100% | RYTNX | 100% | UMPIX | 200% | MDY |
| Corporate Bonds, or Money Market |
ETF Investors: Note that the MDY position is margined 2 to 1. | |||||
