Taking some chips off the table
Negative momentum, as measured by the Ned Davis Research CMG US Large Cap Long/Flat Index’s (NDRCMGLF Index, or the Index) model, has triggered a trade signal to incrementally step out of the market to an 80% equity allocation. The model has allocated to 100% equity since its last signal change at the end of December, having avoided changes during February’s volatility, which led to a 10% drawdown and rebound.
However, more recent price action has indicated a greater breakdown in overall market breadth; i.e., market health, as the model responded to negative trends reinforced since February, led mainly by the technology, financial, and health care sectors.1
Since February, reactions to the escalating trade tariffs and an embattled technology sector have induced a more pronounced risk-off market sentiment. Despite what has been considered a strong global fundamental environment, accompanied by positively received tax reform and moderated inflationary concern, the SP 500® Index was down 2.1% year to date, as of 4/6/2018.
SP 500 Index year-to-date cumulative return (%)
1/1/2018 – 4/6/2018
Source: FactSet. Data as of April 6 2018. Past performance is no guarantee of future performance. Index performance is not indicative of fund performance. Indices are not securities in which investments can be made. See index descriptions and additional disclosures below.
The NDRCMGLF Index rebalanced from 100% to 80% equity on April 10, as the model’s composite score is currently under 70 and its directional trend went negative in response to the more recent broader market breakdown. Should the model’s composite score turn up and trend positive, it will reallocate to 100% equity. However, if the negative trend persists, pushing the model’s composite score below 60, for example, it will signal greater market breakdown and a 40% equity allocation, as illustrated in the table below.
Allocations based on both the composite score and its directional trend
*Note: The composite score zone must be surpassed for the equity allocation change to be in effect. As an example, assuming the composite direction is down; i.e., a deteriorating/declining trend, if the score is 53 and it drops to 50, then the allocation is still 40%. The score must drop below 50 to move the allocation to 0%. Assuming the composite direction is up; i.e., an improving trend, it will always allocate 100% to the SP 500, regardless of the current composite score. For illustrative purposes only.
How the NDRCMG model works
The NDRCMGLF Index’s model measures the overall health of the market through an evaluation of market breadth. In this case, market breadth refers to advancing and declining price trends and countertrends at the GICS®2 industry level. The model computes a robust moving average score daily3 to capture multi-industry and multi-term trend and countertrend measures to gauge overall market health. It then calculates the score’s directional trend to see if it is improving or declining. Collectively, the score and its directional trend determine the equity allocation of either 100%, 80%, 40%, or 0% − in which case it would be allocated to cash.4
Why market breadth is ideal for guided equity allocation
There are a few key reasons why measuring market breadth provides sound trend analysis for guiding equity allocations. The Index’s co-developer, Steve Blumenthal of CMG Capital Management Group, Inc., wrote a whitepaper, Risk Management for all Markets, detailing this tactical approach.
Mainly, market breadth has typically weakened before top line prices have at major market peaks and breadth thrusts5 often occur just before major bull market recoveries. Furthermore, the SP 500® is considered a very efficient market, meaning the underlying securities’ fundamentals and macro environmental factors tend to be priced in almost immediately.
Investors can access this equity risk-managed approach through VanEck Vectors® NDR CMG Long/Flat Allocation ETF (NYSEARCA:LFEQ), which was developed to offer guided equity allocation by trading into and out of the market automatically for its investors. This strategy seeks to minimize losses from potential market drawdowns typical of traditional buy-and-hold or static strategies.
Important Definitions and Disclosures
1Source of all data unless otherwise noted: FactSet and Ned Davis Research. Data as of 4/6/2018.
2Global Industry Classification Standard (GICS®) is a widely accepted equity securities classification system developed by Morgan Stanley Capital International (MSCI) and Standard Poor’s.
3While the NDRCMGLF Index’s model computes a daily score, it does not mean that the allocations will change on a daily basis. The model is measuring multiple trends and countertrends over multiple terms, across multiple industries to assess market health and meaningful market trends. The model has produced one trade year to date.
4When allocated to a percentage of equities (long), that portion of the Ned Davis Research CMG US Large Cap Long/Flat Index will comprise the SP 500® Index. When allocated to a percentage of cash (flat), that portion of the Index will be allocated to the Solactive 13-week U.S. T-bill Index.
5Source: Ned Davis Research. Breadth thrust is a technical indicator used to ascertain market momentum and signals the start of a potential new bull market after what may have been an oversold market.
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Article source: https://seekingalpha.com/article/4162291-ndrcmgs-market-pulse-de-risking-response-market-health