# Boosting the S&P 500 return



## james4beach (Nov 15, 2012)

The S&P 500 already has very strong performance. But I'll put on my greedy investor hat and ask... can I do better?

Obviously, there's leverage. This boosts the return as well as the risk. There's an exotic ETF called SSO which has been around a long time (since 2006). It's leveraged, 2x the S&P 500 on a _daily_ basis, and over longer periods still gets some leverage effect. Being leveraged, it's insanely volatile. During the last market crash, it fell about 90% in value.

At first glance, I'd say you shouldn't hold SSO, and you shouldn't hold the S&P 500 leveraged (on margin) due to the very sharp drawdowns. It's too much risk.

But what if I told you that you can leverage the S&P 500, passively, without increasing risk? We'll have to ignore the inherent risk in SSO for a moment.

Consider *50% SSO + 50% IEF*, a treasury bond fund which acts as a safe haven.
Portfolio analysis at Portfolio Visualizer

Look at what happens now. Going back to SSO inception, the 50/50 mix returns 10.39% with a maximum drawdown of -41.88%.
In comparison, the pure S&P 500 using IVV returns 8.33% with a maximum drawdown of -50.78%

In other words, 50% SSO + 50% IEF produced a significantly higher return but also a milder decline during the market crash! It's a form of volatility harvesting.

If you skip past the crash and start in 2012 (a totally normal year), then the return becomes about the same as the S&P 500, as does the risk. No surprise there.

Over the last year, for example, the SSO/IEF mix returned +20.2% which is significantly higher than pure IVV at +16.6% ... seemingly with no extra risk.

Thoughts? Personally I have trouble holding a derivative-based exotic ETF (SSO) but I find these numbers very interesting.


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## james4beach (Nov 15, 2012)

And maybe the potential flaw in this idea is that IEF is only working out this nicely because interest rates fell significantly during this period. Perhaps in a prolonged period of rising rates, the effect wouldn't be the same.

Plus, SSO is dangerous in other ways. Being based on derivatives, it could potentially blow up and go to $0.


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## Topo (Aug 31, 2019)

On the bogleheads forum there is a thread by HEDGEFUNDIE discussing a similar strategy (I believe it uses UPRO = 3X S&P with a leveraged long treasury ETF). The backtest results seem good, but how it would perform in the future is to be seen. It is sort of like leveraging a balanced fund.

I too am a bit leery about using leveraged instruments. There is always a possibility of total failure, a la XIV. If I were to implement such a strategy, my preferred method would be to use futures on the S&P and long bonds. I have been tempted to use the e-minis with long bond and gold futures, which along with the cash in the account, would resemble a leveraged permanent portfolio. The PP seems to blend the best of returns and risk with very small draw downs. I am not sure futures can be traded in an RRSP or TFSA, so taxes will be a burden. 

Another method would be using deep in the money calls on SPX or SPY, similar to Life cycle investing. This would be my second choice.


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## andrewf (Mar 1, 2010)

One product that looks interesting is CAPE, an ETN that tracks an index that selects/weights S&P500 sectors by cyclically adjusted valuation. It has generated decent alpha, pretty consistently. Of course, I don't think you would be comfortable with an ETN, james.


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## james4beach (Nov 15, 2012)

Yeah there's no way I would use an ETN... counterparty risk to the issuer there.

Topo very interesting notes. Right, it's effectively leveraging a balanced fund -- which hedge funds actually do. This is in fact the core concept. You first design a highly diversified (as close to perfect) portfolio with the best risk/reward tradeoff. Then you leverage that up, to your desired level of risk.

The abstract idea is sound and you really can get the same returns as "pure stock market" with less risk than the stock market. The problem is implementing leverage.

The XIV blowup was spectacular. Maybe like you say, futures or some other common derivative are the better way to do this. I have looked at many ways over the years but was never satisfied with the math. I just haven't convinced myself that it's worth doing. The leveraged ETFs are the easiest way, like HEDGEFUNDIE wrote about, but I'm not sure I like those things. 

Your idea of leveraging the permanent portfolio is exactly what Risk Parity is, so you might want to look up Bridgewater's notes on that technique. I think it's promising, and I've considered it, but just wasn't comfortable with the implementation of leverage. In the end I decided to go with unleveraged PP / Risk Parity instead, which is actually what Dalio recommends to people himself.

Google Myths and facts about risk parity to see a nice description of the leveraged PP (ideal portfolio) concept.


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## james4beach (Nov 15, 2012)

By the way, if you want to experiment with leveraging the PP, you might want to look into ways to leverage the asset classes by using higher beta versions of each asset.

For example, small caps instead of the S&P 500. And for bonds, go farther on the yield curve.

Start with the regular PP which let's say is
25% S&P 500
25% long treasury bond [22y]
25% gold
25% cash

First transformation, collapse the fixed income portion. You end up with, equivalent:
25% S&P 500
50% the 10 year treasury bond
25% gold

In the link below, this is Portfolio 1; the regular PP. Now you can amp up the stocks and bonds:

25% small caps (implied leverage)
50% long treasury bond (implied leverage)
25% gold

So now you've leveraged the PP without resorting to exotic instruments! In the 41 year backtest, CAGR has increased by 0.93% with very little increase in risk.

Link to portfolio visualizer with these examples

In my view, this is the most plausible avenue. No derivatives, no borrowing... just higher beta alternatives. The "leverage" effect is rather mild, though.

But still, I think that implied leverage helps. The modified portfolio is showing about 1% CAGR improvement in more recent timeframes. In fact, if you shift it just a wee bit towards stocks and less gold, you can actually match traditional 60/40 performance... with less risk of course.

Kind of funny, isn't it? That with just a little bit of effort, one can make a totally passive portfolio that performs on par with 60/40, but with far less downside (less drawdown). And yet, very few people bother... and investment professionals almost universally balk at the idea.


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## Topo (Aug 31, 2019)

One thing that holds me back from using leverage is that I see my unleveraged portfolio returns as adequate for my retirement goals. I don't want to risk the money I need, to get extra returns that I don't need (although I would certainly be very happy to eat a free lunch if there is one out there). I could do a similar strategy with a small portion of my portfolio, but then the extra return may not make it worthwhile. For example 5% outperformance on 10% of one's portfolio adds 50 bps to the total return.


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## james4beach (Nov 15, 2012)

I agree. I also see my current portfolio's returns as adequate, and I don't think it's a good idea to take the additional risks of leverage.

Topo, not sure if you're aware that my asset allocation is very similar to the permanent portfolio. It's 30% stocks, 50% high grade bonds, 20% gold... basically the same as PP (see my previous post above) but with 5% shifted from gold to stocks.

US long-term backtest shows 5% real return and a worst year of -5% which is the same return as a 50/50 balanced fund but with more consistent annual returns

More relevant, performance in CAD of the portfolio has been 4.6% real return

I'm happy with this real return. Beating inflation by 4.6% with minimal volatility is a "good deal" in my eyes. Yes, it's not as high as 60/40 performance but that's not a big deal either. For me, there is value in maintaining good performance during stock slumps (like 2001-2011) which my allocation and PP can do, but 60/40 does not.

I don't feel compelled to complicate the situation by using leverage or anything exotic.


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## Rusty O'Toole (Feb 1, 2012)

I've published this before but here goes again. If you want to supercharge your returns and cut your risk investing in the S&P buy an ETF that mimics the S&P and do the following.

Look at a weekly chart of the S&P with a 10 week and 50 week moving average

When the 10 crosses over the 50, buy

When the 10 crosses under the 50, sell

If you did this you would only have made 4 or 5 trades in the last 20 years but you would have increased your returns from 8 or 9% to over 12% and you would have missed the big drawdowns in 2001 and 2008.


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## james4beach (Nov 15, 2012)

Thanks Rusty. I agree it looks nice on S&P 500 but I tried it on the TSX and the results are uncertain. It frequently gets shaken out. I agree it does buy in near the start of each bull market, which is awesome, but it also gets shaken out along the way during market corrections. I didn't calculate the net result... perhaps it does better than buy & hold on TSX.

That would be worth calculating. If it works on both the S&P 500 and TSX, you'd know it's not just a fluke or data fitting exercise unique to the S&P 500


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## Topo (Aug 31, 2019)

james4beach said:


> I agree. I also see my current portfolio's returns as adequate, and I don't think it's a good idea to take the additional risks of leverage.
> 
> Topo, not sure if you're aware that my asset allocation is very similar to the permanent portfolio. It's 30% stocks, 50% high grade bonds, 20% gold... basically the same as PP (see my previous post above) but with 5% shifted from gold to stocks.
> 
> ...


I am thinking about adding an allocation of gold to my portfolio. I'm looking for a better entry point, maybe in the 1300 range. It reacts well to inflation and deflation, and with interest rates so low, there is a lower hurdle to overcome.


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## Rusty O'Toole (Feb 1, 2012)

james4beach said:


> Thanks Rusty. I agree it looks nice on S&P 500 but I tried it on the TSX and the results are uncertain. It frequently gets shaken out. I agree it does buy in near the start of each bull market, which is awesome, but it also gets shaken out along the way during market corrections. I didn't calculate the net result... perhaps it does better than buy & hold on TSX.
> 
> That would be worth calculating. If it works on both the S&P 500 and TSX, you'd know it's not just a fluke or data fitting exercise unique to the S&P 500


You would have gotten shaken out of the S&P a couple of times too. But when you can get back in for a $7 commission it seems like an acceptable risk to avoid a major drawdown. After all you pay a fire insurance premium on your house and don't get all bummed out when it doesn't burn down and the premium is wasted.

I went over the chart in my favorite trading platform and calculated as accurately as possible what would have happened had I followed the rules, that is where I got the 8% vs 12% figures.

The big advantage is missing the big drawdowns. It's not a day trading strategy. Moving averages have been used this way at least since the fifties, Jack Dreyfuss talked of using a weekly moving average as one of his main trading tools. But it has been left behind by more recent developments. That doesn't mean it still doesn't work. To me one of the big advantages is, it lets you stop worrying about a market drop.


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## Topo (Aug 31, 2019)

Rusty O'Toole said:


> You would have gotten shaken out of the S&P a couple of times too. But when you can get back in for a $7 commission it seems like an acceptable risk to avoid a major drawdown. After all you pay a fire insurance premium on your house and don't get all bummed out when it doesn't burn down and the premium is wasted.
> 
> I went over the chart in my favorite trading platform and calculated as accurately as possible what would have happened had I followed the rules, that is where I got the 8% vs 12% figures.
> 
> The big advantage is missing the big drawdowns. It's not a day trading strategy. Moving averages have been used this way at least since the fifties, Jack Dreyfuss talked of using a weekly moving average as one of his main trading tools. But it has been left behind by more recent developments. That doesn't mean it still doesn't work. To me one of the big advantages is, it lets you stop worrying about a market drop.


I find the concept interesting. I always think about the possibility of a drawn-out bear market, where there may be a lot of volatility, but the market basically goes nowhere (sort of like the 70s or the aughts). One way to mitigate the effects would be using other asset classes or subclasses (REITs, small cap value, gold, etc). Bonds could be better than equities in these kind of scenarios (depending on inflation), but given that interest rates will be low, one may have to substantially eat into principal.

But what if one could allocate portion of their portfolio to a strategy that would harvest the volatility with less risk (or different risk) than buy-and-hold? Maybe a moving average or trend following strategy.


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## cainvest (May 1, 2013)

Topo said:


> But what if one could allocate portion of their portfolio to a strategy that would harvest the volatility with less risk (or different risk) than buy-and-hold? Maybe a moving average or trend following strategy.


There is a whole paper written on this a while back called "Quantitative Approach to Tactical Asset Allocation" by Faber.
A search here should bring up previous discussions on it.


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## james4beach (Nov 15, 2012)

I have my own proprietary technical approach to avoiding those drawdowns, which has similarities to what Rusty posted. It's been working well -- I actually avoided the late 2018 stock declines. And now the strategy is back up to all time highs, mirroring the broad index. I use this for part of my equity within my asset allocation plan. Kind of like trading around the basic asset allocation of 30% equities, so I'm not always at 30%. If my technical method gets me out, I might drop to more like 25%.

Here's my take on it: the technical methods can work. The difficulty is in implementation, and sticking with the method (in other words it's a behavioural challenge, not technical). How many people can consistently follow a technical approach involving constant monitoring and updates over 10 years? 30 years? What happens when you have children who are sick, too much work to do, other priorities like health that take precedence. And what happens when you -- inevitably -- underperform the index for a few years. Do you decide your strategy is broken, and abandon it?

I think these are the real reasons that passive asset allocation and indexing win in the long term. Here's a great article on this topic: Why Isn’t Everyone Beating the Market?


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## james4beach (Nov 15, 2012)

Topo said:


> I am thinking about adding an allocation of gold to my portfolio. *I'm looking for a better entry point*, maybe in the 1300 range. It reacts well to inflation and deflation, and with interest rates so low, there is a lower hurdle to overcome.


Remember though, reacting the inflation is one angle. Another angle of gold (perhaps just as important) is the low correlation with both stocks & bonds. This lets you create a better diversified portfolio, smoothing over volatility. That has value, whether or not you're buying gold at a low level.

This creates an interesting situation where two things are simultaneously true:

(1) all assets (stocks, bonds, gold) are quite high on a multi-year scale. It's hard to buy any of them and feel good about the entry price

(2) a diversified, multi-asset portfolio is generally safer and less volatile. It will probably grow in a more reliable way, no matter the entry point


Topo, I would appreciate your thoughts on this as I struggle with this on a daily basis! I am under-invested currently, have too much cash. The ideal theory of (2) says that I shouldn't overthink it, and just invest everything. But then I keep coming up against (1), which is what you also mentioned in your post.


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## Topo (Aug 31, 2019)

james4beach said:


> Remember though, reacting the inflation is one angle. Another angle of gold (perhaps just as important) is the low correlation with both stocks & bonds. This lets you create a better diversified portfolio, smoothing over volatility. That has value, whether or not you're buying gold at a low level.
> 
> This creates an interesting situation where two things are simultaneously true:
> 
> ...


I completely agree with you that a holistic approach to portfolio construction is the best approach. This would lead me to suggest that the decision should not be overthought and buy into your asset allocation as you have originally contemplated.

I guess when it comes to gold, I am putting my trader hat on more than my investor hat. It goes back to how I originally constructed my portfolio long time ago, starting with all equities and then gradually adding bonds recently. So I don't feel gold will be necessary for my portfolio, but it would be a good addition at the right price. I won't mind missing a 20% upswing, but would prefer not to take a 20% hair cut in the short term.


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## Topo (Aug 31, 2019)

james4beach said:


> I have my own proprietary technical approach to avoiding those drawdowns, which has similarities to what Rusty posted. It's been working well -- I actually avoided the late 2018 stock declines. And now the strategy is back up to all time highs, mirroring the broad index. I use this for part of my equity within my asset allocation plan. Kind of like trading around the basic asset allocation of 30% equities, so I'm not always at 30%. If my technical method gets me out, I might drop to more like 25%.
> 
> Here's my take on it: the technical methods can work. The difficulty is in implementation, and sticking with the method (in other words it's a behavioural challenge, not technical). How many people can consistently follow a technical approach involving constant monitoring and updates over 10 years? 30 years? What happens when you have children who are sick, too much work to do, other priorities like health that take precedence. And what happens when you -- inevitably -- underperform the index for a few years. Do you decide your strategy is broken, and abandon it?
> 
> I think these are the real reasons that passive asset allocation and indexing win in the long term. Here's a great article on this topic: Why Isn’t Everyone Beating the Market?


Reviewing the Meb Faber paper, he has some data on a leveraged SMA-following portfolio showing an 18.8% return. He, however, warns against using margin or leveraged ETFs.


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## james4beach (Nov 15, 2012)

Topo said:


> Reviewing the Meb Faber paper, he has some data on a leveraged SMA-following portfolio showing an 18.8% return. He, however, warns against using margin or leveraged ETFs.


I do mine non leveraged, plain vanilla ETF, based on simple moving averages and a few principles I borrowed from electrical engineering (switch de-bouncing & hysteresis) to improve stability and create fewer trades. My system sends me a text message daily, sometimes instructing me to make a trade.


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## Topo (Aug 31, 2019)

I looked at a 5 year chart of UPRO with SMA-200 overlay. It captures 2017 very well, but there is substantial whipsawing going on in 2018 and 2019. SPY looks better. So maybe one could use SPY SMA-200 as the signal and then implement with UPRO. One could do this in a tax-sheltered account to minimize taxes.


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## james4beach (Nov 15, 2012)

Topo said:


> I looked at a 5 year chart of UPRO with SMA-200 overlay. It captures 2017 very well, but there is substantial whipsawing going on in 2018 and 2019. SPY looks better. So maybe one could use SPY SMA-200 as the signal and then implement with UPRO. One could do this in a tax-sheltered account to minimize taxes.


That could be plausible. Let me see what would have happened if I used UPRO with my own technical market timing method. My technicals are based on the regular indices. Starting 2017-01-01 and trading UPRO

Result with my system would have been +167%. That's compared to +47% from buy & hold SPY. Amazing.

Then again, as per the other thread, investing is easy (and every strategy works) during a bull market. What happens during the bear market?


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## Topo (Aug 31, 2019)

james4beach said:


> Then again, as per the other thread, investing is easy (and every strategy works) during a bull market. What happens during the bear market?


That's important to know, particularly when dealing with leveraged ETFs. One has to be nimble with the sell signal, otherwise a good portion of any gains could be wiped out in a few days.


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## james4beach (Nov 15, 2012)

I actually have previously backtested my technical method using SSO, a milder leveraged ETF and thought this was a viable strategy. I could see myself using SSO, but wouldn't use UPRO.

I was able to backtest my strategy to 2006 with SSO, which actually existed back then. I am just not confident that UPRO can survive a 2008 scenario.

However, because I've already been using a non leveraged index, I've decided to stick with that for continuity at the moment. Changing to SSO is on the table.


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## Topo (Aug 31, 2019)

I think it is best to stick to the non leveraged products too. Less chance of unpleasant surprises.


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## Rusty O'Toole (Feb 1, 2012)

"But what if one could allocate portion of their portfolio to a strategy that would harvest the volatility with less risk (or different risk) than buy-and-hold? Maybe a moving average or trend following strategy. "

I've got one of those too. It involves using the TTM Squeeze, moving averages, and RSI. Can furnish more details if they are wanted.

james4beach would be interested in more details of your method if they are not too technical for the non engineer.


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## james4beach (Nov 15, 2012)

Sure Rusty. Here's a simple version of my method. The basic idea is to figure out if the world is in an "up" or "down" mode by looking at moving averages.

To figure out if we're going up or down, I survey major world indices for many countries, stuff like SPY, EFA, EEM, XIU (I use many). For each, I look at whether it's above or below the 200 day moving average. Currently all of these are above, so the average reading is 100%... we're in up mode. This is a boom time!

My buy & sell points are triggered by this average crossing a threshold. As the market weakens, the reading declines. Crossing below a threshold, that triggers my system to sell.

Consider September 1, 2008. The moving average situation was
SPY = below the 200
EFA = below
EEM = below
XIU = above

So the global reading was something like 25%, rather weak. I had already sold; the world was already in "down" mode.

In June 2009, all the above had crossed above the moving average, resulting in a buy signal. It might have happened a bit earlier actually, May? That's a pretty good re-entry into the new bull market.

So that's my method in a nutshell. Basically, monitor major index ETFs to see if they are above or below the 200 day. Get a reading for whether the world is strong or weak.


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## lonewolf :) (Sep 13, 2016)

James, It is best to have more then one system when playing the market. If one system blows up then the other system or systems might not.

Here is my idea divide your portfolio in half. Keep method your currently using other half do the following.

Keep the same asset allocations except use silver instead of gold for the gold allocations.

For the bond portion when you turn 40 scale into deferred annuities that are not variable. With the mortality credits higher interest is paid then bonds & GICs. As you get older difference is magnified.

For the stock portion would use the decennial pattern. Only 2 buys & 2 sells every 10 years yet out performed buy & hold over 40 fold (44.9 times). According to A Miller if 1 dollar was invested in 1900 would be worth 6660.86 in 2002 using the decennial pattern verses 146.11. All you have to do is sell @ the beginning of the 0 year reenter on June 30th of the second year. Be out of the market During August through October of the 7th year & reenter till the end of the 9th year.

Would use dollar cost averaging for second half of portfolio no readjusting.


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## james4beach (Nov 15, 2012)

There's an additional technical method I am experimenting with and this one is much simpler. Currently I plan to use this method to adjust global weights, to emphasize one global index more strongly than the other.

The fundamental idea behind this is that global financial markets go through phases where certain themes take hold. For example in the early 2000s, one theme was a weak US Dollar, and money flooded to both commodities & other foreign markets such as emerging markets. Currently we're in a different theme, where central bank stimulus is pumping money specifically into the S&P 500.

I believe that a little bit of old fashioned return chasing could be useful. Consider the following simple criteria: *does SPY or EEM have the highest 4 year trailing % return?* Here is the result of that question at the start of each calendar year:

2001: SPY
2002: SPY
2003: EEM
2004: EEM
2005: EEM
2006: EEM
2007: EEM
2008: EEM
2009: EEM
2010: EEM
2011: EEM
2012: SPY
2013: EEM
2014: SPY
2015: SPY
2016: SPY
2017: SPY
2018: SPY
2019: SPY
2020: SPY

You can see this works surprisingly well. It switches into the EEM theme (that market phase) and captures all the boom years. Then there's some uncertainty and some false starts, but it does get into SPY to catch those boom years. The overall return since 2000 is, I think, much higher than just holding SPY alone.

Think ahead to what might happen next. The S&P 500 has become extremely popular, chasing this recent performance. But this too, like everything in financial markets, is a phase that will eventually end. The question is always, what would be the next hot global theme? I think it's worthwhile continuing to watch the SPY vs EEM relationship.


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## james4beach (Nov 15, 2012)

Let me add a couple notes. I am confident enough in this method that my official asset allocation and investment policy statement includes a provision to adjust my foreign market weights according to the above. Domestically I hold a steady (constant) Canadian allocation, but my foreign allocation will adjust as suggested above. Currently my foreign component is entirely S&P 500 but if in the future, emerging or EAFE starts being the top performer, I would make that shift.

Based on my understanding of global markets and the way large institutions allocate capital, I think the primary choices for dollar flows (capital and trade) within equities are represented by SPY, EFA, and EEM.

IMO this as not just a technical numbers game. There is a fundamental (global theme) basis for this and I think this technique can "detect" the important global dollar flows, especially those flows which compete between domestic US and other big foreign markets. Those conditions and patterns can last for many years and I think it's worth trying to respond to them.

If you go back and calculate the total % return with those choices above, you will see that the return far exceeds just holding SPY or just EEM. While I do like passive techniques, I think this is only _mildly active_ and the potential reward is very substantial. This is just 4 trades/switches over 20 years which is an average average of 1 trade/switch every 5 years.

That's a low enough activity level that I still think it fits into my passive asset allocation technique.


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## lonewolf :) (Sep 13, 2016)

Heavy foreign buying of U.S. stocks for decades has served as an excellent indicator of market tops. No crowd of other countries buys foreign stocks intelligently. Foreigners make their biggest commitments when the trend is about to reverse such as record $400 billion in 2000 & record breaking foreign buying again in 2007. Foreigners are all in the U.S stock market rally 7.7 trillion as of July of this year. This top should be bigger then 2000 & 2007


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## Topo (Aug 31, 2019)

james4beach said:


> Let me add a couple notes. I am confident enough in this method that my official asset allocation and investment policy statement includes a provision to adjust my foreign market weights according to the above. Domestically I hold a steady (constant) Canadian allocation, but my foreign allocation will adjust as suggested above. Currently my foreign component is entirely S&P 500 but if in the future, emerging or EAFE starts being the top performer, I would make that shift.
> 
> Based on my understanding of global markets and the way large institutions allocate capital, I think the primary choices for dollar flows (capital and trade) within equities are represented by SPY, EFA, and EEM.
> 
> ...


EM and the US are highly correlated. So the strategy is basically long beta, which is fine if that is what you are looking for, but it will more or less track buy-and-hold, maybe with some diversion. For example in 2008 both US and EM crashed, maybe US more than EM, but still there was a loss. The most efficient way, in my opinion, to harvest the differential would be to go long one and then short the other, so as to cancel the beta exposure. But I doubt that is what you have in mind.

Similar strategies could be implemented between Nasdaq and SPY or a US financial index. So if one thinks in a low interest environment growth will outperform the banks, one goes long Nasdaq and shorts the banks. Some people do this with gold and silver too, when there is a divergence or convergence.


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## james4beach (Nov 15, 2012)

Topo said:


> EM and the US are highly correlated. So the strategy is basically long beta, which is fine if that is what you are looking for, but it will more or less track buy-and-hold, maybe with some diversion. For example in 2008 both US and EM crashed, maybe US more than EM, but still there was a loss. The most efficient way, in my opinion, to harvest the differential would be to go long one and then short the other, so as to cancel the beta exposure. But I doubt that is what you have in mind.


They definitely have high correlations, but then again, all stocks do. When markets crashed in 2008, everything from Japanese industrials to Canadian railways to US financials crashed exactly in lock step. Global stocks definitely are highly correlated and I expect they will crash again all in sync, as well.

I acknowledge that one remains exposed to the same general market risk. I should have noted that with the strategy I described, maximum drawdown would have increased as well. This does not reduce risk in any way.

However -- compared to what we discussed earlier, I like this method more than using a crazy leveraged ETF. Here we might have implied leverage but it's via real securities and traditional trading instruments. During that EEM boom phase, there was intrinsic leverage in those economies due to cheap dollar financing. EEM *was a leveraged investment* in those years. In the current S&P 500 boom phase, we've again got intrinsic leverage due to cheap credit domestically in the US, high corporate use of debt, and government manipulation boost via QE, ZIRP, and god knows what else they've been up to these last 10 years.

While these markets have high correlations, the performance varies a lot. When emerging & commodities were strong, EEM had far greater returns than SPY. And more recently when the central banks started pumping QE money into stocks, SPY had far greater returns. Emerging has gone nowhere for years now.

So the high correlations don't dissuade me from trying this. Can one describe this as using leverage? Sure!

Imagine what the next theme might look like (perhaps after the next global correction). Maybe the US stagnates, but the ECB's stimulus combined with strong a EU trade bloc results in excellent European performance. Money flows out of the US, and perhaps cheap dollars finance a EU boom. EFA is already starting from relatively lower valuation than SPY, so maybe it takes off and runs like crazy for the next decade. Who knows?



Topo said:


> Similar strategies could be implemented between Nasdaq and SPY or a US financial index. So if one thinks in a low interest environment growth will outperform the banks, one goes long Nasdaq and shorts the banks. Some people do this with gold and silver too, when there is a divergence or convergence.


Definitely possible. I could see someone successfully doing this between say SPY, QQQ, XLF

But the reason I like the big global regions like SPY / EFA / EEM is that global capital is free to move around. In the last few years, it's all been about the US. But that capital can also go elsewhere... if Europe or Japan becomes the hot story, then you would have limited yourself quite a bit just dabbling domestically in the US.

And what I think is very different than just choosing between say gold or silver, or SPY vs QQQ, is that -- at the global scale -- we're dealing with macro pictures involving things like dollar funding (leverage), central bank behaviours, trade balances, and capital directions. These are more fundamental in nature, not just fleeting trading such as one US sector vs another.


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## Topo (Aug 31, 2019)

Okay, I see. I was comparing to a strategy like a moving average or similar (discussed in another thread). Compared to a leveraged ETF, it is a better strategy.


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## james4beach (Nov 15, 2012)

Topo said:


> Okay, I see. I was comparing to a strategy like a moving average or similar (discussed in another thread). Compared to a leveraged ETF, it is a better strategy.


I made some leaps in that earlier post. Do you think it's feasible to view this as a form of leveraged index investing? I don't know anything about EM before 2000.


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## Topo (Aug 31, 2019)

Your data is very clear as to the winner between US and EM in each time frame. I think it would be important to know how much was the delta for each data point. Because if the winner wins by 1 or 2 percent, it may be a good strategy, but it won't be very leveraged. Plus, it would be a good idea to have some margin of safety (let's say beating by at least 2 percent), just to account for fees, taxes, and things not going exactly as they should.


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## Topo (Aug 31, 2019)

I think basically the strategy is a variation on "relative strength" play, where you would shift funds to a geography with higher returns over the past 4 years, if I am understanding correctly.


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## Topo (Aug 31, 2019)

Looking at Callan's periodic table, I see how it may play out. There are years when EM does spectacular, with some clustering between 2003 and 2012. For example in 2009 it crushed the US by 53%. In 2008 it lost, but just by 16%. So it has a substantially higher beta and could function as leveraged equity exposure (with more upside than downside).

I think your strategy would have been in EM most of those years between 2003 and 2012, which means you would have benefited from the extra returns. The extra returns appear to be substantial in some years.

https://www.callan.com/wp-content/uploads/2019/03/Classic-Periodic-Table-2019.pdf


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## AltaRed (Jun 8, 2009)

I think that was the period where everyone fell over themselves to hold BRIC. How much was real versus pumped up by dumb money chasing the next big thing?

I have seen a lot of fads over the years. Remember when the Far East was the hot play in the mid-90s or so?


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## Topo (Aug 31, 2019)

It was BRIC-related; if I recall correctly it was China in particular. 

I would say that for those years being in EM was the smart thing to do, if one had the foresight or the system to get in early.


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## james4beach (Nov 15, 2012)

I think most of these _are_ fads that involve greed and hype, including the current popularity of the S&P 500. I think that's just the nature of stock investment over any short ish time period (like 10 years).

> 20 years, I can agree that stocks more or less track fundamental economic / GDP expansion and corporate earnings.

But for something like 5 or 10 year themes, which is what I'm trying to capture here, I think it's all just wild crowd psychology. Always has been.


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## Topo (Aug 31, 2019)

In a sense it is an attempt at capturing the momentum regardless of what the drivers are. Sometimes it just makes sense to join the bandwagon.


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## james4beach (Nov 15, 2012)

I agree, it's a momentum strategy.

Here are 19 year performance numbers for the method I described in post #28. I'm using stockcharts for all of this, which shows total return including dividends. To start with here is performance of the individual indexes from 2001-01-01 to now
SPY is 6.7% CAGR
EEM is 8.4% CAGR
Average of two is 7.6% CAGR, maybe a little bit more with annual rebalancing

OK so that's our baseline. How did the strategy in #28 do?

According to my calculation the result is 9.2% CAGR which is higher than either one individually. It's 1.6% CAGR better than passively holding both of the above. Perhaps more importantly it avoids the long stretches of stagnant returns in each one since it (by design) does not tolerate poor returns.

So I think, behaviourally, it's pretty easy to execute and this appears to have given a pretty significant performance advantage over the last 19 years.


SPY alone6.7% CAGREEM alone8.4% CAGRSPY+EEM avg7.6% CAGR#28 method*9.2% CAGR*


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## Topo (Aug 31, 2019)

The results look pretty good. One could also compare to the global weights of US and EM, 5 to 1, so the weighted average would be 7%; a difference of 2.2% which is even better. 

For some peculiar reason I was expecting a bigger outperformance, given that the strategy would have been in EM in the aughts and in the US more recently. But the results are good regardless.

The EM and EAFE had great returns in the 2000's when the US basically didn't do much. In the past decade the US has done well, while EM and EAFE have been stagnant. Maybe there is a pattern there....

The results are comparable to those of SSO+IEF that you have presented in Post #1.


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## james4beach (Nov 15, 2012)

Yes I also expected a larger difference but what happens is that when the market theme changes between them, you miss out on 1 or maybe 2 years of awesome performance with the new star. I suppose that a 'pathological case' would happen if no theme stays consistent, and you just keep swapping between each, causing all kinds of trading (severe whipsawing). That would be unfortunate.

For this to work, some region like emerging, or the US, has to consistently outperform for a span of years.

Interesting that the result got close to the SSO+IEF method. Compared to that, I like this method better. No exotic ETFs and no dependence on the US market either.

I wonder if there's anything meaningful in all of this, in other words, any promise going forward?


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## Topo (Aug 31, 2019)

That makes sense: the signal comes on after consistent outperformance by the laggard. I wonder if the instead of trailing 4 years we compare trailing 2-year returns. Perhaps an earlier signal but more possibility of whipsaw.

No doubt the results are impressive.


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## james4beach (Nov 15, 2012)

Topo this may be a question that has no answer, but how do you think one can distinguish between strategies that (a) work for some fundamental reason, versus (b) random accidents of back-testing?

It's easy to craft an explanation post hoc. Humans are really good at this. We could see a completely random sequence of things, and still craft a plausible story of what's going on -- which would be garbage.


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## Topo (Aug 31, 2019)

It is difficult to distinguish. But if the findings on the back-test can be replicated on out-of-sample series then there is a higher possibility that there is a fundamental reason behind it.


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## james4beach (Nov 15, 2012)

Topo said:


> It is difficult to distinguish. But if the findings on the back-test can be replicated on out-of-sample series then there is a higher possibility that there is a fundamental reason behind it.


Thanks. Yes, right, if one can use another dataset (perhaps parallel or related data, or other time spans) and see similar results, that suggests that the approach or model is valid.

I did a quick test using Canadian sectors. I pulled up some big ones (XFN, XEG, XIT, XMA, XRE) and tried the same exercise, and again the results are very good, far in excess of XIU. So it does appear that this momentum method works more generally. However this exercise also showed me a couple things that are worth noting,

- drawdowns can potentially be severe because we're losing diversification
- *it only "works" when there are long stretches of a consistent theme*

Currently, I think the second point is the main downside of the method. When applied to the Canadian sectors for example, one gets into XIT (tech sector) for the last few years, with tremendous gains. But for a span of years such as roughly 2010 - 2014 when there was no clear outperformer, the results are quite muddy. You generate trades and bounce between sectors, not showing anything for it. Instead it is specifically the years 2002 - 2008 (XEG) and 2015 - now (XIT) which produce the amazing performance.

Instead if you only started doing the method around 2009 you would go quite some years and feel stupid. You would likely underperform the index and wonder why you're bothering with any of it.

It could be that we just got lucky that there have been two long lived sector themes since 2000, which give the opportunity to ride momentum. I'm sure this will not always happen.

Similarly on the global scale (with my SPY vs EEM idea) one benefits from two long lived themes spanning _many years_ each. But again, I would not expect that to always happen. One could imagine you might enter a stretch of say 5 or 10 years where you keep bouncing between ETFs each year, seemingly for no benefit. That situation would exhaust the speculator, leading to disillusionment, etc.

But... that's the classic problem with any active method of course. I love this interplay of statistics, modeling, and human psychology. It takes amazing self discipline and commitment to method to actually succeed with any of this. It also takes resilience to peer pressure and external influences. I keep thinking of how much this board has tried to talk me out of my modest allocation to gold, for example.

Still, I'm doing it  It's already in my investment plan for my global stock allocation. Still obeys all % targets of my asset allocation plan.


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## Topo (Aug 31, 2019)

I wonder if it could be improved by a stop-loss mechanism such as a moving average. That way one could potentially tap the upside while further minimizing the downside.


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## james4beach (Nov 15, 2012)

Topo said:


> I wonder if it could be improved by a stop-loss mechanism such as a moving average. That way one could potentially tap the upside while further minimizing the downside.


I tried merging the SPY/EEM momentum method with my technical market timing method (which I described a bit on page 3). This should reduce the severity of the drawdown. In this back test I'm starting at Jan 2006 (note it's a different time period than earlier) and calculating performance of the momentum method + market timing.

Combined technical method gives 10.4% CAGR
Buy and hold SPY was 9.0%
Buy and hold EEM was 4.8%

I think this is nice. We've gained some downside protection but are still above the buy & hold SPY performance, which is hard to get. The risk adjusted return is way better.

Here's another time period with the same method. Now centered into middle years 2007 - 2015 to exclude some of the very strong years in both EEM and SPY. Let's see if the method still gives a benefit.

Um, yeah, it does:

*Combined technical method 12.0%* drawdown roughly -20%
Buy and hold SPY was 6.3% drawdown -55%
Buy and hold EEM was 0.0% drawdown -66%

Holy hell. And there is less drawdown with the combined technical method. Risk adjusted return advantage is through the roof.

I'll have to double check these results.


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## james4beach (Nov 15, 2012)

And a bad result too for completeness: if you start after 2009, the method underperforms S&P 500. That's because there has been virtually no volatility, and SPY has been consistently strong (one consistent theme). So the technical methods cannot benefit from weakening or leadership changes. Any trades you end up doing hurt performance.

Then again, all hedge funds have done poorly after 2009 due to the S&P 500 just going straight up. So it's not surprising that this method would also suffer under those conditions.


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## Topo (Aug 31, 2019)

It's hard to consistently beat a buy-and-hold strategy. But if one could reduce the downside, even a smaller upside could result in an acceptable risk adjusted return. This would be a particularly desirable outcome if it happens out of phase with the market in general. The holy grail would be to achieve a negative correlation with positive expected return.


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## lonewolf :) (Sep 13, 2016)

James here is a method using leverage & the 200 day moving average that has returned an average annual return of 26.8% from Oct 1928 till Oct 2015 instead of an average return of 9.1 % average 5 trades a year. 10,000 would have grown into 9 trillion

Simply long S&P 3x leveraged etf when S&P is above 200 day moving average sell when below

source 2016 Dow award Leveraged for the long run Michael A Gayed CFA & Charles Bilello


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## Pluto (Sep 12, 2013)

james4beach said:


> significantly higher than pure IVV at +16.6% ... seemingly with no extra risk.
> 
> Thoughts? Personally I have trouble holding a derivative-based exotic ETF (SSO) but I find these numbers very interesting.


I would, but not now. I would buy such a security if we had a serious bear market and value was high. There was a story recently about a guy who bought two such products in the depths of the financial crisis '09. he still holds them and is sitting with a huge - now a millionaire - profit. Hope he sells and doesn't do a round trip.


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## james4beach (Nov 15, 2012)

Pluto said:


> There was a story recently about a guy who bought two such products in the depths of the financial crisis '09. he still holds them and is sitting with a huge - now a millionaire - profit. Hope he sells and doesn't do a round trip.


The problem with that is that they never write stories on guys who bought leveraged things and traded them badly, or which blew up on them. An example would be all the people chasing the high returns in XIV until it blew up and they lost everything. Or the people who used these leveraged/inverse ETFs with horrible returns for many years.

Those never turn into media stories. So when you read these stories on the extremely rare success cases, it paints a misleading picture.


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## Eclectic12 (Oct 20, 2010)

james4beach said:


> The problem with that is that *they never write stories on guys who bought leveraged things and traded them badly*, or which blew up on them.
> 
> An example would be all the people chasing the high returns in XIV until it blew up and they lost everything ...
> Those never turn into media stories ...


Odd that it's easy to find articles that "never" get written.
https://www.marketwatch.com/story/x...rs-of-work-and-other-peoples-money-2018-02-06
https://www.tradingsitereviews.com/learning-the-hard-way-3-traders-who-lost-everything/


Then there's the general advice:
https://www.kiplinger.com/article/investing/T022-C009-S001-run-don-t-walk-from-leveraged-etfs.html
https://money.usnews.com/investing/funds/articles/2018-04-18/leveraged-etfs-are-a-losers-game
https://thecollegeinvestor.com/4414/leveraged-etfs-dont-match-market-performance/
https://www.fool.com/investing/gene...ing-lessons-from-regular-joes-who-lost-i.aspx

Less recent examples
https://hardbacon.ca/en/article/nawar-alsaadi-lost-won-millions-stock-market/

IIRC, there was a whole series of G&M articles in early 2000's.





james4beach said:


> ... So when you read these stories on the extremely rare success cases, it paints a misleading picture.


Where people are focused on what they prefer and exclude other info ... other info is ignored.


Cheers


*PS*
I should make clear that I am in agreement that the true successes are rare and that most people pay attention to the stories about the success.

Those who read broadly with an open mind will also notice the stories about those who crash/burned.


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## Pluto (Sep 12, 2013)

james4beach said:


> The problem with that is that they never write stories on guys who bought leveraged things and traded them badly, or which blew up on them. An example would be all the people chasing the high returns in XIV until it blew up and they lost everything. Or the people who used these leveraged/inverse ETFs with horrible returns for many years.
> 
> Those never turn into media stories. So when you read these stories on the extremely rare success cases, it paints a misleading picture.


good point.


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## james4beach (Nov 15, 2012)

It's true that there's some media coverage of the failures. One of those linked above is amazing: the guy lost $1.5 million of friends and family's capital in XIV.

I try to remember these stories every time I experiment with a new strategy, including the ones I wrote about in this forum. What is the blowup danger? Of those I wrote about in this thread, I still don't like the SSO or leveraged ETF routes. I do, however, like the simpler momentum methods on broad global ETFs and using some basic technical analysis. No leverage or exotic vehicles; it's doable.

Here's one of a slightly more professional failure. There's a video too
https://business.financialpost.com/...-fund-manager-confessed-his-losses-on-youtube


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## james4beach (Nov 15, 2012)

james4beach said:


> I agree, it's a momentum strategy.
> 
> Here are 19 year performance numbers for the method I described in post #28
> . . .
> ...


Leaving aside the market timing via technical analysis, and going back to this basic idea of chasing performance in the currently strong global index. Again, this seems like an awfully simple method to boost returns which also causes minimal churn. In fact it would have resulted in simply holding SPY continuously since 2014, which is perfect.

Is there any good reason to _not_ do this? I really don't see the down side, other than losing some diversification in global stocks.

My counterargument to the diversification point is that most global exposure is already heavily weighted into the US, so global indexing is dominated by the US. In my view, being able to switch between these regions could actually be safer (long term) by reducing sole dependence on the US. Albeit with more short term volatility. Imagine for example that we enter a decade or two where the US performs horribly versus Europe, Japan, emerging, whatever.

IMO this is a direct parallel to Japan in the late 80s. By 1989, maybe even earlier, *Japan was the largest stock market* by market cap globally. If we had been looking at couch potato or XAW back then, they would have been very heavy in Japan. Think about that: XAW with its heaviest weight in Japan. That was the world in 1989.

Surely an investor who could dynamically adjust would have been better off than keeping that heavy allocation to Japan as it entered _chronic_ underperformance.


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## james4beach (Nov 15, 2012)

james4beach said:


> But what if I told you that you can leverage the S&P 500, passively, without increasing risk? We'll have to ignore the inherent risk in SSO for a moment.
> 
> Consider *50% SSO + 50% IEF*, a treasury bond fund which acts as a safe haven.
> Portfolio analysis at Portfolio Visualizer


Still the most interesting strategy that I'm afraid to try.

The 2019 result would have been 35.74% which beats the S&P 500 at 31.25%.

Long term performance is 10.80% CAGR versus the S&P 500 at 8.75% so that's a couple percent higher annual performance, with (seemingly) less downside risk. I still wouldn't do it, but interesting.


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## james4beach (Nov 15, 2012)

Going back to this question of boosting (or leveraging) S&P 500 returns.

I've mentioned the SSO idea a lot, but the main problem is that this is a derivative ETF. It's totally synthetic and exotic, and I really don't touch things like that.

An alternative route might be using QQQ, a tech-heavy index ETF. This has the benefit of being a primary US index, and a plain vanilla ETF, without derivatives. The downside is obviously that it's a sector play.

Assume for a moment that the theme of this entire bull market (tech driving US stocks) continues. Notice that QQQ does act like a leveraged S&P 500. This chart shows QQQ vs S&P 500, and this sure looks like a "leverage effect" to me:











It's also interesting to look at QQQ vs SSO. *It appears that QQQ has been providing a similar leverage experience to SSO, almost precisely duplicating its leveraged index return.*

But QQQ actually has better risk-adjusted returns over this bull trend, with milder drawdowns and less volatility. So if it's roughly duplicating the (desirable) leverage of SSO, but without derivative risks, and less risk of total blowup,

Maybe QQQ is the way to get greedy on the US?


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## andrewf (Mar 1, 2010)

It's a sector play and not leverage per say. Different ideas, IMO.


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## james4beach (Nov 15, 2012)

andrewf said:


> It's a sector play and not leverage per say. Different ideas, IMO.


That's true.

SSO is doing well even over the longer term (though it's not designed for that purpose). The 10 year annualized performance is 12.95% for SPY, and 21.43% for SSO.

At first glance that's an impressive 1.7x leverage after fees.

Still, the problem is the derivatives held inside SSO. They hold a number of swap contracts with various banks: Goldman Sachs, Bank of America, Credit Suisse, Societe Generale, UBS. Notice that they don't use exchange based index futures... here, SSO takes on counterparty risk (credit risk) of these particular banks.



Topo said:


> If I were to implement such a strategy, my preferred method would be to use futures on the S&P and long bonds. I have been tempted to use the e-minis


It does seem that index futures would be a nicer way. No counterparty risk.


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## Topo (Aug 31, 2019)

It seems to me that we are just beginning another decade of low interest rate, low GDP growth and low inflation, which should benefit growth stocks represented in QQQ. Tilting to growth may help boost market returns, but it is hard to know.


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## Rusty O'Toole (Feb 1, 2012)

QQQ represents the NASDAQ the way the S&P represents the NYSE. Its biggest holdings are, Apple Microsoft Amazon Facebook Goog Googl Intel Cisco System Comcast and Pepsico. These account for 50% of its value. So you see it is basically a tech play.

If you really want leverage there is TQQQ a 3X leveraged QQQ ETF.


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