Momentum Update

Damon Gonzalez Investing Leave a Comment

Last Fall I began implementing my version of Gary Antonacci’s Momentum Strategy for most of the IRAs that we manage.  It is a simple strategy that has historically added extra returns without taking much added risk.  It couldn’t be easier to trade.   At the beginning of every month, I go to StockCharts.com and compare how U.S. stocks have fared versus Foreign stocks over the trailing 12 months.  The index with the higher relative strength gets 80% of the portfolio’s stock allocation and the one that has the lower return gets 20% of the stock allocation.  If a portfolio is set to have a 50% allocation to stocks and the U.S. market has performed better than Foreign stocks over the trailing 12 months, then the portfolio would allocate 40% to U.S. stocks and 10% to Foreign stocks for the rest of the month with no changes until I analyze the relative strength again the following month.  Antonacci’s book and papers flip 100% and 0% based on the relative momentum.

My biggest regret is not finding this strategy earlier in my career.  It historically produces a trade less than once per year, it is simple to implement, and I believe it has persistence.  As much as I like the strategy, I was still terrified to start implementing it last fall because the signal was calling to buy more of an already expensive U.S. stock market and sell a relatively cheaper Foreign market.  Despite my concerns about valuation, ‘merican stocks has once again trounced Foreign stocks!  The chart below shows the four Avantis stock ETFs we invest in.  The blue line is U.S. small companies, the red line is the U.S. Large companies, the green line is Foreign developed markets, and the magenta line is Foreign emerging markets.  When I eyeball the chart, I see the two U.S. indexes (where portfolios have been over-weight) have performed about 41% and 28% while the two Foreign indexes have returns of 14% and 8%.

trailing-12-month-returns-us-v-for

U.S. stocks continued their domination over the last 12 months. StockCharts.com

Having a lot more money in the red and blue funds and a lot less in the green and magenta funds was a great beginning for implementing this strategy.  As pleasing as the first year’s results are, I can’t wait for this strategy to favor Foreign stocks.  Below is a chart of the S&P 500 ETF (SPY) compared to the Emerging Market ETF (EEM) since the March of 2009 bottom.  Look at the huge gap in performance!

US stocks have done much better than Emerging Markets

The SPY is up almost 750% while EEM has only done 200%. Courtesy of StockCharts.com

This degree of outperformance can not go on forever.  According to Morgingstar.com the price to earnings, price to book, and price to sales of SPY (U.S. Stocks) are 20.81, 4, and 2.72 respectively.  For EEM (Emerging markets) they are 11.72, 1.61, 1.39.  Nobody knows when, but at some point investors will grow weary of paying high multiples for U.S. stocks and start to look at the deep value available overseas.  Clearly the U.S. stock market has been THE PLACE to be for the last 12 years.  The chart above also makes you think Emerging markets are pathetic and always have been.  If we dial the same chart back to the start of 1999, we have an entirely different picture.

Emering Markets have outperformed US stocks since 1999

From 1999, we have a much different picture. Courtesy of StockCharts.com

Now the blue Emerging Market index has trounced the S&P 500 (red).  It is important to note that Emerging markets went absolutely bananas from 2001 to 2008 and then went relatively nowhere for 12 long years.

The other major change we made to many of our client portfolios last year was to begin using Avantis ETFs for stock holdings.  Avantis is not yet a household name like Fidelity or Vanguard.  They were started by a team with a lot of experience that left Dimensional Fund Advisors (DFA Funds).  Like DFA, they tilt their portfolios towards the types of stocks that academic research has shown outperforms the overall market over long periods of time.  Their team is constantly evaluating new papers and when our understanding of what drives returns changes, I expect them to evolve with the research.  The portfolios take advantage of size, value, profitability, and momentum to capture these unique factor-based returns.  While their oldest funds have only been around for a little more than two years, I am happy with their results.

avantis-performance

The stars above denote the stock ETFs that Domestique Capital invests in.  You can see that all four have better year-to-date returns than their benchmarks and three of the four have bested their benchmarks since inception.  While this certainly will not happen every year, it is nice to see their strategy delivering.  If you would like to learn more, please click the link on my website to schedule a call directly in my calendar.

A lot of people saw the money printing of 2020 and chased some of the very high price to sales stocks below.  While it can be entertaining, you can see that gravity has returned to many stocks and this year has been brutal for those late to the party.  Best wishes for a great 2022!

 

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