There was a question asked on finance Twitter recently by a wealth advisor that went something like this: “Okay, so you got out of the stock market and into cash in your 401K, so when do you get back in?” Portfolio managers believe in the long term, with asset diversification and quarterly rebalancing of your stock holdings and asset allocations. A lot of wealth managers don’t believe that market timing is possible, and that only investing in the stock market over the long term can workout. A lot of long term trend followers think day trading is impossible, while most wealth managers think trend following is impossible.
I will answer the question of “When should the average person get back in?” If you take something from the trend followers handbook, you should have already gotten out of your stock holdings when the $SPY lost it’s 200 day simple moving average. What usually happens is that the investor holds his 401K as the 200 day SMA is lost, and then doesn’t get out until after the 10% correction happens. Wealth managers are concerned about having no exit strategy, getting out too late after the correction, and missing a rally waiting for a pullback that never happens. This kills investor performance.
A systematic way to use quantified signals to get out of stock holdings before corrections, bear markets, and crashes is to go to cash when the $SPY loses its 200 day simple moving average, or if you want more room, the 250 day moving average. When should you get back in? When the $SPY price closes above the 200 day SMA. This gets you ready to participate in the next bull market when it starts.
This is not the Holy Grail of trend following for 401Ks, but it’s one way to avoid the financial and mental pain of watching 10%,20%, or 50% of your retirement money evaporate in a market downturn. Watching your own 401K go from $200,000 to $160,000 is real and not theoretical. Your wealth manager or mutual fund manager still gets paid as you lose money. I have successfully used this filter in the last year to keep my own retirement fund from having any drawdowns. It also saved my retirement account in the 2008 meltdown.
Here are some simple backtests that outperform buy and hold in the $SPY. See more signals for beating buy and hold in my book ‘Buy Signal, Sell Signals”
These are long only systems:
From January 2000 to October 2015 $SPY buy and hold returned 91% with a 55.2% drawdown.
For $SPY using the 200 day SMA as an end of day sell/buy indicator from January 2000 to October 2015: 200 day SMA returns were 96.1% with a 27.3% drawdown. We cut the drawdown in half.
For $SPY using the 250 day SMA as an end of day sell/buy indicator from January 2000 to October 2015: 250 day SMA returns were 120.5% with a 23.1% drawdown. We cut the drawdown in half and increased the return.
It looks a little different during the lost decade of 2000-2009:
For $SPY, using the 200 day SMA as an end of day sell/buy indicator from January 2000 to December 2009: 200 day SMA returns were 20.3% with a 27.3% drawdown. The $SPY buy and hold returned a negative -8.7 return with a 55.2% drawdown for the decade. The 200 day cut your drawdown in half and lead to a small return.
For $SPY using the 200 day SMA as an end of day sell/buy indicator from January 2000 to March 2009: 200 day SMA returns were -1.7% with a 27.3% drawdown. The $SPY buy and hold returned a negative -35.9% return with a 55.2% drawdown for the decade. The 200 day cut your drawdown in half and lead to a flat return after 9 years, even at the market bottom in March of 2009.
There is a time to be long stocks and a time to out of stocks in our 401Ks. So far, 2016 has been the time to be out, until the 200 day is retaken.