Industry Benchmark Performance
December losses pare profits in most Equity Hedge Funds, leaving them far behind the gains of the passive equity index markets. It is an indication of the difficulty stock-picking in 2021. The multi-strategy funds were much better, showing that diversification was an important factor this past year.
Futures were more consistent but still well below the returns of the overall stock market. Looking at the bigger picture, most investors should have had a profitable year.
Kaufman’s Fast Strike Systems on MetaStock
If you are interested in short-term trading, look at Kaufman’s Fast Strike strategies. Contact MetaStock at 800-882-3040 or go online to www.metastock.com/kaufmana.
Blogs and Recent Publications
Don’t forget our new book, “Kaufman Constructs Trading System.” You can find it on Amazon or on our website, www.kaufmansignals.com.
Find recent publications and seminars at the end of this report. We post new interviews and reference new articles each month.
December Performance in Brief
2021 was an odd year for all of our personal lives and for the financial markets. Optimism about Covid being under control, followed by a surge in Omicron. We are all trying to find normalization as best we can.
The markets were equally disruptive. Investors moved in and out of technology as well as stay-at-home stocks as the news changed quickly. Zoom, ARKK, PTON, and BYND, all of which showed spectacular returns in 2021, have dropped to near half their value. The Christmas rally was disappointing.
Our own strategies did well, with 17 of our 19 portfolios posting profits, some of them quite large. The only disappointment was our benchmark 10-stock trend portfolio, which posted a rare loss. The industry acknowledges that stock-picking had a “challenging” year, yet our other programs did well using the same logic. It seems to be a case that more diversification and fewer positions changes was the better approach. We look forward to 2022.
Major Equity ETFs
Not a smooth performance, but the year finished substantially higher for all index ETFs. SPY was the strongest with 28% and the small cap IMW the weakest with 14%. Internally, performance in stock sectors shifted quickly, but there was also one sector outperforming and moving the entire index forward. November and December look weaker, but we have learned that it is difficult to predict where it goes from here.
CLOSE-UP: From 2021 to 2022
2021 saw the stock market make new highs over and over again, with SPY ending higher (on December 28) by 29%. But stock picking was not successful last year for more active and less diversified strategies. A longer view of the market proved best.
But that is a narrow view of performance. Of our 11 strategies and 19 portfolios, 17 were profitable, many of them comparable to the S&P, a few better. Buying on a pullback in an upward trend, weekly stock trends, and futures trends were the outstanding performers. Most unusual was our 10-stock trend portfolio, which was flat for the year while the same method using 30 stocks ended up 38%. Diversification and less switching was the reason.
The Best, the Worst, and the FAANGS
Could you have picked the best stocks last year? They were Gamestop (GME, +743%), Upstart Holdings (UPST, +321%), Moderna (MRNA, +193%), Devon Energy (DVN, +175%), and Continental Resources (CLR, +167%).
Robinhood traders flocked to GME early in the year, driving prices to its highs. After that there was erratic, sideways movement, ending the year lower (Figure 1). There were places where you could have entered and taken a profit, but less so as the year went on.
Figure 1. Gamestop (GME) 2021.
My own choice would have been Moderna, especially with the Omicron variant and the constant news of Covid. Yet Figure 2 shows how difficult it would have been to stay with that trade. It looked easy until early August but then declined 50%. A net gain of 193% sounds good when you don’t see the pattern.
Figure 2. Moderna (MRNA) 2021.
I have never been a fan of “fad stocks.” I don’t see most people choosing “meatless meat,” as offered by Beyond Meat (BYND). That’s not to say it isn’t healthy. It may be very good for you. Buyers like to try new products just as restaurant goers will flock to the newest opening. But it only lasts as long as the product is a good one and it attracts a wide audience. Figure 3 shows that sustainability has been a problem.
Figure 3. Beyond Meat (BYND) 2021.
I believe in exercise, but I find walking and lifting a few weights works well. If you want more, there are a variety of treadmills and other equipment from well-known manufacturers at prices from under $1,000 to $2,300. The Peleton “Basic” trendmill sells for $2,500. While many of us pay more for an Apple iPhone or Samsung Galaxy, which we use every day, it is not clear how many will use a treadmill every day. Figure 4 implies that the market may not support a high price to satisfy an ambitious exercise goal.
Figure 4. Peleton (PTON) 2021.
Earlier this year, we removed all Chinese stocks from our portfolios. Some traders think there is still opportunity, but we feel there is too much uncertainty which translates into risk. It has become, essentially, a manipulated market. The chart of Alibaba (BABA), once thought to be a viable competitor to Amazon, is shown in Figure 5.
Figure 5. Alibaba (BABA) 2021.
The FAANGS + MSFT + TSLA
The FAANG stocks were popular during the bull run from 2010 to 2019, but we haven’t heard as much about them lately. The commentators tend to focus on markets making news. Last year it was the pharmaceuticals and biomeds as well as the airlines and housing, strongly influenced by the pandemic.
The benchmark FAANG stock is Apple (AAPL), shown in Figure 6. It returned 38.7% in 2021, well above the major stock index markets. It also has not been as volatile and is near its highs.
Figure 6. Apple (AAPL) 2021
The worst of the FAANGs was Amazon (AMZN), gaining only 7.1%. Figure 7 shows a mostly sideways pattern but only modest volatility if you look at the price scale. It is not a fad, and unlike GME, it was not pushed up by MEME traders, only to lose more than 50% of its value.
Figure 7. Amazon (AMZN) 2021.
Tesla has also been a key player this past year, although not part of the FAANGS. During the last month, Elon Musk has publicly reduced his holdings, pushing down prices (see Figure 8). Now that he is finished his stock sales, prices are recovering. It is more volatile than the other tech stocks, but only recently. Tesla remains far ahead of other EV companies, even though competition will eventually dilute their sales.
Figure 8. Tesla (TSLA) 2021.
Table 1 shows the returns of these 7 stocks in 2021. While all stocks show volatility, none are in the class of the “5 best stocks” or what we call the “fad stocks.” The average return of 36.8% is very impressive for stocks that have fallen out of the news.
Table 1. FAANG + MSFT + TSLA returns for 2021.
Looking Forward to 2022
To make this simple, the 7 stocks in Table 1 should continue to be profitable in 2022. It is not possible to predict by how much, or their volatility, because there are too many unknowns. We still shy away from cruise ships and large arena events. Even with inflation, there is pent up buying. Those who are working have more money and seem willing to spend it. Our 7 stocks still seem to be good candidates, relatively immune to Covid variations and proven to be solid companies.
It is always safe to use a moving average to confirm that the stock is in an uptrend before buying. An 80- to 100-day trend period is generally safe. You can exit if the trendline turns down and buy when it turns up, always investing the same dollar amount in each position. Using a simple long-term trend system combined with consistently successful companies is always a good strategy.
A Standing Note on Short Sales
Note that the “All Signals” reports show short sales in stocks and ETFs, even though short positions are not executed in the equity portfolios. Our work over the years shows that downturns in the stock market are most often short-lived and it is difficult to capture with a longer-term trend. The upwards bias also works against shorter-term systems unless using futures, which allows leverage. Our decision has been to take only long positions in equities and control the risk by exiting many of the portfolios when there is extreme volatility and/or an indication of a severe downturn.
PORTFOLIO METHODOLOGY IN BRIEF
Both equity and futures programs use the same basic portfolio technology. They all exploit the persistence of performance, that is, they seek those markets with good long-term and short-term returns on the specific system, rank them, then choose the best, subject to liquidity, an existing current signal, with limitations on how many can be chosen from each sector. If there are not enough stocks or futures markets that satisfy all the conditions, then the portfolio holds fewer assets. In general, these portfolios are high beta, showing higher returns and higher risk, but have had a history of consistently outperforming the broad market index in all traditional measures.
PERFORMANCE BY GROUP
NOTE that the charts show below represent performance “tracking,” that is, the oldest results since are simulated but the returns from 2013 are the systematic daily performance added day by day. Any changes to the strategies do not affect the past performance, unless noted. The system assumes 100% investment and stocks are executed on the open, futures on the close of the trading day following the signals. From time to time we make logic changes to the strategies and show how the new model performs.
Groups DE1 and WE1: Daily and Weekly Trend Program for Stocks, including Sector Rotation, Income Focus, and DowHedge
The Trend program seeks long-term directional changes in markets and the portfolios choose stocks that have realized profitable performance over many years combined with good short-term returns. It will hold fewer stocks when they do not meet our conditions, and exit the entire portfolio when there is extreme risk or a likely drawdown.
The daily and weekly charts look very similar but the weekly has outperformed in 2021. We attribute that to not switching as often and being diversified so that the tech stocks were a smaller part of the portfolio. The Daily Trend netted a 1% loss for 2021 in the 10-stock portfolio and a 36% gain in the 30-stock portfolio, a remarkable divergence. In the longer view, both the 10-stock daily and weekly programs have returned about the same performance, but the weekly is ahead in the larger portfolios.
Income Focus and Sector Rotation
Small gains in December with the Daily program finishing slightly lower and the Weekly program slightly higher for 2021. Even with these break-even returns, the system did well fighting against rising interest rates. We should expect performance to improve in 2022 with higher rates already in the market.
A small loss in December but an excellent year, up 19%. This program excelled in 2020 and again in 2021, breaking its pattern of struggling higher. Traders seem to be focusing on specific sectors, which is going to be favorable to this program.
Positive returns of more than 3% and 5% for the DowHedge program ends the year higher by 12% and 13% for the Daily and Weekly portfolios. This program continues to perform as expected with good returns and modest drawdowns.
Group DE2: Divergence Program for Stocks
The Divergence program looks for patterns where price and momentum diverge, then takes a position in anticipation of the pattern resolving itself in a predictable direction, often the way prices had moved before the period of uncertainty.
Overall good performance in 2021 for this pattern program. The 10-stock portfolio gained 9% in December and the 30-stock gained 5%, netting 15% and 16% for the year. This program has a short holding period and often trades fewer positions looking for the right set-up.
Group DE3: Timing Program for Stocks
The Timing program is a relative-value arbitrage, taking advantage of undervalued stocks relative to its index. It first finds the index that correlates best with a stock, then waits for an oversold indicator within an upwards trend. It exits when the stock price normalizes relative to the index, or the trend turns down. These portfolios are long-only because the upwards bias in stocks and that they are most often used in retirement accounts.
The 10-Stock Timing portfolio posted our best returns for 2021, up 44%. The smaller portfolio was higher by 19%, mostly due to fewer days with a full allocation. The pullback patterns are not always easy to find, when combined with good returns.
Groups DF1 and WF1: Daily and Weekly Trend Programs for Futures
Futures allow both high leverage and true diversification. The larger portfolios, such as $1million, are diversified into both commodities and world index and interest rate markets, in addition to foreign exchange. Its performance is not expected to track the U.S. stock market and is a hedge in every sense because it is uncorrelated. As the portfolio becomes more diversified its returns are more stable.
The leverage available in futures markets allows us to manage the risk in the portfolio, something not possible to the same degree with stocks. This portfolio targets 14% volatility. Investors interested in lower leverage can simply scale down all positions equally in proportion to their volatility preference. Note that these portfolios do not trade Asian futures, which we believe are more difficult for U.S. investors to execute.
Please read the report describing our revised portfolio allocation methodology. It can be found in the drop-down menu under “Articles.”
Returns of less than 1% for the three Futures Trend portfolios, but gains of 27%, 21%, and 18% for 2021, well above the long-term average. Normally, most gains in futures come from the interest rate sector, next from currencies. This year was different. The chart below compares the long-term (from 1998) and 2021 returns.
Index and energy were the big winners this year, with the other sectors all showing small gains. Given the steady weakening of the USD, we’re surprised that currencies do not show a greater return, but it could have been the very small movements earlier in the year. Interest rates usually outperform because the are most often in a trend towards lower rates. That didn’t happen in the later part of 2021.
Group DF2: Daily Divergence Portfolio for Futures
A second month of small losses leaving the 2021 returns for the three portfolios all higher by 3% to 4% for the year. As a reminder, the unusual pattern of up and down returns is due to the few positions held most of the time. This program looks for a specific pattern of technical divergence, the difference between the price and the stochastic momentum.
Blogs and Recent Publications
Kaufman Constructs Trading Systems
You will find both an ebook and a print version of Perry’s new book, Kaufman Constructs Trading Systems, published on Amazon. It is a complement to Trading Systems and Methods. It takes you step-by-step through the process of developing a trading system, with many examples. Order it through our website, www.kaufmansignals.com or directly on Amazon.
Trading Systems and Methods, Sixth Edition
The sixth edition of Trading Systems and Methods was released at the end of 2019 by John Wiley. It is completely updated and contains more systems and analyses.
Mr. Kaufman’s interview with Ali Casey of Statoasis in Canada had a technical problem and will be recorded again in January.
We managed to finish November with a webinar for MetaStock, Trade View (Australia), and two for FinecoBank (Milan), in English and Italian. You will be able to find recordings of the MetaStock and Trade View presentations by going to their websites.
For those practicing their Spanish, Mr Kaufman has an article being published in Hispatrading, an on-line Spanish technical analysis magazine. It is about how to execute a trend-following strategy.
There are two pending articles to be published in Technical Analysis of Stocks & Commodities. The first, “50 Years On,” is a recap of the most important lessons learned by Mr. Kaufman. The other article, “Trading a Moving Average,” looks at two key moving average rules as well as how to time an entry. We have no dates yet for the publication.
“Playing It Safe with Cryptos” appeared in Technical Analysis of Stocks & Commodities. It’s a challenge trying to trade these markets given their extreme volatility.
Mr. Kaufman gave a 30-minute presentation, “Lagged Trends,” for The Money Show on Tuesday, May 11. You can see it using the following link:
There are new articles being published in Technical Analysis of Stock & Commodities. The next one is “Better Entries,” scheduled to appear in the May issue.
Mr. Kaufman will present to the technical students at the Universidad Politecnica de Madrid on February 3, 11 am CST. He will discuss risk and offer advice that comes from years of trading.
Technical Analysis of Stocks & Commodities published an article on Short-Term Patterns, with lots of computer code so that you could do it yourself.
Mr. Kaufman appears as a chapter in Mario Singh’s book, Secret Conversations with Trading Tycoons, published by FXI International.
Older Items of Interest
For older articles please scan the websites for Technical Analysis of Stocks & Commodities, Modern Trader, Seeking Alpha, ProActive Advisor Magazine, and Forbes. You will also find recorded presentations given by Mr. Kaufman at BetterSystemTrader.com, TalkingTrading.com, FXCM.com, systemtrade.pl, the website for Alex Gerchik, Michael Covel’s website, TrendFollowing.com, and Talking Trading.com.
November 1, 2020, Mr Kaufman taped a session with Andrew Swanscott’s BetterSystemTrader.com.
“The 1st and 2nd Cross” has been very popular with readers. It was published in Technical Analysis of Stocks & Commodities in the March 2020 issue. It is based on an idea of Linda Raschke and captures small but reliable pieces of a trending move. You can find it online.
© December 2021, Etna Publishing, LLC. All Rights Reserved.