Stock Market Student

Before going any further with my system development I decided that I need to find an internet-based tool to assist in analysis instead of attempting to do everything using EXCEL.  I believe that StockScreen123 will do the job.  It is *** FREE *** for now while it is in beta.  It is a sister site to Portfolio123, which is very excellent for stock investment portfolios.

StockScreen123 is slightly less complicated to use than Portfolio123 and has the ETF backtest features that I need.  Here is a small demonstration of this web-site's capability.  Lets say I wish to short both the long and short leveraged SP500 ETFs.  Well I can't actually short the ETFs using StockScreen123 but I can demonstrate what happens over time as they are held long.  Here is how it is done.

By entering one simple rule Ticker("SDS,SSO") it tells the screener that I wish to hold equal $ value of the ticker symbols SDS (Ultrashort SP500) and SSO (Ultralong SP500).  Now by hitting the backtest button the backtest page comes up, looking something like this.

It takes a maximum of five steps to setup and run the backtest.  Some of these parameters may be suitable in their default state and do not need changing.

1. When I am in development mode I always set the slippage to zero.  Once I have a serious system I will set the slippage to something realistic.
2. I set the price to Next Open.   This means that the backtest will use the next opening price in it's calculations.  An alternative is to use Next Close.  This means the backtest will use the closing price for the next day as opposed to opening price.  This can be a better choice as there is likely less slippage than opening price.
3. Set the date range.  In this example I am doing a 2 year backtest.
4. Set the rebalance frequency to 4 weeks.  This means that every 4 weeks the holdings will be adjusted so that each ETF has equal $ value.
5. Click on the Backtest button.

The backtester then returns with a graph of performance over time and month-by-month summary in table form.

Note that there is a steady decline in return over time (except for the fall of 2008).  This is about as I would expect as leveraged ETFs tend to lose value over time.

As shown above the table summary gives a month-by-month accounting of the screen performance and an overall summary.

 Next post I am going to try backtesting 5 3x leveraged ETFs (long and inverse) to see if I can smooth out the decay.

All for now,

Steve

Last post I produced some nice graphs for the situation when x3 leveraged long and short ETFs are held at the same time.  With monthly rebalance, all of the ETF pairs investigated declined in value over time.  So now I wish to start work on a speculative "system" that shorts both the bullish and bearish ETFs at the same time.   NOTE:  Please don't confuse shorting an ETF with buying a short (bearish) ETF.  By shorting an ETF I mean borrowing shares of an ETF for the purpose of selling short.

First thing to do is surf the web for similar strategies.  As it turns out I am not the first person to think of this strategy.  Here is an interesting description of this strategy already being tested with some success:  http://www.darwinsfinance.com/short-etf-inverse-leveraged-direxion-3x/

Note the risks identified on the website above:

Not Enough Shares to Short with Broker

Margin Call

Margin Costs

Runaway Market

Addressing these issues one at a time:

Not enough shares:  Select only the most liquid ETFs i.e. highest $volume traded ETFs

Margin call:  Active position management including regular rebalancing of positions.  Selection of multiple markets which are (hopefully) not too correlated.

Margin costs:  Some brokers don't want to be bothered or want to be compensated for their effort involved with finding and borrowing shares.  Shop for a broker with small interest rate charges.

Runaway market:  Rebalancing strategy should consider how far a market has moved, not just a specific time interval.

Here are some more concerns:

Volatility:  Market volatility has been exceptionally high the last couple of years.  Low volatility may lead to losses.  Due diligence is required i.e. long term testing before jumping in.  There may also be a need to switch markets / ETFs based on predicted future volatility (if it is possible to predict).

Dividends:  Borrowed shares have to be returned at dividend time (I believe).  Thus it will be necessary to have advance notice of dividend payouts and close the positions prior to then re-open them after the dividends have been payed.

Next post I'll make a selection of leveraged ETFs for study.

Thanks for reading.

Steve