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Asset Rotation Model

Asset Rotation ModelThe Asset Rotation Model (ARM) helps you determine how to position your investments to capitalize on growth in both stocks and bonds, while largely avoiding those unfortunate periods of major market declines.

The ARM uses a dynamic approach to asset allocation. It examines the performance of both stocks and bonds, and positions itself accordingly to generate maximum growth for a portfolio. Under adverse economic conditions when either stocks, bonds, or both are losing value, the ARM moves to a cash position to avoid the major losses associated with market crashes.

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The chart below shows the back-tested performance of the ARM over the last 17 years. For comparison, the performance of SPY (an index fund that tracks the performance of the S&P 500) and AGG (an index fund that tracks the performance of bonds) are included in the chart. By using a dynamic approach to asset allocation, the ARM was able to generate significantly higher returns than both stocks and bonds, while avoiding major losses during the last two market crashes.

Asset Rotation Model

Model performance represents total returns and includes reinvestment of dividends and interest. No management fees or transaction costs are included. Historical performance is not an indication or guarantee of future performance.

 

The Asset Rotation Model selects the top performing asset class each month (between stocks, bonds and cash) and shifts its investment accordingly. Often, the model remains in a particular asset class for months or years at a time.

The strategy behind the Asset Rotation Model allows it to avoid severe market declines. In the early 2000’s the ARM was able to sidestep the dot-com collapse by moving to the safety of bonds. When stocks began to recover, the ARM shifted back into stocks and rode the bull market higher until the beginning of the financial crisis. At that point, the deteriorating returns in stocks caused the model to shift back into bonds, safely riding out the financial crisis with minimal losses. When stocks resumed their ascent once again, the ARM switched back into stocks to take advantage of their strong growth.

This unique approach to asset allocation contradicts much of the standard industry dogma when it comes to choosing between stocks, bonds, and cash. However, many investors immediately recognize the benefit of only being exposed to a certain asset class when it exhibits positive price performance. Why sit with stocks through a market crash? And why hold bonds if their total returns are negative for extended periods of time? Click here for an explanation on why dynamic asset allocation is a better alternative to the standard fixed-allocation approach.

The ARM not only results in higher returns, it also substantially reduces overall portfolio risk. The table below contains a series of portfolio statistics that allow you to compare the ARM against portfolios of stocks and bonds.

Asset Rotation Model (ARM) Portfolio Statistics
Strategy Compound Annual Return Alpha1 Beta1 Standard Deviation Maximum Drawdown Sharpe Ratio Sorentino Ratio Treynor Ratio
ARM 8.46% 5.40% 0.37 8.81% -15.27% 0.79 2.27 0.19
SPY (S&P 500) 4.41% 0.00% 1.00 18.03% -50.81% 0.24 0.28 0.04
AGG (Bonds) 4.94% N/A -0.05 3.33% -4.30% 0.96 5.44 -0.60
Data for 17-Year Period (2000 – 2016)           1 Benchmarked against the S&P 500

Over the last 17 years the ARM’s compound annual return has significantly outpaced that of both stocks and bonds. When compared to stocks, the ARM generates strong excess returns while experiencing less than half the volatility (risk). The reduced volatility and enhanced returns provide for notably higher risk-adjusted returns, as evidenced by the Sharpe, Sorentino and Treynor ratios, and a positive Alpha.

For a complete description on how to interpret various portfolio statistics, please click here. Or for a quick reference guide, see here.

The ARM utilizes two exchange-traded funds (ETFs), which are listed below. SPY is the largest and most widely used ETF for exposure to the S&P 500. AGG is the largest and most widely used bond ETF; it tracks the Barclays U.S. Aggregate Bond Index. If and when both stocks and bonds are performing poorly, the ARM will switch to a cash position to minimize losses. The ARM has not gone to cash during the last ten years.

Asset Rotation Model (ARM) Investment Options
ETF Description Asset
SPY SPDR S&P 500 ETF Stocks
AGG iShares Core U.S. Aggregate Bond ETF Bonds
Cash and/or cash equivalents Cash

The current ARM selection and ongoing monthly updates are accessible with a premium subscription. Updated recommendations are provided on the first day of each month. Sign up today for access to the Asset Rotation Model and all of our other models.

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The information provided here is for informational purposes only. Model returns do not reflect any management fees, transaction costs or expenses. Investing involves a great deal of risk, including the loss of all or a portion of your investment. Nothing contained herein should be construed as a warranty of investment results. Past performance is not an indication of future results. All risks, losses and costs associated with investing, including total loss of principal, are your responsibility. Model Investing maintains positions in the funds discussed within this site according to model recommendations.
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