By: Chris Rowe — August 13, 2019
With the 10-year Treasury paying a lower yield than the average S&P 500 stock, you can feel even more confident about a continued bull market.
(I'll explain that more in a minute.)
And specifically, you can feel confident that the coming 12 - 18 months will be especially favorable for "relative strength investors".
Further, the market will likely be favorable for those using relative strength in conjunction with "sector rotation".
Relative strength and sector rotation are the two "factors" that I've combined and used to generate pretty substantial returns over the years. So much so, that I've built several businesses around the concept.
If you're not using a specific rules-based approach, you might feel like your trading is all over the place. So if you haven't yet "joined the club", then (because of the way the stock market and all global financial markets are shaping up)...
Now would be an excellent time to try using this approach.
Relative strength (a.k.a 'momentum') investing outperforms the market benchmarks over the long-term - something 90% of professional fund managers can't do. There's no denying it, assuming the potential denier knows how to perform a Google search.
The strategy tends to outperform for an average of 3-4 years before going through a period of underperformance for an average of 3-9 months.
It works best when markets have strong leadership and a continued trend, which is most of the time. Basically, as long as price-trends exist, relative strength investing outperforms.
Using it in conjunction with sector rotation makes things even easier. That's because sectors (industry groups) move as a result of huge and often global shifts in the economy.
Individual stocks can move based on something as "local" as a CFO with a heroin addition who's cooking the books. Or an acquisition. Or an FDA approval.
You can even end up with a 30% haircut from a bad earnings announcement.
But sectors on the other hand move in long, steady, reliable trends because of large and often gradual changes based on in things like: laws, wars, new discoveries, climate fear or the lack thereof... and, of course, interest rates.
Currently, interest rates are super low. And when they are, stock prices tend to advance. This is investing 101, so bear with me for a second as I cover a basic concept...
In case you aren't clear on this, interest rates and bond prices have a direct inverse correlation. Generally speaking, when interest rates are going down, bonds are going up and vise versa.
So when rates are very low, bond prices are very high. They become unattractive. After all, why buy bonds knowing they're priced very high? Especially when interest rates can't go much lower (meaning: bond prices can't go much higher).
And if the S&P 500 is actually paying dividend yields that are higher than interest rates... then investors shift to stocks, where they can get the same income with all the upside of the stock market. Low rates also enable companies to borrow cheaply, which helps propel the economy and stock prices.
Here's a table that was posted by our friends over at Dorsey Wright.
It shows how the stock market performed following the previous eight times (every time since the 2008 low) the 10-year Treasury yield crossed below the S&P 500 dividend yield.
Check out the first two columns. Most of the time it lasted only a few months. Once it lasted a year and a couple of times about half a year. But look at the returns over those time frames. A median return of 9.54% is huge, considering the stock market returns an average of about 7% - 8% annually over any very long-term time frame.
If you study the rest of the chart you'll come away feeling pretty bullish about this development. And strong markets mean strong leadership that stays in place for a long time, which is the perfect climate for relative strength investing and sector rotation.
This image certainly speaks "a thousand words". It shows how relative strength followers invest. We never buy at the exact low or sell at the exact high.
The only way we know if it's time to exit a stock or a sector is by the stark fact that -- right now -- it's underperforming other stocks and sectors, which means it is declining. So in order to generate a signal that it's time to exit, the position will have had to have declined.
Usually, this happens after a nice long run higher. That's why relative strength investing works when there are long steady trends in leadership.
But when leadership only takes hold for a short time before passing the baton to another group, you end up buying when something is strong... and then after it goes down you sell and get into the next thing. That's when the strategy underperforms.
The next question you'll ask is whether or not you want to try and TIME THE STRATEGY ITSELF. I'd say its best to avoid doing that if you're a beginner. When the strategy goes through periods of underperformance, it's usually followed by a period of dramatic outperformance. So waiting out the strategy is usually the best move. And as I mentioned above, periods of underperformance typically last only a few months.
Keep reading True Market Insider. Take part in the other programs we publish, because we are constantly writing about relative strength investing.
It's best to learn one strategy and stick with it, when the strategy has proven to work over the last century. You don't have to learn about the oil sector when oil is hot, or tech companies when tech is hot, or emerging countries when those stock are hot.
You only have to learn to identify relative winners, and let the strategy itself guide you into whatever is hot at the time.
You'll eventually find yourself getting into things long before the rest of the herd says it's a good idea.
Like when I recommended Precious Metals stocks in March of this year, because my data platform Sector Prophets signaled that it was time. Everyone else started recommended the group months later, after the biggest part of the gains already occurred.
I won't list all of the great achievements of late that came from this platform. When you're ready, you'll sign up.
But my point is to get into relative strength investing and stick with it. You're in a market that will likely be perfect to learn in.
True Market Insiders
PS: Think of it this way, learning to use a particular investment methodology is like learning martial arts. If you don't learn a certain method, then you might just be like that person who wants to demonstrate to you their defensive fight-move, where they say: "Okay, walk toward me with your arm up exactly like this, and do a stabbing motion exactly like this, and watch how well I can block this move."
You want to learn and spend your life mastering an investment approach as a way of life. You want to be able to naturally fight your way through the financial markets, where you naturally know what to do next. You want to learn one way that works, and just get better and better at that thing so your investment education isn't a moving target.