Drawdown risk for the different logical-invest strategies

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Drawdown risk for the different logical-invest strategies2017-03-03T15:27:34+00:00
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  • Frank Grossmann
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    Post count: 167

    I have been asked by a subscriber about the drawdown risk for the different strategies. As you can perhaps imagine, there is no strategy without intermediate drawdowns. The logical-invest strategies are trend following strategies, so they work best if some of the ETFs show a clear trend which should remain for a period of at least 2 month. So, normally the strategies work well, if the stock market is going up, or if we have a financial crisis with stocks going down and Treasuries going up.
    Sometimes the market does not know where to go. A lot of time such periods are periods of political troubles, which could have a global effect on the markets. The first 4 months of 2014 for example, the world markets have been driven by political events (Ukraine crisis) rather than by the world economy.
    In such times, this political uncertainty has the effect, that investors switch in short intervals between “risk on” and “risk off” mode. Risk on mode means, that they invest in the rather risky stock market. Risk off means that they invest in safe Treasuries.
    These uncertain times are normally responsible for intermediate drawdowns of the strategies, as every time you switch to another ETF, it is merely a political guess what happens next month. Contrary to economical trends, which can be statistically analysed, politics is like roulette. The only thing about such times of political crisis is, that most of the time investors overreact. They panic and go in “risk off” mode very early. They buy Treasuries or VIX Futures to protect their portfolios, only to sell everything some days later with a loss.
    Fortunately, times with some markets in a clear up or down trend are more frequent, than such political uncertain times. A lot of this political problems are also quite small problems, which solve them self within a short time.

    Now the logical invest strategies are optimized with the only goal, to produce more winning months than losing months. The percentage of winning months compared to losing month can be analysed statistically, doing backtests of the strategies.

    The Global Market Rotation Strategy has for example about 70% winning months with an average profit of 5% and 30% losing months with an average loss of 4% over the last 10 years. So, it is normal, that every 3rd month is a losing month and the chance is quite big, that sometimes also 2 or 3 losing months can follow each other.

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