Tahoe-Truckee Market Beat: Is the trend your friend?
July 21, 2015
Wall Street certainly has its own unique jargon. Stock trading has so many old sayings that it is difficult to keep up with all of them.
One that you may hear frequently is, "The Trend is Your Friend." What that means basically is that by following the trend of a stock or an index, you can determine whether it is rising or falling and make your investment decisions based on the trend.
You want to own stocks that are rising in value and avoid those that are falling.
That sounds simple enough, but just because a stock has been rising or falling doesn't necessarily mean that it will continue to do so.
Stocks that have been rising can experience a downturn and stocks that have been falling may provide an attractive valuation.
There is some evidence that investing in stocks that have been trending higher can work, and it's known as momentum investing.
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Standard and Poor's, the company that developed the S&P 500 Index, also has an index known as the S&P 1500 Positive Momentum Tilt Index.
The way the Momentum Tilt Index works is fairly simple. Standard and Poor's looks at the 1,500 stocks in the S&P Composite 1500 Index and determines which stocks have had the best price performance over the last 12 months.
Then, they overweight the portfolio to have the most exposure to those stocks that have performed the best in the last year. Each quarter they re-balance the portfolio to maintain exposure to the stocks that have been leading in the most recent 12-month period.
The performance of the momentum index has been fairly strong. Year to date the momentum index has returned 5.61 percent versus 4.42 percent for the S&P 500 Index.
Over the last 12 months the momentum index has beaten the S&P 500 returning 12.33 percent compared to 10.83 percent.
Looking at a longer time frame, the last five years, the momentum index has outperformed the S&P 500 by 0.64 percent annually, returning 17.93 percent per year compared to the S&P 500, which has returned 17.29 percent per year.
Whether or not the trend is your friend depends on which side of it you're on. The momentum style can definitely be worth considering as part of your long-term strategy.
Kenneth Roberts is a Truckee-based Registered Investment Advisor. Information is at his blog at http://www.sellacalloption.com or 775-657-8065. The mention of securities should not be considered an offer to sell or solicitation to buy investments mentioned. Consult your investment professional to understand the risks and/or how the purchase or sale of these investments may be implemented to meet your investment goals. Past performance is no guarantee of future results.