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January 02, 2009

January 2009 Model Signals

Northlake's monthly Market Cap and Style models favor Small Caps and Value for January. As a result, client and personal accounts have a position in the Russell 2000 (IWM or IJR) and the Russell 1000 Value (IWD or IVE). These positions are unchanged from December. In fact, the small cap signal has been in place since the beginning of September and the Value signal has been in place since the beginning of October.

The small cap signal is at its strongest reading since July 2003. Eight of the ten indicators covering a variety of economic, interest rate, sentiment, and technical factors favor small caps. The stronger reading from last month is due to small caps outperforming in December which shifted the technical indicators from neutral to small cap.

The value signal weakened this month and is now a weak signal. Only four of the nine factors favor value over growth but those that do are sending strong signals. One factor shifted from value to growth this month. Advisory service sentiment shifted after sentiment came off an extreme negative reading.

The models worked OK last month....

....Small cap was a good call as IWM rose 4%, far ahead of the S&P 500's gain of 0.78%. Growth slightly outperformed value last month due to large cap growth stocks. Small cap growth and value provided similar returns.

Since the current signals went into place the results are mixed. Small caps have significantly underperformed sharply thanks to the shellacking they took in the teeth of the decline in October and November. Value has slightly outperformed growth for the past three months but the incremental gains were immaterial given the rout in the market.

As a reminder, the models were originally developed and continue to be maintained by Ned Davis Research. NDR tested many factors for their predicative ability in the small cap vs. large cap and growth vs. value debates. The factors making up the model were chosen due to their predictive ability and to provide variety across economic, interest rate, and stock market/technical indicators. NDR uses a weight of the evidence approach so broad exposure is important. If 8 of 10 indicators across a variety of factors line up similarly your odds are probably pretty good.

Posted by Steve Birenberg at January 2, 2009 02:01 PM in Models