ETF Replay Portfolio For September

This month’s ETFReplay.com Relative Strength ETF Portfolio has been updated at Scott’s Investments and includes turnover in three out of four positions.

I previously detailed here and here how an investor can use ETFReplay.com to screen for best performing ETFs based on momentum and volatility. I select only the top ETFs out of a static basket of 25 ETFs and re-balance the portfolio monthly.

The buy/sell strategy for the portfolio is simple: purchase the top ETFs based on a combination of their 6 month returns, 3 month returns, and 3 month volatility (lower volatility receives a higher ranking) and the average of the 3 month return, 20 day return, and 20 day volatility. I refer to these two different sets as “6/3/3″ and “3/20/20″. The top 2 ETFs in the 6/3/3 ranking and top 2 in the 3/20/20 ranking are purchased each month. When there are duplicates in the top 2, I look to the third ranked ETF in the 3/20/20 and, if necessary, the third ranked ETF in the 6/3/3. The strategy always holds 4 ETFs.

I track this strategy as a public portfolio on Scott’s Investments. As of the close August 31st the hypothetical portfolio was up 12.25%, since inception on January 1st, 2011. Returns include dividends but exclude commissions and taxes and all trades are hypothetical so real results will differ. For some backtests on these strategies please see a recent post here.

For August 31st the strategy sold its positions in iShares iBoxx Invest Grade Bond (LQD) at a gain of 3.30% and an original purchase date of 5/31/12, iShares Barclays Long-Term Treasury (TLT) at a loss of 1.53% and a purchase date of 7/31/12 and U.S. Utilities Sector SPDR (XLU) at a gain of 1.25% and original purchase date of 5/31/12 (individual ETF returns exclude dividends).

Proceeds were used to purchase Vanguard MSCI U.S. REIT (VNQ), Vanguard MSCI U.S. SmallCap Value (VBR) and PowerShares DB Commodity Index (DBC). The portfolio also continues to hold its position in the PowerShares Emerging Markets Bond (PCY) .

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Minor fluctuations in rankings may not always justify selling positions each month. For example, if one ETF drops from the second highest rated to the third or fourth highest rated, it may not warrant selling the position. An investor could only sell a position when it drops out of the top 4 or 5 at the end of the month. This type of modification could be used when someone is looking to limit turnover; however, I think it is important to have whatever rule you prefer to use in place prior to making the investment decision in order to avoid discretionary or emotional decision making.

Below are the top 6 ranked ETFs for this month, using both the 6/3/3 and 3/20/20 strategy:


Below is a performance graph of the portfolio (green) versus SPY (SPDR S&P 500 ETF) and AOR (S&P Growth Allocation) from the portfolio’s inception until August 31st, 2012. Total returns are similar but a significant drawdown was avoided in 2011: