Another New Low in Market Volatility

Another New Low in Market Volatility

Posted on July 07, 2014

Canterbury Portfolio Thermostat - Weekly Update – 07/07/14

Market State 1 (21 trading days) - Long-term: Bullish; Short-term: Bullish. 

Canterbury Volatility Index is at CVI = 42: The CVI (volatility) declined another point last week. The CVI is 6 points away from its lowest reading since 2/23/2007 (over 7 years ago) at CVI = 36. As a point of reference, prior to the 1950’s, the lowest CVI readings occurred on the following dates: 

  • Volatility hit a low at CVI = 34 on 10/11/95.
  • The previous low was CVI = 32 on 1/06/1994 (over 20 years ago)

A reading below CVI = 75 represents a low risk market environment. 

Overbought/Oversold Indicator:
Our Overbought/Oversold indicator finished last week at 52% oversold (short term Neutral) versus the previous week’s more positive reading at 74% oversold (short term Neutral to Bullish). 

The decrease in the oversold condition (slightly short term negative) was the result of the S&P 500 and Dow rising 1.25% and 1.28% respectively, for the week. The NASDAQ was up 1.70% and continues to outperform. A healthy Bull market will typically have the NASDAQ outperforming the S&P 500 and the Dow.

Market Comment:
Almost all of the Portfolio Thermostat’s indicators were Bullish last week. It was no surprise that most of the major equity market indexes had a good week. 

Here is a quote from the previous Weekly Update on 6/30/14: As of today (6/30/14), almost all our primary indicators are positive and risk is low. Almost every one of the Portfolio Thermostat’s indicators are positive or Bullish on most major equity markets.  The probabilities favor a new leg up and if that does not happen our indicators suggest that the downside, from here, should be limited.

The Portfolio Thermostat’s indicators remain Bullish, but they are not as positive as they were last week. The buying power from the end of the second quarter "window dressing” is over. In other words, money managers will tend to put cash to work, at the end of an up quarter. The primary purpose is to make their portfolios look more presentable to clients.

The CVI volatility can only record extremely low volatility readings when the market, or a portfolio, remains very tight trading range for several months. Most major equity market indexes have been fairly stagnate and slightly advancing over the last six months. Low market volatility is typically followed by a sharp increase in short term volatility. As I have said before, a tight trading range is like squeezing a spring between your thumb and fore finger. The tighter you squeeze, the bigger the pop when you let go. 

During the first two quarters, many global equity markets did show positive returns, but most are not setting the world on fire. The majority of the Portfolio Thermostat’s ETF’s have been rated as Buys for most of the year. This combined with a slow market movement means that the difference between the strongest and weakest Buy rated ETF’s can be only just a few percentage points.  In this environment 3% to 7% return difference can quite simply due to luck and randomness.

12/31/2013 through 06/30/2014
Dow Jones Industrial Average = 2.68%
S&P 500= 7.14%
Russell 2000 = 3.19%
Source: Orion Advisors

Bottom Line:
It will take a meaningful short term move to break the equity markets out of the current extremely low volatility environment. Such a move may require some additional sideways consolidation to get the overbought/oversold indicator to 95% plus oversold. This indicator has proven to be reliable spring board for many other market rallies when it gets to 95% or higher.

Portfolio Thermostat:
The Portfolio Thermostat model currently holds 14 Exchange Traded Funds. The optimum number of holdings in Market State 1 is 12 to 14 ETFs. Owning more than 14 would limit the impact of owning the strongest ETFs in our universe. Owning fewer than 12 ETFs would limit the broad diversity connected with Market State 1. 

The number of ETFs owned in a portfolio is determined by the current Market State (6 Market States are Bullish, 2 are Transitional and 4 are Bearish). Our studies show that one the most important components is maintaining an optimum portfolio, with the highest return and lowest risk, is directly connected to the number of holdings and the allocations between Global Equity ETFs and Alternative ETFs. Over diversifying by holding more positions than the Portfolio Thermostat’s optimized model will impact the ability to quickly adjust to changing environments. 

Canterbury Investment Management: Tom Hardin

More About Tom Hardin

As Chief Investment Officer, Tom Hardin, Chartered Market Technician (CMT), makes all the final decisions on all investment and portfolio management decisions for Canterbury Investment Management. Tom has more than 30 years experience in the investment management industry and has broad breadth of knowledge. He is known as an innovator, educator and been revolutionary in the advancements in portfolio and risk management.

Every effort was used to provide accurate data and mathematical calculations to provide, what we believe to be, accurate results. Canterbury Investment Management, LLC, and its principal owners, make no guarantee of completeness or accuracy of data or calculations as well as conclusions of any statistical data or information contained in the simulation illustrated on this page. Past results or performance is in no way a guarantee of future results.