I have been working with my friend Jeff Pietsch, a fellow professional trader, to develop a low-frequency, rotational ETF strategy suitable for trading via options. On Friday, I announced that strategy signals and updates would be made available exclusively via TheStreet’s Options Profits service. In the future I do plan to repost substantive commentary and performance updates for the strategy here at Condor Options, but not specific trade signals. In this post, I want to introduce the primary features of the strategy; on Monday, we will execute our first set of trades.
Once each month, the Pietsch-Woodard Rotational (PWR) strategy selects from a basket of 18 ETFs the three candidates displaying the best scores on a set of objective momentum- and correlation-based criteria. The basic idea behind rotational or relative strength strategies is to allocate capital in a systematic way to the assets that are displaying the most positive momentum or strength versus their peers. If stocks are weak, we might be trading in bonds or commodities; if small-cap equities are performing better than mega-caps, our trades might be in the iShares Russell 2000 Index (IWM) instead of the SPDR Dow Jones Industrial Average ETF (DIA). Our universe of candidates includes several U.S. and international equity indexes, gold, crude oil, the U.S. dollar, the euro, bonds, real estate, and agriculture.
When signals are generated each month, we enter options positions in each of the three indicated ETFs. Then, each week, we perform risk-management scans to see whether the strategy has issued any exit signals for the open positions. Potential weekly exits allow us to get out if the market breaks down very quickly; otherwise, the strategy shifts deftly to low- or negative-beta positions in bear markets.
The three possible ETF candidates or “slots” may not always be filled: we might have one position open with the other two slots in cash, or all three might be in cash when market conditions dictate. This is a long-only model, meaning we only select candidates to which we want long exposure. Trading on the short/bearish side is certainly worthwhile, but historical research and back-testing showed it to be ineffective for a lower-frequency model like this one. Within each of the three slots, we may trade one to five units. That means the strategy is accessible even to traders with smaller accounts, since a maximal-allocation set of signals would only require trading 15 contracts (five contracts for each slot).
We are trading options instead of the underlying ETFs to use capital/margin more efficiently, to reduce our risk, and to profit from volatility. Still, I thought it might be helpful to show the back-tested hypothetical performance of the strategy trading the underlying ETFs, compared to S&P 500 returns since 2001.
I will publish our first set of trades on Monday exclusively on OptionsProfits, and in the mean time, please send me questions @CondorOptions.