Although the general market (the S&P 500) is in a bull market, other markets around the world are not. While buying stocks when the general market is up does give me an edge, I think I would have even a stronger edge if other markets were in support of this trend.
To determine the strength or weakness of the general market as well as foreign markets, I have created an index called the Global Market Strength Index.
The GMSI looks at 5 major ETFs:
- SPY (US Large Caps)
- EFA (European, Australasian, Far East)
- IWM (US Small Caps)
- XIU.to (Canadian Large Caps)
- EEM (Emerging Markets)
The GMSI adds 1 point if the ETF is in a short term up trend, and adds one point if the ETF is in a long term up trend. For example, SPY is in a short and long term up trend, so SPY adds +2 to the index.
If the ETF is in a short term downtrend, -1 is added to the total, and if the ETF is in a long term down trend -1 is also added to the total. For example, XIU.to is in a short and long term downtrend, so -2 is added to the total.
The lowest possible value for the index is -10. A score of -10, which we saw in 2008, would indicate a time which would be extremely conducive for short selling breakdowns.
The highest possible score is +10. A score this high would indicate a raging bull market, like what we had in 1999, 2005, or 2006. Throwing darts at the stock listings of a newspaper would most likely be profitable.
What is the value of the GMSI now? The table below illustrates:
A value of +2 means that we are slightly bullish, but not definitively so. On average, numbers that are closer to zero will likely be less conducive to trend following traders, while numbers further away from zero would bring a more favourable environment to trend traders.
So, I am long stocks, but the odds of success are not as great as they could be. How does this translate into my actual real life trading? I bet less - just as professional card counters bet less when their odds are uncertain and bet aggressively when they know their edge is real.
Finally, if you would like another opinion on this very topic, please have a look at this video presented by author Van Tharp:
