The World Country Top 4 ETF strategy A way to fight rising rates and a stalling US stock market

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1 The World Country Top 4 ETF strategy A way to fight rising rates and a stalling US stock market Summary The World Country Top 4 strategy is a strongly momentum driven strategy creating high returns. The strategy profits from a maximum global diversification. With a 20-year CAGR of 20.7% the strategy has a much lower volatility and lower risk than an S&P 500 investment. In my last articles I described various momentum strategies with variable allocations using our maximum Sharpe method. A good example how to build such a strategy is the Universal Investment Strategy (UIS) which always invests in a variable allocation of TLT and SPY. However, UIS is a strictly a U.S.-based equity and bond strategy. In the short term, this strategy cannot do much better than its own underlying ETFs, namely SPY and TLT. Today, many market analysts are less optimistic about the US market. The US stock market may have culminated after 6 very strong years following the 2008 subprime crash. Treasuries, at least in the past 2 months, are underperforming as they begin to anticipate rising yields. It is possible that the UIS strategy underperforms for a few months. Keep in mind that the UIS strategy has been backtested for more than 20 years and I am quite sure that it will continue to work in the future. However, as with ETFs, every so often, one has to evaluate which strategies outperform and possibly switch some capital to the better performing ones. We have several new strategies under development (e.g., Countries, Nasdaq 100, Dow 30, US Industries) and we are already investing in these strategies, as to validate them before publication. To address an underperforming US market, I think the best of these strategies is the Country rotation strategy, which always invests in the top 3 to 4 of 49 countries. One thing is for sure: there are always countries in this selection which are doing well, unless there is a major global crisis. During global crisis, all country equity markets may struggle, while money will rush to safe assets like treasuries. Individual country ETFs can easily lose 50% or more of its value if there is a bad government in place. However, after such a period, most of the time, the next government will be more market oriented and the ETF will recover. This political influence of changing governments creates good up and down movements of the country ETFs and these movements are quite independent of the world stock markets. So these country ETFs are well suited for ETF rotation momentum strategies. If you look at the ETF table at the end of this article, then you will see that there are quite a lot of interesting countries, in which a normal investor would probably never invest without the help of such a strategy. At the moment the strategy is for example invested in: 30% - EWJ (ishares MSCI Japan Index Fund) 10% - EIRL (ishares MSCI Ireland Capped) 30% - EWH (ishares MSCI Hong Kong Index Fund) 30% - EIS (ishares MSCI Israel) If you read financial papers, you may from time to time, read of these countries. But by the time you read the positive articles in the press, it is already too late to invest. The country strategy uses a lookback period of 68 trading days. This means that it only needs a little bit more than 3 month to detect if a country is changing from a loser to a winner.

2 Not all ETFs are single countries. Some represent regions, like for example Africa, the Gulf states or Frontier markets. These ETFs allow you to invest in regions where a single country ETF would be much too small and volatile. Country ETFs can be quite volatile, so a Top 1 ETF strategy would be much too dangerous. With 50 ETFs you can invest in quite a lot of top ETFs. For Hedge funds, we would even invest in the top 10 ETFs. For the individual investor the Top 4 ETF strategy gives the best results. It will smooth out single ETF volatility while simplifying execution and reducing costs. It should be easy and cheap to rotate these 4 ETFs once a month if you have a good discount broker account. Most of the time you will only need to rotate 2 ETFs every month since the strategy may stay invested in the other two for longer periods. Besides country ETFs you still need a safe haven asset in the case of a market correction. The best safe haven asset is the long term treasury bond. Rising rates do not negatively affect the strategy in this case. Once the markets crash, Treasuries quickly become the asset to go to for many investors, and this will remain so even in a raising rate environment. In our strategy we use the TMF 3x leveraged long-term Treasury (20yr) ETF. The 3x leverage of TMF makes sure that we can hedge the volatility of the other country ETFs with a relatively small amount of TMF ETFs. Normally the strategy will invest in 0-30% TMF Treasury ETFs and 70% or more country ETFs. TMF effectively reduces the volatility and risk of the strategy. The volatility is nearly reduced by a factor of 2 and the strategy is less volatile than a normal S&P 500 investment. Another advantage of TMF is that you do not have to pay the 30% withholding tax on the dividends like with non-leveraged bond ETFs. The strategy uses a dynamic ranking method using our modified Sharpe ratio. The country ETFs and the TMF treasury are mixed together to achieve the maximum modified Sharpe ratio for the lookback period. Here also we use a volatility attenuator of 2, which means that volatility has a slightly higher weight in the formula. If Treasuries don t do well then the strategy will not invest in Treasuries. Backtest description: 20 year backtest The first backtest was run for the maximum possible duration of 20 years. Only about a third of the ETFs go back to These include mostlry major European countries as well as Japan and Mexico. So for the first 10 years the ETF selection is much smaller than today, but nevertheless the backtest shows that such a country rotation worked well during the last 20 years. I have used the VUSTX mutual fund which is very similar to TLT to construct a synthetic long term TMF ETF. It is interesting to see, that the strategy always kept a high annual performance of about 20% with a volatility lower than the volatility of an S&P500 investment and considerably lower than an investment in European or Asian stock markets.

3 20 year statistics Return CAGR Volatility Drawdown Sharpe Top 4 country 3380% 20.8% 16.5% -36% SPY 365% 8.5% 20.1% -55% VUSTX (TLT) 288% 7.5% 10.8% -18% (27%) year backtest The 10 year backtest uses TLT as the safe haven asset and uses more available country ETFs. The strategy did well during the 2008 crisis. The Sharpe (Return to Risk) ratio of 1.2 is nearly 3x higher than a SPY or TLT investment.

4 10 year statistics Return CAGR Volatility Drawdown Sharpe Top 4 country 556% 20.7% 16.4% -36% SPY 119% 8.2% 20.4% -55% TLT 85% 6.4% 14.5% -27% year backtest The 5 year backtest has an even higher Sharpe of 1.82 because since the 2008 crisis the long term Treasury (TMF) correlation to the stock market was mostly negative, which allowed to further reduce volatility. 5 year statistics Return CAGR Volatility Drawdown Sharpe Top 4 country 183% 23.1% 12.7% -10% SPY 119% 17.0% 15.5% -18% TLT 41% 7.2% 15.4% -20% Year to date backtest The last backtest is the year to date performance. As you can see the strategy did quite well with a 12.3% performance and at this point it carries no Treasury exposure at all. In other words, presently, it will not be affected by further declining Treasuries due to rising rates.

5 YTD statistics Return until May 21 CAGR Volatility Drawdown Sharpe Top 4 country 12.4% 35.8% 14.3% -5% SPY 4.0% 10.8% 12.4% -4% TLT -4.9% -12.4% 16.6% -14% Neg. Table of strategy ETFs 1 AFK Market Vectors Africa Index 2 ASHR Deutsche X-Trackers CSI 300 China A Shares 3 ECH ishares MSCI Chile Fund 4 EGPT Market Vectors Egypt Index 5 EIDO ishares MSCI Indonesia Index 6 EIRL ishares MSCI Ireland Capped 7 EIS ishares MSCI Israel 8 ENZL ishares MSCI New Zealand Investable Market 9 EPHE ishares MSCI Phillipines 10 EPI WisdomTree India Earnings Index 11 EPOL ishares MSCI Poland Index 12 EPU ishares MSCI Peru Index 13 EWA ishares MSCI Australia Index Fund 14 EWC ishares MSCI Canada Index Fund 15 EWD ishares MSCI Sweden Index 16 EWG ishares MSCI Germany Index 17 EWH ishares MSCI Hong Kong Index Fund 18 EWI ishares MSCI Italy Index 19 EWJ ishares MSCI Japan Index Fund 20 EWK ishares MSCI Belgium Index

6 21 EWL ishares MSCI Switzerland 22 EWM ishares MSCI Malaysia Index Fund 23 EWN ishares MSCI Netherlands Index 24 EWO ishares MSCI Austria Index 25 EWP ishares MSCI Spain Index 26 EWQ ishares MSCI France 27 EWS ishares MSCI Singapore Index 28 EWT ishares MSCI Taiwan Index Fund 29 EWU ishares MSCI United Kingdom Index 30 EWW ishares MSCI Mexico Index Fund 31 EWY ishares MSCI South Korea Index Fund 32 EWZ ishares MSCI Brazil Index Fund 33 EZA ishares MSCI South Africa Index 34 FM ishares MSCI Frontier Markets ETF 35 FRN Guggenheim BNY Mellon Frontier Mkts 36 FXI ishares FTSE China 25 Index Fund 37 GAF SPDR S&P E.M. Middle East & Africa 38 GULF WisdomTree Middle East Dividend Index 39 GREK Global X FTSE Greece GXG Global X Interbolsa FTSE Colombia IDX Market Vectors Indonesia 42 MCHI ishares MSCI China Index 43 MES Market Vectors DJ Gulf States (GCC) Titans 44 NORW Global X FTSE Norway 30 ETF 45 QQQ PowerShares Nasdaq-100 Index 46 RSX Market Vectors DAXglobal Russia 47 THD ishares MSCI Thailand Index 48 TUR ishares MSCI Turkey 49 VNM Market Vectors Vietnam 50 TMF Direxion 3x leveraged 20-yr Treasury