Direction of Change Forecasting III: One Signal, Many Markets

September 26, 2013
By

(This article was first published on unstarched» R, and kindly contributed to R-bloggers)

In the global economic landscape, national borders have become increasingly blurred. Local economies depend on competitively priced global inputs and on well functioning and prosperous global markets for their exports. This interdependency also means that as a system, a crisis in one area quickly spreads to others areas like a ripple spreading outwards. And sometimes the ripple turns into something much bigger as recent history has shown.

As a (the?) major economic leader, the United States is able to define, by and large, the terms of trade globally, set the tone for how business is conducted (or misconducted) and has been able to continuously set the pace of innovation in a large number of fields.

In this article I bring to a close the directional forecast theme by investigating whether the signal from the dynamic binary US equity model can serve as a global indicator of market direction. I find good evidence that this is the case in most equity markets investigated, with clear implications for portfolio diversification and resource allocation.

The setup

As in the article on the UK market, the signal from the US dynamic binary model (DBM) is used to time a number of other markets. To avoid contemporaneous signal/buy decisions or any issues relating to different timezones, the trade decisions are based on the day following the signal generation. Flat periods (no buy signal) are credited interest based on the 1-Month US Treasury, reflecting the position of a US based investor.

The countries tested consist of national market indices, as published on Yahoo Finance, and as such do not reflect total returns. These are, by region:

  • Europe: Netherlands (AEX.AS), Spain (IBEX), Frace (FCHI), Germany (GDAXI), Belgium (BFX), Switzerland (SSMI), UK (FTSE)
  • Asia/Pacific: Australia (AORD), Hong Kong (HSI), Japan (NIK225), Singapore (STI)
  • North America: US (GSPC), Canada (GSPTSE), Mexico (MXX)

As benchmarks, the Buy and Hold (B&H) and an Exponentially Weighted Moving Average 10 month crossover (EMA) strategies are considered.

US Model, Global Timing Portfolios

Figures 1 to 3 show, by region, the cumulative performance plots of the strategy against the 2 benchmarks. There is no doubt that the is ‘something’ in the US signal.

european_indices

Figure 1: European Indices

 

asian_indices

Figure 2:Asia/Pacific Indices

 

Figure 3: North American Indices

Figure 3: North American Indices

Tables 1 to 3 provide the summary statistics of the strategy against the 2 benchmarks, while Table 4 provides a summary ranking according to the DBM strategy Sharpe ratio.

Table-1:Europe

european_table

Table-2:Asia/Pacific

asian_table

Table-3: North America

america_table

Table-4:Sharpe Ranking

sharpe

Concluding Remarks

One signal, 14 markets…what else needs to be said.

Certainly, the US model has not captured all global risk factors during this period, and in particular, the August 2011 crash is obvious in almost all the plots. This however also means that one need only focus on one model and one extra factor rather than on 14 individual models.

To leave a comment for the author, please follow the link and comment on his blog: unstarched» R.

R-bloggers.com offers daily e-mail updates about R news and tutorials on topics such as: visualization (ggplot2, Boxplots, maps, animation), programming (RStudio, Sweave, LaTeX, SQL, Eclipse, git, hadoop, Web Scraping) statistics (regression, PCA, time series, trading) and more...



If you got this far, why not subscribe for updates from the site? Choose your flavor: e-mail, twitter, RSS, or facebook...

Comments are closed.