System Pros and Cons
This test revealed some interesting system characteristics—and there is no way we
could have found out about them using any of the publicly available system test-
ing programs.
Running this system on any of the three individual markets in the portfolio
resulted in less-than-desirable results. The NASDAQ 100 index, for instance, per-
formed fairly well up until the last several months, at which point it gave back all
its previous profits and more.
The DJIA, however, didn’t trade well at all until the last year or so, at which
point it started to post terrific results. The S&P 500 had a steady upward-sloping
equity curve over the test period, but the result was a mere doubling of the initial
equity over more than 10 years of trading. Simply summing the results of the
three markets traded individually would have resulted in the portfolio just break-
ing even.
But when we combine all markets into one portfolio and use a fixed-
fractional money management strategy (risking 2 percent of equity per trade), as
we did in this test, things start to happen. The interaction between the markets
creates much better results. First, the steady upward slope of the S&P 500 equity
creates stability. Second, the combined positive returns of the S&P 500 and
NASDAQ over the first several years results in much faster equity growth than that
of any individual markets.
Naturally, the fixed-fractional money management strategy also adds to this
growth in a way other money management techniques do not, because you’re risk-
ing more when your equity is increasing and risking less when your equity is
decreasing.
Third, because this system looks at the relative strength among several mar-
kets and allows both long and short signals, there are plenty of situations where
one market acts as catastrophe protection for another, which is exactly what hap-
pened over the last few months when the NASDAQ underperformed and the DJIA
performed better than ever.
Finally, if two markets signal entry on two consecutive days, it may or may
not be possible to enter into the second market, depending on how much capital is
tied up in the first market. This often prevents entry into bad trades in the weaker
of the markets. Both these factors also work together to produce very low draw-
down numbers.Revising the Research and Modifying the System
For the original system, I only looked at three indexes: S&P 500, NASDAQ 100,
and DJIA. As it turned out, the result produced by these three markets has not held
up since the system was published. We’ll discuss the reasons for this while weCHAPTER 11 Relative Strength Bands 125