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Market timing: Buying on the dips
Old 09-04-2009, 02:58 PM   #1
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Market timing: Buying on the dips

I wrote this thread partly to put down somewhere what I am doing which will tend to make me follow it, but also to see if anyone else has a short-term buy-on-the-dips strategy and how you implement it. Thanks!

As part of my investment policy statement, I must buy on the dips. My strategy stems from those "best days / worst days" articles. If you miss the N worst days in the market over the last M years, you make out like a bandit.

It is very easy to figure out what a worst day is because the media has reports of "worst day since" all over the place before the stock market closes for that day. Or one simply looks within 30 minutes of the market close (I have a single button F4 on my powerbook that does this). Thus about 15 minutes before the market closes, I will buy some equities without regard to my asset allocation. I usually don't have any cash on hand, so I just exchange from bonds to equities in an IRA or 401(k). The idea is to profit from the inevitable pop back up from the dip by exchanging back in a day or so after the market recovers.

Sure there is all sorts of danger in this strategy, but so what? The issue is what constitutes a dip that signals a buy. I would like to make 2 to 6 of these kinds of buying on the dips each year, so a dip has to be some intraday percentage drop that would occur only a few times a year. A 2-day or multi-day drop does not count for this strategy. In this Vanguard paper
( https://institutional.vanguard.com/iam/pdf/HAS09.pdf ) on page 8 it is written:

Quote:
Historically, changes in stock prices of plus or minus 3% have occurred on 1% of trading days—or 1 out of every 80 days
Although it goes on to say that 2008 had much more of these days than that.

So there is a number to use that seems suitable: A dip is a 3% or more drop in one day in the S&P500 or other index. I like to look at VTI, VEU, VBR, and VSS to see if any of them have dropped below signal levels. An example of a dip occurred on August 17, 2009 where things dropped about 4%. Indexes recovered to August 14th levels (pre-dip levels) by August 20th. A smaller dip occurred on September 1st, but VBR did drop about 3% that day and will probably close today about 1.5% above that.

So both 8/17 and 9/1 were actionable days and both days I exchanged from a bond fund to a stock fund. Today, i will exchange the other way to complete this short term trade to get back to my desired asset allocation.

Now one problem is that one cannot do these short term trades in many mutual funds. I got a wrist-slap letter from Fidelity for doing a round-trip in my 401(k) and my account is being monitored. The way I get around this is to use 2 separate accounts. My spouse's 401(k) has the same bond fund as my 401(k), so if I exchange out of the bond fund in my 401(k), I can exchange back into the bond fund in her 401(k) the next day or within a short time. Of course, I don't expect to buy on the dip more than about once a quarter, so I should not run into early redemption fees doing it this way. If so, I have his and her IRAs that I can use as well in a pinch. The amount I exchange is such that I expect to increase my yearly return by 0.1% per dip-buy which is about the same as my monthly mortgage payment. I wouldn't do this with just a few thousand dollars because the possible gains would only be enough to buy one lunch. I would also not do this with more than about 5% of my total portfolio.

I repeat what I wrote at the start: I wrote this thread partly to put down somewhere what I am doing which will tend to make me follow it, but also to see if anyone else has a short-term buy-on-the-dips strategy and how you implement it. Thanks!
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Old 09-04-2009, 04:50 PM   #2
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Unless you are moving a large amount of money around, it seems like a lot of work for the potential pop back from a single bad day. Not to mention exposing whatever amount you are using for this to the added risk that a single bad day is only the first (or second or third) in a string of them.

Have you calculated what kind of gain you expect from all this monitoring? Have you been tracking your results oiver what time period? With 5% at risk, are you consistently seeing 2% pops? Seems like a very volatile day, but then I haven't been tracking them so maybe they happen more than I expect.
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Old 09-04-2009, 05:47 PM   #3
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Thanks for sharing this LOL. I don't generally have any easy way to trade from bonds to equities but I think this is worth investigating. One question how do you know when to sell?
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Old 09-04-2009, 05:52 PM   #4
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growing_older: I'm not sure what you mean by "all this monitoring"? I do not see 2% pops the day after a dip. For example, the 3% dip on 9/1 was followed by a 0.5% down day on 9/2. However, by today, things were up 2+% since 9/1. This weeks transaction was worth a couple thousand dollars which gives you an idea whether I am moving a "large amount of money around" or not. It is true that this is not a free lunch and that I do expose this amount to higher risk. As for volatility, that Vanguard report stated that in 2008 16.8% of days had a S&P500 movement of 3% or more (see Figure 2 on page 8), so 3% would not have been a good number for 2008.

clifp: I don't know exactly when to sell. My intention is to go for a 2% gain by the end of the week. Any ideas? I intend to sell within 4 days, no matter what. That is, I am comfortable selling at a loss. I am not required to buy-on-the-dip if the dip occurs on a Friday.
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Old 09-04-2009, 06:19 PM   #5
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LOL, I don't do any short term MT but do use a heavily researched set of longer term timing strategies. One, for instance, is to move between small value index and small growth index (vbk and vbr) based on the last 8 months performance with a rule to stay in the asset chosen for 3 months minimum.

Just some thoughts on what you've suggested: What I would be tempted to do with your strategy would be to download the Yahoo data (historical data, adjusted prices) for the particular asset I'd be timing. Then in a spreadsheet write a simple algorithm that allows you to backtest whether the strategy has worked over several decades. Then figure out how you might deal with the times the strategy went bad and you were either taken on a ride you didn't want to be on or were whipsawed (assuming you have a fail safe exit tactic). For very long term data the Yahoo data covers the Dow back to the early 1900's. It's a lot of data if you use daily but I've generally used monthly in my analysis. You will see things like the sharp decline in May 1940 (France fell to Hitler) and the Sept 11, 2001 decline.

I know what I've proposed is a lot of work but if it were my money that's what I would do and have done for the timing approaches I've developed. If you do something like this I'd really like to see the results or hear about a summary.
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Old 09-04-2009, 06:27 PM   #6
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Interesting. You could use ETFs to avoid the trading restrictions, no?

I generally believe in reasonably efficient markets in the long run. Like you, whenever I see a sharp rise/fall, I tend to think it is over-reaction short term and I want to go contrary to it. But a string of dips in a row can get your AA into an area of discomfort....

I like lsbcal's approach - I've done some of that before. It has probably talked me out of more things than helped me decide what I should do, but there is value in that too.

Good luck, and keep us informed - ERD50
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Old 09-04-2009, 06:53 PM   #7
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lsbcal, I was hoping someone else would be motivated to do what you propose. I am not going to do it.

Part of the trick is to only purchase when the one-day dip is significant. You don't want to be buying when the dip is 2.0% because they happen too often. With a significant dip, there would generally not be a string of such dips in a row. I have noticed that often significant dips are accompanied by "Worst" in some afternoon headline. If the word "worst" does not appear, it is probably not a significant dip.

Also, remember that a two-day dip of 3% does not count. It has to be a one-day dip.

It is not my goal to buy on every dip, nor to stick to a single asset class. If I miss an opportunity, that is fine with me. In particular, I will not buy on the dip on a Friday. These are all short-term trades on top of a standard asset allocation fulfilled with index funds.

ERD50: Yes, I could use ETFs and would do so in my IRAs. In our 401(k)s we do not have access to ETFs.

One could also develop a strategy to sell equities on 3% pops with the idea to buy-back within a week. If you have the guts, you could also add selling short on pops for equities. Soon you could be day-trading.

As an aside, the 2 exchanges this week (buy equities on Monday, sell on Friday) were related to reducing overall expense ratios in our 401(k)s. I noticed that if my spouse sold her small cap fund with an expense ratio of 2.33%, that I could buy a small/mid cap index fund with an expense ratio of 0.10% in my 401(k). Rather than do the transactions on the same day, I bought on the dip in my account and waited to sell after the recovery in her account.
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Old 09-04-2009, 07:08 PM   #8
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I constantly rebalance my portfolio using new contributions. So I always buy what has either dipped or done worse since the last addition. After a big market move, I may have to do a traditional rebalancing, which again force me to buy on dips.
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Old 09-04-2009, 07:19 PM   #9
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FIREdreamer, suppose you look and see that you need to rebalance. Do you rebalance right away, or do you wait ...

... for a dip when buying equities? or
... for a pop when selling equities?

And if you wait, what consitutes a dip or pop for you?
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Old 09-04-2009, 10:11 PM   #10
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I'm more medium-term, looking for at least -10% from a recent peak, or from an existing position, though I'm looking to be fully invested around the end of the year. That's because I sold a little on the way up from March lows and we never went back down. I'm using ETF's, with care to not sell at a loss and trigger a wash sale problem. My initial buy and final sell is set-of-the-pants, but subsequent buys and sells are algorithmic at each -10% point, reducing the cost of my shares.
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Old 09-04-2009, 11:28 PM   #11
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If you are only doing this with < 5% of your portfolio, it doesn't sound that risky to me. No more risky than having 5% of one's money in one's own company stock, which most folks think is O.K.

I wouldn't call you a dirty market timer. Unclemick might say you're just satisfying your hormonal urges
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Old 09-05-2009, 06:31 PM   #12
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Quote:
Originally Posted by LOL! View Post
FIREdreamer, suppose you look and see that you need to rebalance. Do you rebalance right away, or do you wait ...

... for a dip when buying equities? or
... for a pop when selling equities?

And if you wait, what consitutes a dip or pop for you?
This is what I do: I have a slice and dice portfolio. Every 2 weeks, I invest a sizeable sum of money (from our paychecks). I run an Excel spreadsheet (that I have designed) and it tells me which asset class deviates from it's original allocation and by how much. I then apply a "deep value bias" (I square the deviations) which in essence allows me to send a disproportionate amount of money to the asset class(es) that had been beaten down the most or that underperformed the most. So, I don't invest based on a 1-day dip, but rather based on a 2-week dip.
I also use a sliding AA based on stock valuations. It is 50/50 when stocks are properly valued, it goes to 50+/50- if stocks are cheap and to 50-/50+ if they are expensive. All of this is figured out by the spreadsheet. I just have to enter how much I want to invest and it tells me how to invest the money among the various asset classes.
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Old 09-06-2009, 09:59 AM   #13
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Like FIREdreamer I have a spreadsheet of our S&D portfolio that tells me where I need to add further $'s. I do not make any calculations about valuation, just straight percentages and how far off I am. This occurs monthly. In addition my stock:bond percentage is an a glide path taking us from a start of 80:20 to about 60:40 at around my anticipated retirement year.

DD
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Old 09-06-2009, 10:07 AM   #14
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Quote:
I was hoping someone else would be motivated to do what you propose. I am not going to do it.
You have a plan to possibly improve your return 0.1% by risking 5% of your portfolio, but you refuse to do any research to test your hypothesis. This would limit my interest in doing such a thing. I would however be interested to hear how it works out for you. Please let us know.
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Old 09-06-2009, 10:31 AM   #15
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Thanks for the replies. Both FIREdreamer and DblDoc wrote about rebalancing with new additions. Thanks for reporting on that. It's a pretty typical way of doing rebalancing that many of us do, but maybe not to the detailed spreadsheet extent that they wrote about.

Quote:
Originally Posted by quietman View Post
You have a plan to possibly improve your return 0.1% by risking 5% of your portfolio, but you refuse to do any research to test your hypothesis. This would limit my interest in doing such a thing. I would however be interested to hear how it works out for you. Please let us know.
OK, so I am an empiricist. I am doing the experiment, so that counts as research to test the hypothesis.

I'll will post in this thread my next buy-on-the-one-day-dip or short term trading idea. I gotta put my money where my mouth is. Last week was a gain of ~2% on the amount exchanged.

Related to this is selling-on-the-pop. If something goes up by 3+% in a day ....
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Old 09-06-2009, 01:52 PM   #16
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Getting Tom Sawered

OK, he said putting down his brush and admiring the section of fence he had just whitewashed...

I took a look at VTI since its 2001 inception. There have been 42 days with 3% dips. If you had bought on those days and waited for a 2% profit, you would have made money 27 times, would have lost money 8 times, and broke even (made less than 2%) 7 times. If you waited for a 3% profit your number of successes drops to 21, and to 18 at 4%.

A glance at a chart of the closing price on the 3% dip days is revealing. They are almost all clustered around the big 2001 and 2008/2009 events with a long dry spell in between.
3% dip days.gif
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Old 09-06-2009, 02:48 PM   #17
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Thanks for the analysis. It tells me that -3% is not the number to always use.
Also, I would not always use VTI; e.g., I have used VEU in the past as well.

Since one would want to do this maybe 2 to 6 times a year, perhaps a refinement of the strategy is to look at the previous 6 months of market action and see what dip amount would have resulted in a few signals (and of course not on a Friday). This would have a signal automatically titrated to recent volatility levels.

Tom! Tom!? There's a section of the fence you missed over here!
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Old 09-06-2009, 03:17 PM   #18
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I remember reading that these large swings were pretty much a feature of bear markets only, and the chart seems to confirm that. I don't think it would be worth doing for less than about a 2% gain unless you have zero cost and a lot of free time.
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Old 09-06-2009, 03:40 PM   #19
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That's an interesting observation. Does that mean that a 3% drop and subsequent gain portends an upcoming downtrend?
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Old 09-07-2009, 09:59 AM   #20
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That's an interesting observation. Does that mean that a 3% drop and subsequent gain portends an upcoming downtrend?
Volatility. It seems like when a bear market is happening, volatility is greater (go figure). And usually when there's a lot of uncertainty, you have a better opportunity to make money. That is, if you can handle the volatility.

As a side note, this seems related to rebalancing uncorrelated assets. The greater the correlation deviates, the greater the rebalancing bonus. If you did this within a short time frame (days), it's essentially rebalancing between two assets, one of them being cash, using rebalancing bands.

Earlier this year, I was tempted to do something similiar using REITs (VNQ). I recall multiple times the price dropped 7-10% in a day, with rebounds not much later. But I didn't have the guts/time to do it.

It's interesting that we don't see this during bull markets. I'm guessing in that case, there are upward swings (do they ever hit 3%?), but since it's a bull market, we never see the drop. It would also be interesting to see more data. The sampling here is interesting, but it's too small (and recent) to use as a model.
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