Risk - May 2019
Monitoring Risk
In recent weeks we have provided you with details of some of the indicators that help us to build a framework within which we make our investment decisions. One component of this system is to look at "market action" and try and establish the type of market conditions that we face and whether there is the potential to be rewarded for taking on risk.
To do this we use percentile rank to see where the observations we are looking at are in relation to history; for example if the stock index's distance from its long term trend is in the 90th percentile this means that it is equal to or higher than 90% of all readings.
By using percentile rank we have a consistent measure across all the indicators that is in the same format and we can also create an average of this. The following provides some examples of the US Equity Market.
31st December 1999
- Of the 11 indicators that we look at the vast majority were in the 70th Percentile or higher
- The average of the indicators was 87% showing very high risk
- The market was at a five year high and 212% above its five year low
- As well as being 42% above its long term trend it had returned 24% annualised for the last 5 years
- Clearly this was a risky time to invest and this proved to be the case with losses of 7% per annum for the next 5 years
1st March 2008
- Of the 11 indicators that we look at the vast majority were in the 30th Percentile or higher
- The average of the indicators was 19% showing very low risk
- The market was 14% below its five year high
- As well as being 30% below its long term trend it had lost 9% in the last 6 months
- This was a low risk time to invest and this proved to be the case with gains of 8.5% per annum for the next 5 years
6th May 2019
- Of the 11 indicators that we look at the vast majority were in the 60-70th Percentile or higher
- The average of the indicators was 70% showing high risk
- The market was 1% from a five year high and 103% above its 5 year low
- As well as being 61% below its long term trend it has gained 13.5% annualised for 5 years
- We are currently in a high risk environment for the US
One additional factor that we now consider as well is the time between a correction (a loss of more than 10% in the last year) and a bear market (a loss of 20% or more in the last year); in the US there was a correction in the last three months but it has now been over 3500 days since a bear market one of the longest periods in history - this increases risk even further.
