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Hedge Trader (or HT-1 for short), as at 5 April 2011, represented the pinnacle in PowerStocks Labs achievement for an  industrial strength professional-grade funds deployment active strategy for the JSE. It combines the best of our systems developed over the last 24 months to produce phenomenal risk adjusted returns. It plays the JSE on both the bull phases (longs for 70% of the time) and the bear phases (shorts for 30% of the time) to provide a 100% vested strategy (it's always in the market.)

Before we continue we wish to bring to your attention that HT-1 is a professional funds-grade product, currently offered to our private investor subscribers as a bonus. Please note that we reserve the right to cease offering it free of charge at any time to private individuals.

How does a 100% vested strategy that made 43 trades in the  last 12 years, playing longs and shorts to deliver an astonishing 7,919% (44% CAGR) un-geared return with a 95% win rate on the 22 longs and a 66% win-rate on the 21 shorts with an overall gain/loss ratio of 19:1 sound? If interesting, then read on...

A small bit of background to assist you understand how HT-1 works is in order. Please bear with us to enable to appreciate what we have built and to be able to operate the timing system properly. Our research into JSE data and underlying breadth together with the lessons learnt from the development of all our medium and short term trading timers, has showed us 4 distinct stages in each JSE bull/bear market phase. There can be many of these phases in a single secular (long term) bull market.

1.1 Trough formation/Reversal
In this phase, we have several bouts of panic selling, followed by a lull in volume and then a rush of buyers snapping up bargains. This is the Trough formation phase. We have spent the last 18 months developing robust trough-detection systems with our most high-confidence system being The Big Dipper. The first 10-30 days after a reversal often capture up to 30% of the total gains in an up-cycle. As you can see from our Big Dipper statistics, timing market entries on troughs is an extremely desirable and profitable endeavour - provided you have an accurate system! Without an accurate high confidence system you can be catching falling knives and get injured.

1.2 Breadth Thrusts
In this 2nd phase the rest of the market sits up and takes notice of the reversal. Several traditional indicators start tipping off investors that a recovery is in progress. This results in bouts of powerful and broad based (as represented by breadth) buying demand which triggers several of our breadth timing systems such as BITS, SWISSCLOCK and QUANTUM. These bouts of powerful thrust occur against a backdrop of almost non-existent selling pressure which also triggers our STORM-1 timing system. When these demand thrusts, and their accompanying lack of background selling pressure exceed certain thresholds that trigger our timing systems, then they have the effect of launching the JSE like a rocket-ship to even further highs. The positive effects of these large thrusts remain in force for 10-30 trading days before they fade out. This phase lasts the longest and can make up to 50% of the gains of the up-cycle.

1.3 Momentum
Eventually the powerful breadth thrusts start becoming less frequent and then disappear all-together. By now, anything from 70-80% of gains have been made in the current up-cycle. But the power of the rise of the JSE has its own momentum now, able to keep rising without the breadth thrusts. Think of the trough reversal as "starting the engine and zooming off in 1st gear" and the breadth thrusts as continued "stepping on the gas pedal and changing from 2nd to 5th gear" to bring the car to terminal speed and then the final momentum phase as "coasting with your foot off the gas". By now the rise in the JSE is sucking in the vast hordes of laggards, who have all the while been sitting on the sidelines with suspicion of the JSE's strength. Their greed and fear of missing out further gains on a seemingly unstoppable bull market drives the market further as they climb in. The "smart money" is busy selling at this point. The JSE can garner further 15-25% gains in this "coasting" stage.

1.4 Breakdown
Eventually buying dries up and sellers abound trying to take profits. We then have a momentum breakdown and a decline commences to eventually restart the whole cycle over again. A major breakdown leads to a major bear market (+25% declines) but quite often these breakdowns can just be smaller "corrections" of up to 10%.

HT-1 is able to capture superior gains from the JSE to anything we have ever built, for one reason only - it uses the right timing systems for the right phases of the market. In effect it combines three of our most powerful timing systems into one composite system that is able to adapt to the market stages mentioned above and ensure it is in lock-step with the JSE. You have already witnessed the power of this form of combination in boosting returns in our Turtle Trading System research note, where we used Big Dipper as entry triggers for trades to the traditional momentum-only S2 Turtle trading system, resulting in the excellent performing Turtle S3 system.

The timing systems that HT-1 deploys concurrently are :

2.1 Big Dipper is used for Trough reversal signalling
2.2 STORM-1 is used for Breadth Thrust signalling
2.3 The original Turtle-S2 trading system is used for Momentum signalling

Here are the simple but highly effective mechanical trading rules HT-1 follows:

1. Open a JSE  long position on either a Big-Dipper or STORM-1 signal
2. Start a counter C from 30 and decrease it by 1 each trading day
3. Each time you encounter more Big-Dipper or STORM-1 signals, reset C to 30
4. When C reaches 0, then stay vested while JSE is greater than minimum of preceding 20 days
5. If JSE drops below minimum price of preceding 20 days, close the long position and open a short
6. Close short positions when you see a Big Dipper or STORM-1 BUY signal and start from (1) again

In most (but not all) cases Big Dipper is getting HT-1 into initial long trades. STORM-1 signals keep us in the market (confirmation signals) and finally we "coast" to the final peak with the Turtle system trading a 20-day Donchian minimum line before exiting our long trades. On the day we exit our long trades, we immediately switch to short trades to "short" the JSE (make bets that it is going to fall in price, sometimes heavily.)

In all the tests below we assumed simple un-geared investments in the ALSH index when computing trade returns.

We use a rather unique and innovative multi-purpose signal chart for HT-1 as shown below. You can click on it to download a much larger version with more recent history than that shown. Use "right-click open in new window" so that this page remains intact whilst you view it.

Click on chart to open larger version with more recent data.

(1) shows the location of a yellow Big-Dipper trough reversal signal,
mostly what starts longs trades
(2) Brown area shows the vested period where we have "long" funds committed to the JSE
(3) Green shaded areas represents strength of breadth thrust left in the market ("counter C")
(4) shows periods where HT-1 is "shorting" the JSE, betting on a decline
(5) When (3) falls below this red line we close longs and open shorts. Converse holds
(6) Guidance threshold to "HOLD" i.e. not to add to positions or commit new funds to the JSE

The Green shaded areas (3) are our most important cue here. It represents "strength" left in the market. It is merely the counter C re-calibrated to run from 0 to 5 as opposed from 0 to 30. You can see that mostly (but not always!) a long trade is opened with a Big Dipper signal. This gets us in nice and early to capture those huge initial gains that come from the bounce. The green shaded area (3) jumps up immediately to maximum signal strength 5 and then slowly drops (weakens) as the days march by, eventually reaching 1 after 30 trading days.  If we get another Big Dipper signal as shown after (1) in the above chart, then (3) is RESET to 5 again. If we get a STORM1 breadth-thrust signal, then C is reset once again to 30 forcing the green area to maximum strength 5.

Our research has shown that most bullish cycles consist of 3, maybe 4, spikes in (3) before a correction sets in. These spikes come either from 1 Big-Dipper and two STORM-1 signals or from two Big Dipper and one STORM-1 signal. But strong bull phases sometimes trigger 5 to 6 spikes and weak bull phases only up to 2 spikes. This is very important information as it gives you an idea, looking from the chart, how far we are into the current bullish phase.

When the green shaded area (3) reaches the value "2" its a sign to HOLD positions. At this stage we do not recommend adding further funds or opening new trades - rather wait for the next cycle as the market is weakening and may correct, especially if we are in our 3rd or 4th spike. When (3) reaches the value "1" it means all the effects of previous signals have faded and the market is now relying on momentum (coasting.) For the more shorter term traders, the "1" line is a good place to "lock in some profits" and maybe close 30-50% of existing positions. We recommend closing your long trades all together when C gets to the 0 line.

Eventually, either more breadth thrusts arrive, raising (3) to 5 again or the JSE breaks below the red 20-day Donchian "MINIMUM" line signalling our exit for the long trade and the initialisation of the short trades. The short trades are kept open until the next long signal starts again.

For regular placement of funds into the market (as required by a fund management firm or a hedge fund) or to "pyramid up" your positions, you use the breadth thrusts signalled by when (3) shoots up to 5 as your entry points. Pyramiding can significantly boost your returns, but your best returns are achieved by committing as much funds as possible to that first signal.

We see that the green shaded area (3) is a excellent barometer of JSE strength and "oomph" and gives the trader cues for additional funds placement (when it hits 5) or locking in profits (when it drops to 1.) Even if you are just thinking of buying regular individual shares, you would be advised to consult the HT-1 signal chart to ensure it is sitting at least above or on 1, preferably above or on 2 before committing funds to the market.

You can see that HT-1 profits in UP and DOWN markets, bagging a whopping 53% gain during the great crash of 2008. Now large funds do not have the privilege of dumping their entire book onto the market to exit long positions and enter short positions when they see a SHORT signal from HT-1. But they can HEDGE AGAINST THE DECLINE by using gearing/leverage and derivatives to short the market, so that the profit they make from the decline offsets the declines experienced by the long funds in their portfolios.

This is standard practice among funds, and is something private investors should consider as well. For instance, more recently, two BEARISH signals were given but this did not mean we dumped our portfolios on the market. We know we are in the second year of a 3-4 year secular bull market, and our SUPERModel and LBYC long-term timing systems are showing green lights, so we knew these were minor corrections. Besides,  by following the PowerStocks Way methodology we had amassed 20 or so blue-chip shares that were all up 50-100% and yet to benefit from improving economic conditions to start paying out dividends on massive dividend yields based on their low purchase prices. Why on earth would we want to spoil our dividend party and dump our shares for a 5-10% correction?

Note that all the tests done with HT-1 excluded gearing and assumed simple straight (vanilla) un-geared trades made on both the longs and the shorts. There are lots of warrants, and SSF's you can use to short the TOP-40 with 10x gearing so a R100K short bet hedges R1M of our portfolio - a very cost effective way to "hedge" or "insure" your existing portfolio - provided you have a high confidence signal for pending market weakness! But even if said correction never arrives (as happened 33% of the time over HT-1's 12 year backtest) at most the R100K was at risk and if we lost this completely due to a 10% market rise (as opposed to the correction we were expecting) our R1M portfolio would have risen 10% making up for the hedge loss. Now you know why we called this system "Hedge Trader."

If on the other hand, you are trading with HT-1 then we suggest closing all longs and replacing with shorts and vice versa to gain the maximum return from the strategy. This is what gives you the edge as a private investor over the funds, so you should use it! Even more conservative traders, or beginner traders, who are uncomfortable with shorting the market should close their long trades and stick their money in a fixed deposit or money market fund until the next opportunity arises. Even if you only play the long trades in this fashion, HT-1 delivers phenomenal returns as you will see in the next section.

One final word on shorting. When you see a short signal from HT-1 always ensure you go and inspect the status of the SUPERModel and Long-Bond Yield Curve investment timing models to place the short in perspective. If these timing systems are displaying green lights then you are just going to encounter a mild correction. But if you see these systems ALSO showing red lights then you know a MAJOR CORRECTION is at hand. When HT-1 gave a short signal in May 2008, just before the great crash, you would have noticed that both SUPERModel and LBYC were also showing bear market signals. That would have been an excellent cue to you that something really, really big was in the works and sure enough, the subsequent HT-1 short trade bagged a 54% profit!

There are 4 powerful variants for HT-1 and you should know upfront which one you are playing. The one you choose will depend on your circumstances. From now on we will refer to the shaded green area representing market strength in the HT-1 signal chart as "C"

1. HT1-L0/S  = 100% vested playing longs+shorts. Close longs & open shorts when C hits 0
2. HT1-L0     =  71%  vested playing longs only. Close longs when C reaches 0.
3. HT1-L1     =  55%  vested playing longs only. Close longs when C reaches 1.
4. HT1-L1/S  =  85%  vested playing longs+shorts. Close longs when C=1. Open shorts when C=0

Before we continue, a warning : Never, ever be tempted to short when C hits 1. You will get burnt badly if you are in a strong bull market. It may appear a good strategy from the signal chart but it is most definitely not when one considers the whole 12 year review.

Your choice of the above options depends on how active you want to be, whether you are comfortable shorting the market and what risk-adjusted returns you seek. Let us assume you only want to play longs as you're not comfortable with shorting yet and its requirement to sustain some losses before bagging some big gains. Most of our subscribers currently fit this profile. Then you are left with option 2 and 3 which have the following performance characteristics:

First, let us say these performances are nothing short of staggering. The most powerful long-only strategies we have ever seen are Big Dipper (80-day) and Turtle-S3 and both the HT-1 long-only variants blow them away. More on that later. On the surface, these two long-only variants seem similar in performance but the major difference is option-1 is vested 71% of the time and has fewer trades and option two is vested only 54.9% of the time but with 15 more trades. This is inclined to tell us that option-1 is best for long-term traders and option-2 for medium term traders. We would however argue that option-2 is the best long-only option from a risk adjusted perspective since it achieves similar results with far less exposure to the JSE market risk. In fact when one computes interest earned in the non-vested periods, option-2 (2,685% gain) actually slightly out-performs option 1 (2,550%) in total gains.

However if you are trading with geared instruments(derivatives or ALSI futures contracts), you will probably get far better returns with option-1 since it stays in the market trying to extract the last ounce of gains and this is good for leverage where 1% gain in the underlying generates 5% or even 10% returns on your trade. You will also note that option-2 is a lot more active with 37 trades as opposed to 22 trades with option-1. You may prefer a more sedate strategy if you are not trading for a living.

Options 1 and 4, the ones that include shorting the market, differ in that in option 1, the shorts are opened the same day the longs are closed, whilst with option 4 the longs are closed a few days or weeks before the shorts are opened. With option 4, your funds sit 15% of the time in a bank account waiting for a short signal. Option-4 is again more active than 1, generating 37 long trades and 21 short trades for a total of 58 trades. Both options offer similar returns but option 4 is only vested 85% of the time versus 100% for option 1, so one could argue it offers better risk adjusted returns.

Our recommended advice to subscribers is to play options 3 or 4. Close your longs when C reaches 1 and if you want to play the shorts as well then open short positions when C reaches 0.

HT-1 with longs and shorts is our most aggressive trading strategy with 43-58 trades in 12 years meaning a trade executed every 2.5 to 3.3 months on average, depending on variant used. It delivered an absolutely mind-boggling return over the last 12 years as depicted by the backtest results and trade stats for HT1-L0/S below. We assumed trades executed the day AFTER an end-of-day signal was witnessed and 0.5% for brokerage costs in and out.

Note that the shorting strategy has a lower win rate than the long strategy. But due to the short, violent nature of most corrections and bear markets, the compound rate of returns (CAGR) for the short strategy is higher than the long strategy. Even with the less successful shorting trades included, the total system (ALL TRADES) showed a very respectable gain/loss ratio of 19.3 to 1. This means we were gaining 19.3% for every 1% loss accumulated in the losing trades. Many long-only short-term trading systems of ours don't even come close to this sort of positive expectancy.

To put this into perspective, HT-1 (and 3 of its variants) are compared below to 7 of our other robust timing strategies. %Gain is the gain accumulated while vested (excluding interest on cash) and %Gain(int) is total gain including interest earned for non-vested periods when the strategy was in cash.

An important metric is the bottom row which is the Return/Risk ratio which is simply the total % gain over 12 years divided by the amount of years we were exposed to the JSE divided by 100. So HT1-L1 has a return-for-risk ratio of 4.07% gained for each 1% of a year vested in the JSE. This is the highest risk adjusted return among all the long-only strategies in our arsenal, followed very closely by Big-Dipper with 80day holding periods. But by including shorting into the trading strategy the return for risk ratio almost DOUBLES to a whopping 6.6% gained for each 1% of time vested in the JSE. It is not shown on the graph above but HT1-L1/S has a eye-popping Ret/Risk ratio of over 9% per 1% of year vested, due to it only being vested 85% of the time to deliver similar returns to HT1-L0/S.

Another way to measure a strategy is the "bang for your buck" calculation which is the compound annual growth rate achieved WHILST YOU WERE VESTED ("Vest. CAGR") When it comes to this productivity measurement, we see that STORM1 and QUANTUM are no slouches delivering returns whilst you have money in the JSE. QUANTUM might not have made the most money over a whole 12 year period but when you were trading with it, it was the 2nd hardest worker delivering returns. It just likes to take nice long holidays every now and again meaning its only working 28% of the time. That illustrates why it is important to not ignore its signals (and those of other high productivity strategies) when they come along, even though our main long term wealth making strategy is HT-1.

The Total Return Index (TRI) of HT1-L0/S is shown below. We had to use a log-scale since you can hardly see the JSE line in the linear chart!

You can see that HT-1 and the JSE started out the same but as soon the JSE started having corrections and consolidations, the shorting appetite of HT-1 allowed it to start pulling way, way ahead of the "buy and hope" strategy. As you can see above, HT-1 is very good at sniffing out pending corrections and would be an excellent barometer for our subscribers wondering if its safe to enter the JSE or not. If HT-1 is in an open short-trade you had best stay out the market.

Now let us examine the individual trades themselves to get a feel for this strategies' success:

We note that the performance for the long trades is beyond reproach. However there is more of a mixed performance for the short trades. The strategy with the short trades is that you must accept you will suffer "small" losses a third of the time, sometimes up to 3 losses in a row, but that every now and again you will hit the jackpot with a major correction that more than makes up for the string of little losses. This is akin to classic Turtle Trading as taught by Richard Dennis to his disciples in the 1970's.

One point to note - the duration of trades can sometimes be a year but most times are less than a year, sometimes as short as 38 trading days. Whilst this is a "long term" trading strategy you must be prepared to pay income tax on your gains as this system does not hold trades for the minimum period of 1,095 days (3 years) to qualify for capital-gains tax only. Frankly with these sorts of gains this is a nice tax problem to have. However, once per year you are going to have to fork over tax on previous gains and unless you can find a way to legally defer these taxes (a good tax consultant should be able to assist) this may leave you with less funds to deploy into the subsequent trades which can impair the total returns shown above.

Assuming no interest for non-vested periods, the returns of HT-1 are 1,880% assuming profits from trades are re-invested in subsequent trades. If you had to accrue for tax on every trade however, at the marginal tax rate of 40%, then these gains fall to 545%. This is of course a worst case, since you are unlikely to accrue for taxes after every trade since you only accrue and pay for them once per year. If you can defer your taxes for a year, you will get even more leverage effect. Defering taxes doesn't avoid you paying the taxes that are due, but allows you to re-invest those tax dollars to work in the market at high growth rates, cranking up your total returns to higher than the 545% mentioned in the worst case. Using legal deferment of taxes, for at least a year, allows a return of over 745%. If one then had to include the interest earned during non-vested periods into the earnings mix, you will still handsomely beat the buy+hold returns of the JSE for far less risk, since you are exposed to stock market risk for 55% of the time only.

Alternatively, you may hold onto your investments and merely use cost effective derivatives to hedge against market downturns whenever the HedgeTrader shorts the market. However, gains on the shorts will themselves attract taxes. 

HT-1 is an exceptionally powerful investing and trading strategy that gives you a supreme edge in the markets. You can play it long-only or long and short.

Whilst HT-1 is superior in risk adjusted performance to any other strategy we have witnessed, that does not mean you must ignore signals from other hard working productive strategies when they flag signals. You should run at least 3 to 4 strategies in tandem in your trading and we recommend HT1-L/S (as it exposes you to Big Dipper and STORM in one strategy), Turtle Trader S3 and one of the Zweig or BITS traders as a minimum.

Even investors who are not traders should take BUY and SELL cues from HT-1 for their investment activities, since it is so good at estimating strength left in the JSE at any point in time.

You should investigate with your broker what instruments you have at your disposal to short the market and start playing HT-1 shorts, even if they are small bets. All past great traders experienced quantum leaps in their returns when they mastered the art of shorting - and the returns for HT-1 dramatically illustrate the possibilities.

When seeing HT-1 signals, always refer to SUPERModel and LBYC long term investment timing signals to create a contextual backdrop for the suggestions HT-1 is making about the market.

You can see a HT-1 live trade chart with 2 years historical signals in the ALSI TIMERS sheet of your JBAR report that gets emailed to you every weekend. Whenever HT-1 is making a transaction, bet it going long or short, we immediatly update you via an email alert.

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