A previous article described a profitable trading strategy with the stocks of the Technology Select Sector SPDR Fund (XLK). Similarly, the consumer staple stocks of the S&P 500 can be profitably employed to provide good returns with less risk.
Emulating the Consumer Staples Select Sector SPDR Fund (NYSEARCA:XLP).
The analysis was performed on the on-line portfolio simulation platform Portfolio 123.
Since historic holdings of (XLP) are not published a custom universe was constructed from the consumer non-cyclical stocks of FactSet’s Revere Business Industry Classifications System of the S&P 500 index.
The rule to set up the custom universe “S&P 500 (STAPLE)” in Portfolio 123 is: RBICS(NONCYCLICAL).
The current holdings (44 stocks) of S&P 500 (STAPLE) are similar, but not identical to the current holdings of XLK (32 stocks).
Backtesting of S&P 500 (STAPLE) universe
A backtest from 1/2/2009 to 9/23/2020 with all the cap-weighted stocks in the custom universe shows a 98% correlation with the performance of benchmark XLP and identical total returns of 254% over this period. A management fee of 0.6% was taken into account in the simulation, higher than the 0.13% fee that the managers of XLP currently apply. In the Figure-1 below, the red graph depicts the performance of the custom universe and the blue graph (partly hidden) the performance of XLP.
From the beginning of 2000 the custom universe shows a 91% correlation with the performance of benchmark XLP and a total return of 364% versus 338% for XLP.
One can therefore expect that the custom universe S&P 500 (STAPLE) should reasonably accurately reflect the performance of the cap-weighted holdings of XLP, and stocks selected by the model should not differ much from what would have been selected from a universe of XLP’s actual historic holdings.
Trading 5 stocks from the custom universe S&P 500 (STAPLE)
The iM-Top5(XLP)Select trading strategy invests periodically in only five equal weighted stocks from the custom universe S&P 500 (STAPLE) selected by a modified Portfolio 123 “Greenblatt” ranking system together with two quality-ranking systems which factors in Profit Margins, Turnover, Returns on Capital, and Financial Strength.
A percentile is assigned to each stock in the universe S&P 500 (STAPLE) based on dividend yield, with the top yielding stock in the array getting a value of 100. The buy rules require stocks to have an array value greater than 20; i.e. stocks in the lowest dividend yield quintile are not considered for selection. Additionally, a stock’s dividend yield must be greater than 1.0% and less than 6.0% to qualify.
A percentile is also assigned to each stock in the universe based on the ratio Free Cash Flow Latest Quarter to Total Assets Latest Quarter, with the highest ratio in the array getting a value of 100. A position is sold only after a minimum holding period of 13 weeks if this array value gets less than 50, and the rank gets less than 70%, or the dividend yield exceeds 7.0%.
Figure-2 shows the simulated performance of this strategy from 1/2/2000 to 9/23/2020 and also that of the benchmark XLP. The model shows an annualized return of 19.5% (XLP produced 7.4%) and similar maximum drawdowns of -35%. Annual turnover is very low, about 50%. Trading costs of 0.12% of each trade amount were assumed in the simulation.
Consumer Staple stocks have performed reasonably well since 2009, with XLP showing an 11.4% annualized return for the period 1/2/2009 to 9/23/2020, not much worse than the 13.5% for the S&P 500 ETF (SPY). The simulated performance of the trading strategy for the same period is shown in Figure-3. The model outperformed XLP; the backtest shows an annualized return of over 25% and similar maximum drawdown of -25%. Annual turnover is very low, less than 40%.
In the table below are the risk statistics from 2000 to 2020 for the model, XLP, and sister model iM-Top5(NYSEARCA:XLK)Select relative to the benchmark S&P 500 (SPY). It is evident from the risk measures that the trading strategy carries less risk than investing in SPY over the longer term. However, XLP has the lower Standard Deviation signifying lower volatility, but also much lower Sharpe and Sortino ratios than the iM-Top5(XLP)Select model indicating lower performance as adjusted by the associated risks.
It is also evident that trading the consumer staples stocks holds less risk than trading the technology sector stocks, with not much diminished performance.
The analysis shows that the iM-Top5(XLP)Select investment strategy would have produced excellent returns, much preferable to a buy-and-hold investment in stock index funds such as XLP or SPY. Reasonably high withdrawal rates should be possible without depleting the investment. Note, that the simulation results assume trading in a tax-deferred account.
Minimum trading is required. The model shows a low average annual turnover of about 50% with a position held on average for 29 months and not shorter than 13 weeks. The current holdings are listed in the appendix.
Also, at iMarketSignals one can follow this strategy where the performance will be updated weekly.
Current Holdings (as of 9/15/2020)
|(CL)||Colgate-Palmolive Co||65 B||478||Consumer Non-Cyclicals|
|(EBAY)||eBay Inc.||37 B||2||Consumer Non-Cyclicals|
|(FBHS)||Fortune Brands Home & Security Inc||11 B||184||Consumer Non-Cyclicals|
|(KMB)||Kimberly-Clark Corp||50 B||226||Consumer Non-Cyclicals|
|(MAS)||Masco Corp||14 B||590||Consumer Non-Cyclicals|
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: All results shown are hypothetical and the result of backtesting over the period 2000 to 2020. No claim is made about future performance.