As a number of readers have pointed out, there are various drawbacks to the method/test I have presented here. The big ones are:
1. Fixed measurement period. I used a simple one-month and one-year absolute measure, but it is possible that 3, 6, X months would work better (or a combination of measurement periods).
2. Fixed holding period. This is the biggie to me – it doesn’t make sense to me to sell an asset class that is moving up. And, on the downside, to be “stuck” in an investment that is declining. In the following articles we will detail a system using moving averages – basically a trend following methodology – that allows you to stay in asset classes that are moving up while exiting those that are declining. The method is detailed in my white paper, “A Quantitative Approach to Tactical Asset Allocation.”
