Style: Key Factor

Buy when the coloured lines trend higher, sell when they trend lower

This tool is intended to show the influence on share prices of the key economic factor. For each investing style an appropriate economic time series has been chosen that best explains share price performance. The most suitable time series will also vary depending on the investment perspective under analysis.

SmallCaps are used for this example. Comparable charts are also available for Growth and Value investing styles as well as the sectors Real Estate, Finance, Health Care, Technology, Gold and Resources.

This tool is designed not only to show the historic relationship but also to provide a best guess as to the future trend. PIT has developed an econometric model to forecast key factors from the top-down, so as to avoid the widespread tendency for over-optimism generated by aggregating bottom-up estimates. For comparability, share price indexes have been rebased to set year-end 1994 at 100, and the key economic time series has been rebased to set 1995 at 100.

In each chart the stock market index is shown as the thick white line on the right hand axis. The main explanatory variable, the historic economic time series, shown as the thin yellow line, uses the left hand axis as does the Best Guess for its future development, shown as the thin orange line. Buy & sell signals, that rely solely on data already published, are represented by red arrows embedded in the price index.

Both historic data and Best Guesses should be treated as general indications of trend only. Even though these are the best relationships that can be consistently applied across all markets, correlations may be poor for some styles in some regions. In other cases correlations of past performance may be good, but the modelling is subject to a high degree of uncertaintly in its ability to predict future developments.

Best Guesses suggest what would happen to future share price performance for each style based on the PIT econometric model, tested over 15-25 years of historic data, which utilises consensus estimates for GDP, interest rates, wages and prices.

Irrespective of forecasts, back-tested past performance of this strategy shows that even the data already reported can be an effective way both to raise returns and to reduce risks. 

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