E-System Portfolio

E-System Model Portfolio Performance

E-System Portfolio Brochure

The Alpha E-System Portfolio is designed for investors seeking a long-term, systematic approach to risk management. The primary objective of this program is to avoid large losses, which can cost investors years of compounding, not to mention the stress of coping with the uncertainties of recovery. This is particularly important to investors in retirement and just before retirement, when investments are needed for income for life.

The secondary objective of this portfolio is to achieve gains every year, which, over time, will be high enough to offset the effects of inflation and taxes, providing a meaningful real rate of return. This program is intended to provide income investors with a growing income stream sufficient to maintain and grow their standard of living over the years.

The primary strategy of the portfolio is to have exposure to the stock market during very restricted time periods when the risk of loss is low. This strategy depends primarily on the regularities of the four-year presidential election cycle.

Election cycle theory asserts that politics has a profound affect on the stock market. The cycle is defined as follows:

	Year One:	The Post-Election Year
	Year Two:	The Mid-Term Year
	Year Three:	The Pre-Election Year
	Year Four:	The Election Year

With dividends included, the Dow Jones Industrial Average has been up 100% of the time in the pre-election year (year 3) since 1933, averaging a return of nearly 21%.

Our theory is that the market anticipates the business-friendly behavior of the dominant political party leading up to the presidential election. Politicians know that the surest way to be turned out of office is to preside over a recession or what is perceived to be a poor economic climate. As Bill Clinton so masterfully put it: "It's the economy, stupid!"

Most major bear markets since World War II have been contained in years one and two of the four-year cycle. The first three quarters of year two are particularly dangerous. The second and third quarters have lost 4000 Dow points since 1902; 3500 Dow points in the third quarter alone.

The market tends to recover in the fourth quarter of year two. Since 1902, this quarter has added 2800 Dow points. Since 1953, it is the best quarter in the cycle, averaging a gain of 8.1% plus dividends. Combined with the pre-election year (year three), this quarter creates a 15-month period of consistent and exceptional gains historically. Since 1933, the Dow Industrials have been up 100% of the time during this period, with dividends included, averaging a total return of about 29%.

Alpha's E-System portfolio adopts a fully-invested position in the market during this 15-month period, which we call the market's "sweet spot". Our portfolio is equally divided between the S&P 500 and NASDAQ 100. We use the NASDAQ 100 because its performance during the "sweet spot" has been exceptional and because it provides us with exposure to the top technology companies in the U.S.

Over the past 20 years, the five sweet spots alone, invested as described above, without interest earned in the intervening months, returned 11.5% annually. All five were positive. The Dow Industrials averaged a return of 9.9% over the same period. The bottom line: this simple strategy beat the market over a 20-year period while being invested in stocks just one-third of the time. Moreover, the 20-year period included one of the greatest bull market decades of all time - the 1990's.

The E-System Portfolio also exploits the market's tendency to generate consistently higher returns in late-November, around Thanksgiving, and in late-December, around Christmas. In the fourth quarters not contained in the market's sweet spot (Q4 of the election year, Q4 of the post-election year), we hold money market funds and make two holiday trades using the Russell 2000 small-cap index. These trades total 16 days - the last 6 days of November through the third trading day of December, and the last seven days of December. Since 1979, these two trades have averaged a return of nearly 5%, with a 90% win rate.

The remaining nine quarters are invested in short to intermediate bonds. The asset allocation over the complete four-year election cycle, then, looks like this:

Details on this strategy are provided in Alpha's research paper "The E-System:  How to Exploit the Hidden Bull Market", by Dr. Arthur J. Minton (2009).