FTSE 100/FTSE 250 monthly switching strategy

A previous article looked at a comparison of the monthly performance the FTSE 100 v FTSE 250 indices. In this article we will look at taking the results of that study to create a trading strategy.

Analysis of the historic data shows that although the FTSE 250 Index has greatly out-performed the FTSE 100 Index in the long-term (since 1986 the FTSE 100 has increased 367% compared to an increase of 1052% for the FTSE 250) there are certain months for which the large-cap index on average out-performs the mid-cap index. We will look at a strategy that exploits this feature.

The following reproduces the chart showing the monthly out-performance of the FTSE 100 over the FTSE 250 Indices. For example, in Januaries since 1986 the FTSE 100 has on average out-performed the FTSE 250 by -1.5 percentage points.

Monthly average out-performance of FTSE 100 over FTSE 250 [1986-2014]As can be seen, there are only two months, September and October, in which the FTSE 100 convincingly out-performs the FTSE 250.

The above results suggest a strategy of investing in the FTSE 250 for the year but switching into the FTSE 100 for just the two-month period September-October. In other words, the portfolio would be invested in the FTSE 250 from January to August, at the end of August it switches out of the FTSE 250 and into the FTSE 100 for two months, then back into the FTSE 250 until the end of August the following year.

The following chart shows the result of operating such a strategy from 2000. For comparison, the chart also includes the portfolio returns from continuous investments in the base FTSE 100 and FTSE 250.

FTSE100-FTSE 250 monthly switching strategy [2000-2014]

The result: the FTSE 100 portfolio would have grown -5%, the FTSE 250 risen +153%, and the FTSE 100/FTSE 250 monthly switching portfolio would have increased +237%. These figures do not include transaction costs, but these would not be significant as the strategy only requires trading twice a year.

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