A Case for NSP Diversification

Investment Diversification. Let's face it; some level of mastery of that very function can potentially make a great deal of difference within one's investment portfolio. Now what diversification personally means exactly can vary greatly between individual. Each person can have their own very unique investment objectives, threshold for taking on risk,and so forth. Any way you look at it though it is an important consideration to keep in mind. There are also questions as to how much one should devote to any one type of investment (in this case stocks) period. One should contact an investment advisor and/or tax professional etc. with any specific questions related to their situation.

Let's get a better insight into this diversification issue as it relates to the NSP Method in general. First let's take a closer look at the make-up however. As you know, each week we will present up to 200 stocks which are at the top of the NSP's radar for the upcoming week. Out of that bunch, the top 100 will comprise the NSP 100 Index. Each stock is considered to be equally purchased at 1% of the NSP's balance. When 100 stocks do not qualify in a given week those are considered to be open neutral positions with a 0% gain/loss. Each of the 100 available spots essentially always makes up 1% of the overall total. For performance measures, the portfolio is then re-balanced at each Monday's open. In other words, each stock is bought at the open of the week and sold at the opening of the following week (unless they reappear in the top 100 ranking again of course). With that being such a simple process it has been rather remarkable just how consistently the index has outperformed the benchmark S&P 500. With two months remaining in 2010 however the NSP 100 Index does slightly trail the S&P 500 this time around. That being said, the upper components of what makes up the NSP 100 Index (NSP Top 10 and NSP Top 20) are again strongly outperforming.

So exactly why do we track the progress of only the top 100 stocks rather than 200 on a week-to-week basis? It's rather simple really. Yes, it is true that historically more than 200 stocks have quite often met the NSP's qualifications in a given week. The problem though is that number can truly vary tremendously during differing market conditions and such. Because of the system's robust effectiveness, the deal is we want to be as close to fully invested as possible under the majority of circumstances. 100 stocks makes that a greater possibility to accomplish.

Now similar reasoning is behind why we specifically track the results of only 10 stocks of the NSP Value Plus on an ongoing basis. Please remember there are often more than 10 strong qualifiers in a given week to analyze and consider though as well. With a trading methodology such as this we must adhere to the adage that the past does not necessarily guarantee future results. While true, we can say that since 2001 (in studies and real-time) the "NSP Value Plus" has seemed to perform even more consistently over virtually all varying market conditions as a whole.

Following the example of the NSP 100 Index therefore, each NSP Value Plus stock is considered to represent 10% of the NSP available balance upon purchase. That is in NO WAY to imply that any "specific amount" whatsoever should ever be placed in one individual stock. Again, any decisions such as that are highly personal matters. Once again, it just works out well that way as a unit of measurement (and that's the only intent) because of the number of stocks that meet the qualification standards on average. It is merely a way to keep some semblance of score. One could have a difficult time completely mimicking the Value Plus 10 anyways because it is not known ahead of time which stocks will even end up trading at or below the desired purchase levels of course.

Although investment diversification is highly individual, the point is that it is a very important factor to keep in mind. Again the sorting through personal specifics is
intended for the review of licensed professional advisors. The point of this article is merely to discuss the topic within the confines of the NSP. We raise the issue because of the major decliners we can possibly encounter from time to time. One should strive to be mentally prepared for the worst and understand that it can indeed happen. It doesn't do much good to have great successes only to see them quickly wiped out by only a low number of dramatically unsuccessful trades.

With that let's proceed to a case study involving a specific NSP example. How about going right to the NSP Value Plus 10's biggest loser ever? We'll take it back to December 2008 when Hutchison Telecom (HTX) crashed more than a whopping (-76%). Yes, you read that right. More than 3/4ths of its value quickly down the drain. By any measure that is a tremendous negative hit to take. However, believe it or not, the NSP Value Plus managed to still post a +0.7% gain in that particular week. How you ask? Well that actually happened to be a good week otherwise. Another stock slipped (-0.35%) but the remaining 8 stocks posted respective gains of approximately +22%, +14%, +12%, +9%, +8%, +8%, +5% and +5%. For sure, HTX's wildly negative performance prevented an excellent week, but a huge disaster was averted also because of a level of diversification.

The point is that very specific HTX occurrence even came about during a very bullish week for the overall markets. Since the Value Plus did not see that coming, it sure beat having too many eggs in the basket of HTX at that time. Don't forget, this really seemed to occur at the most unlikely of times. Therein lies the philosophy of diligently spreading the risk. In fact, you may often see both some notable positive and negative performances even during the very same week.

To dig a little deeper into the numbers: the NSP has now completed just under 500 weeks since its testing inception back in the year 2001. During that entire time, the NSP Value Plus 10 has never had any other stock decline by more than -50% in a week. In fact, it has seen only one drop by more than -40% and a grand total of 6 others were in the -30% to -40% range. Now of course there have been others within the NSP's top 200 stocks as the two mentioned just this past week. However, that is bound to happen some with that large of a basket of stocks.

Here is another diversification type stat when looking at just the NSP Top 10 (top 10 stocks of the NSP 100 Index). While simply buying at Monday's open and selling at the following one, it has only had 3 weeks out of the nearly 500 where it has declined by at least -15% in an individual week. -18% has been the biggest ever to-date.

Now by comparison on the other side of the equation, the NSP Value Plus 10 has actually seen 25 stocks rise by more than +30% in a given week from a historical perspective. The crown jewel of all of that came in the form of Medarex (MEDX) just as recently as July 2009. MEDX rose by more than an other-worldly +96% in a mere 5 trading days.

Remember that NSP results are calculated with the system simply operating on a portfolio re-balancing type of basis. No stop losses or profit targets are utilized at all in exiting a position. It all takes place at the time of the re-balance. We will go more inside the numbers and have additional discussion surrounding entry and exit techniques (including stop losses) in future articles at nowvest.com.

by Bill Nowatske -

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Source: http://nowvest.com/nsp-diversification.html