At Mullooly Asset Management, we have two main ways that we measure relative strength. As our friends at Dorsey Wright and Associates have shown us, it’s integral to consider a security’s peer and market relative strength when determining its place in a momentum driven portfolio management strategy.
Peer relative strength measures a security against similar investments. This could mean comparing a stock against other stocks in its sector, or comparing a fund against a fund from the same size/style box. To explain peer relative strength with a sports analogy, we can look to the divisions of Major League Baseball. You can determine a team’s peer relative strength by considering how it has performed in comparison to other teams in its division.
Market relative strength measures a security on a more wholesale, broad basis. This could mean comparing a stock against the equal weighted S&P 500, or comparing a fund to a total market index like IYY (iShares Dow Jones U.S. Index Fund) or VTI (Vanguard Total Stock Market Index Fund). To explain market relative strength with the same sports analogy, this would be like determining a team’s relative strength by considering how it has performed in comparison to all of baseball, instead of just its own division.
Securities with strong peer and market relative strength are the focal point of a momentum driven investment strategy.