"When many systems and combinations are aggregated the noise and errors will tend to diversify away - while the signal remains".
“To implement and maintain a strategy and discipline that preserves capital and provides higher absolute and risk adjusted returns than the stock market.”
EVO, the Evolutionary Market Timing System
Invests using an active money management strategy based on quantitative analysis applied to Rydex leveraged and unleveraged market index mutual funds. Buy, sell and hold signals are generated by an algorithmic, rule-based, proprietary market timing system called "EVO." With few exceptions, allocations are made 100% into one of three funds at all times depending on whether the strategy anticipates a market advance (takes a long index fund position), a market correction (moves to a money market fund), or expects to profit from a market decline (takes a short index fund position).
EVO system development was started in 2002. It originally consisted of eight multiple independent, correlated and uncorrelated, market-timing systems based on technical analysis. But EVO has evolved over the years from a system composite based on those eight systems to over 20 systems. The systems use a variety of technical indicators based on historic financial data. Each of the systems is back tested separately and in various combinations with each other to optimize the risk and return performance. The systems and combinations are further integrated to generate a composite system buy or sell signal. When many systems and combinations are aggregated, the noise and errors will tend to diversify away while the signal remains.
EVO 1 Strategy
The well-established EVO 1 Strategy uses the Rydex NOVA Fund, which seeks to provide investment returns that match, before fees and expenses, 150% the daily performance of the S&P 500 index for long positions, the Rydex Inverse S&P 500 Strategy fund, an unleveraged fund, which seeks to provide investment results that match, before fees and expenses, the inverse of the daily performance of the S&P500 index for short positions, and the Rydex Government Money Market fund for cash positions. Allocations are usually made 100% into one of the three funds at all times.* All positions are based on mechanical timing signals generated by EVO. No discretion is involved.
EVO 2 Strategy
The EVO 2 Strategy is based on two sets of signals: EVO 1's foundational, mechanical signals and signals derived from traditional technical analysis. Signals are applied to the same funds as EVO 1 - the Rydex Nova fund and the Rydex Inverse S&P 500 fund - but allocations vary based on the signal strength.
EVO 3 Strategy
The EVO 3 Strategy applies the same non-discretionary mechanical timing signals and allocations used for EVO 1 to the unleveraged Rydex NASDAQ-100 index fund, which seeks to provide investment results that correspond, before fees and expenses, to the daily performance of the NASDAQ-100 index for long positions, and to the same funds as used in EVO 1 for short and cash positions. Allocations are usually made 100% into one of the three funds at all times.* No discretion is involved.
*Occasionally, if buy and sell decisions cannot be determined before cutoff times for the mutual fund exchanges, a fund that is priced and available for exchange twice daily, once in the morning and at the close, may be used the next day. Such occasions rarely occur. Such funds usually provide more leverage than the funds specified above, but the allocations are always adjusted to replicate the leverage or non-leverage as stated in the three strategy descriptions.
Consideration of Risk
While investment buy and sell decisions generated by the EVO system may have been successful in the past, or have demonstrated the possibilities of success in research studies, the system may be changed or be ineffective when applied to future market environments. Buy and sell decisions generated by formulas used in EVO are subject to unique and varying risks in addition to the traditional market risks of equity investing. These risks, described below, are attributed to the mechanical nature of the EVO strategy.
1. Patterns of market data and technical indicators that are used in the formulas that have correlated with stock market direction, and were used to identify stock market buy and sell timing decisions in the past, may temporarily or permanently not correlate with the stock market direction in the future. This could lead to losses when using these formulas. To mitigate this risk, the EVO strategy is constantly evaluated to determine whether certain formulas should be changed or omitted when such formulas are no longer providing value.
2. A mechanical trading system may generate a series of consecutive losing signals resulting in the compounding of losses more than the stock market over the same time period.
3. Material market conditions such as unpredictable sudden financial, economic, or political news events that affect the market and reverse the direction of the market with respect to the direction forecast by the mechanical formula may have a short term negative impact leading to losses.
To limit the impact of such losses, EVO 1 & 3 (the mechanical models) currently employ a 7 ½% stop loss on each trade, measured from the closing value of the S&P 500 stock index from the date of entry. Once this threshold is met or surpassed, we exit the fund on the next trading day, unless a new EVO composite system buy signal occurs on the same day as the stop. Once stopped out, a new EVO buy signal is required for reentry. However, there is no assurance that the net trade loss would be 7 ½% or less. if stopped out. While stop loss trades have been infrequent in the past, there is no assurance that the frequency of such trades will not increase in the future.
These strategies may be considered aggressive because of the use of leverage and/or the elevated frequency of trading. However, EVO 1 and EVO 2 have actually demonstrated in over 12 years of actual performance that their level of risk has been significantly lower overall than that of the S&P 500 in terms of maximum drawdown, with slightly lower volatility as measured by the monthly standard deviation. The lower level of volatility is a result of having avoided severe market declines and spending half the time in cash. However, there is no guarantee that this risk performance will continue, and therefore, investors need to be aware that the significant leverage employed and the possibility of whipsaw trades resulting from a sequence of consecutive losing trades could result in accentuated losses greater than the S&P 500 or NASDAQ 100 indexes.
Overall, investing in securities involves a risk of loss that you should be prepared to bear.