Can Relative Rotation Graphs be back tested?
Or, what is the track-record for RRG? These are probably the two most frequently asked questions since their introduction. The short answer would be : "There is none"! But let me try to clarify that a bit.
It's another chart format
RRG is best seen and used as you would use a 'regular' chart. Which means that different people will interpret the chart differently.
Just like the interpretation of regular charts some users are very aggressive and take positions early while others are more conservative and take positions late.
Same with the use of moving averages. People who use crossings of price and a 5 day MA will get a lot of signals while people who use a 50 day MA will get a lot less signals.
Is one better than the other ? I don't know, it all depends on the style and the goal of the user/investor/portfolio manager/trader. Same with the interpretation of RRGs.
All in one picture
What you need to keep in mind is that the rotation in the RRG plots is based on a trend following algorithm which takes into account the relative strength of all elements in the universe and goes through a normalization process.
This is the real added value of Relative Rotation Graphs. They enables users to judge the relative positions of all elements in the universe that they are studying against their benchmark and against each other. All in one chart!
RRGs give you the BIG picture in ONE picture!
Portfolio level approach
If you want to go the route of back-testing, in my opinion, it is important to use a true portfolio level approach. In other words you cannot simply come up with a rule (any rule based on RRG values, does not matter which one) test it on one security and then make a judgement.
The way to do it is to come up with 'rules' that create 'portfolios' based on RRGs and test the performance of these portfolios as a whole and not of single instruments.
Finally, and I am sure you are aware of this, Relative Rotation Graphs look at relative strength, so any back-test should look at relative returns and not at absolute returns.
RRG is part of the puzzle
Having said all of the above I am not a 'fan' of building a system that 'only' uses RRGs or RRG values.
The way I present RRG is that I think it is best used as a starting point of analysis to give the user a grip of what's going on in his or her universe/portfolio etc and then apply the workflow he or she is used to and familiar with.
Relative Rotation Graphs will help these people to spend their valuable time looking at and analyzing securities that are worth looking at (from both a positive and a negative point of view). In the same way I would like to promote RRGs as an 'element' of a trading plan or - system.
For example as a filter for picking trades in, say, a simple moving average system; when the MA system signals a long-trade only take it when RRG values fullfill certain criteria (JdK RS-Ratio>98 AND JdK RS-Momentum>102, something like that) same with short-trades.This will ensure that one only trades long in the securities that are showing increasing relative strength and only short when the security is showing weakening relative strength. Obviously there are hundreds or thousands of different values and interpretations you can come up with.
For me, ever since I had the first very basic RRG plot on my screen running off a lot of spaghetti VBA code in excel and looking not nearly as nice as our partners have implemented RRGs on their platforms, it is acting like Pandorra's box.
Hope this helps you in your use of RRGs in your daily work. Please feel free to throw ideas out and share your experiences here in the forums on social media channels where we are active, the comment sections on blogs (here and on StockCharts.com) or in chat-boxes on Bloomberg or EIKON! That is what these are for!
Everytime you open it it gives you a new angle or a new way to look at things which may not be clearly visible, or clearly not visible, using traditional charts and tools.
Quantifying the interpretation and results based on RRG is one of the areas where we continue to do a lot of work.
If you have any questions in this area or would like to share any of your experiences or views then please do so either in the comment section or in the forum. We are happy to listen en and answer or discuss any views.