The strategy is based on the ShareMaestro valuation software, of which I am the creator (see me discuss it in a video here: bit.ly/SufNoY). ShareMaestro values the FTSE based on various fundamental factors and tells you whether the index is currently cheap or expensive. A valuation of greater than 100 per cent is good value, and one of below 100 per cent is poor value.
Whenever the ShareMaestro for FTSE 100 is greater than 105 per cent, I buy a FTSE spread bet, and sell my bet whenever the valuation then drops below 105 per cent. I set a stop-loss such that I cannot lose more than 25 per cent of my total investment on any one trade, enabling me to keep most of the value of my investment in an interest-bearing savings account.
The first step is to decide how much you want to invest overall. Whenever the ShareMaestro valuation goes over 105 per cent, buy a FTSE 'futures' bet, with an expiry date at least three months away, but as close to three months as possible. Calculate your stake as one quarter of your total investment, divided by the FTSE 100 future price x 0.0555).
As you open the bet, place a guaranteed stop-loss at a level 5.55 per cent below your entry price. This will limit the loss on your overall investment to 25 per cent. You should leave 25 per cent of your total investment value in your account to cover the potential loss. The remaining 75 per cent should be invested in an interest-bearing savings account.
If the FTSE 100's valuation has dropped below 105 per cent after two months, you sell your position. After that, if the valuation drops below 105 per cent before the bet's expiry, you also sell, and then wait until expiry before opening fresh positions. If, at expiry, the valuation remains above 105 per cent, you take out a further bet as before.
What about when the FTSE 100 goes into freefall? I define freefall as the point where the closing price crashes more than 10 per cent below the price at which the 145-day moving average of closing prices has fallen below the 242-day moving average of closing prices. You can screen for this automatically using a spread sheet.
When freefall occurs, sell any open FTSE 100 spread bets, irrespective of the valuation. Only re-enter once the index's 145-day moving average has risen above the 242-day moving average and the ShareMaestro valuation is greater than 105 per cent.
I should point out that the high returns available from this strategy require taking high risks. The gearing on your investment is 4.5 times, so a 1 per cent rise or fall in the index becomes a 4.5 per cent profit or loss. When I did the strategy with covered warrants, three-quarters of trades were winners, but occasionally stop-losses were triggered twice in a row. To succeed, you need to stick at it for the medium to long term.
Glenn Martin is chief executive and founder of www.sharemaestro.co.uk.
