Mutual Fund Selection & Management
We would like to make the distinction between mutual fund selection and management. If you use the same criteria for selecting and managing mutual funds then you are likely to under-perform in your investments. We try to distinguish between selection and management by using two different approaches, both in positive and in negative environments. Selection of funds can be based on those that declined the most in a previous "sell" period or on their maximum drawdown, ulcer index, small cap correlation, etc. Managing the funds in your portfolio should be associated with their performance, RSI/Stochastics or relative strength. Both the fund selection and management criteria are part of our daily analysis.

On a daily basis we update Ranking and Selection lists for FundSpectrum's suggested funds, as well as a large range of other mutual fund families (i.e. Rydex, ProFunds, Fidelity, etc.). These lists contain relevant indicators that are used for both selection & ranking as well as management of the funds in your portfolio. One of those indicators for example, is the RSI/Stochastic, where we use the following ranking rules:

The "65" No-Sell Zone: When the RSI/Stoc value of a particular fund is above 65 percent, you cannot sell that fund. When it is above 65, the possibility to make a large profit in the market is significant.

The below-50 Sell Zone: When the RSI/Stoc value is below 50 percent it enters the "Sell zone". If you are invested in a fund, and the value of RSI/Stoc drops below 50, you will only have one decision to make – sell. The only time you will have to make a decision is when the value is between 50 and 65, the “Decision Zone”.

From a new buy position: When you have been forced out of the market, and a new buy signal is initiated, buy the funds that declined the most during the last two corrections of more than 4 percent in the dominant index. If you are trying to decide which funds to buy, and two funds at the top of the Ranking list are for example the AA-fund and BB-fund and both og them have a RSI/Stoc in their 90's, then look at their annual percentage return. The AA-fund might have gained 37 percent and the BB-fund might have lost 49 percent. Which one would you rather own? Now, be careful, the AA-fund might be extended too far.
Volatility is good. The funds that declined the most are absolutely going to be the best performers on the way out of the decline. We prefer to select funds that are going up between RSI/Stoc 50 and before we get to 65. That means we are getting that upward momentum.

Funds that have a relative strength greater than the dominant index (Russell 2000) and a Small Cap correlation greater than 90%, will have our first choice.

We also use a "scorecards", ranking the funds according to various indicators (i.e. Price Oscillator and Trend, percent above 50 day Moving Average, Sharpe Ratio, Ulcer Index Maximum Drawdown). All the indicators and our ranking approach are explained in more detail in the daily reports for our subscribers.

From a trade-up situation: By trade-up we mean, switching a fund in your portfolio with declining performance to a better performing fund. For example, we are in the market and suddenly our fund drops down below a RSI/Stoc of 65, then below 50, and we will need to decide which fund to trade-up to. Buying the No.1-ranked fund, is not necessarily the best choice in an ongoing buy signal period. When you trade up, look for stability. Do not pick the fund with the greatest momentum or RSI/Stoc - consider the risk that it may already be overextended.

Two criteria will need to be met when trading-up to another fund: (1) when a fund falls out of the top one-third of the funds evaluated OR when the fund’s relative strength against the dominant index turns negative.

Number of Funds: As a general rule, the fewer funds you can own, the better off you will be, and the more likely your returns will exceed the average. Just like herding sheep. It’s easier to herd 3 or 4 sheep than it is to herd 20, or 40.

Fund Size: All things being equal, the smaller the fund, the better the probability that you will make money from it. Fidelity Contrafund (FCNTX) for example has to own 400 stocks, while this other fund manager has $150 million in his fund, and owns 15 stocks. He can make a much bigger impact. That is the single biggest advantage that the individual investor has over the larger institutions.

Sell Discipline: You will need to have your own personal sell discipline, and it should be different for every person. It is a critical part of money management. If you have discipline, you will be wrong sometimes, but you will never be undecided. If the RSI/Stoc drops below 50, sell it. If it goes above 50, you can buy it.

We always follow our trading rules, because we never know which it will be – a nice profit or a small loss. And that is the only outcome that is acceptable. A good trade to us is the fact that we followed the rules. Having a 2 percent loss or a 3 percent loss and following the rules, we promise you, that is the right thing to do. Because the next one is going to be much better.

Making Money: There are three factors why some people have difficulty making money in the market:
Positive expectancy. They do not have a positive expectancy system. They listen to CNBC. They listen to their broker. They listen to newsletters, etc. They want to be right. People would rather be right than make money. If you think about it, how many people have you heard, “This is a wave 3 but it might be a countertrend rally. We think it’s going to bottom next Tuesday at about 11:00 am”. Nonsense! Too often, we shoot arrows at the wall, paint a circle around it and yell, “Bulls-eye!”.
Money management. They are risky with their losses and conservative with their wins.
Individual psychology. Do not let your emotions take control!

Which would you prefer: a sure gain of $900, or a 95 percent chance of a $1,000 gain plus a 5 percent chance of no gain at all?

Now this goes back to positive expectancy. Most people might be on the wrong side of this. If you take a sure gain, you are being conservative with your profits. Hey, 95 percent chance? Where can you get a 95 percent chance to get an additional 11 percent gain.

The Golden Rule of Investing: Cut your losses short, and let your profits run. That is what we have to do!