Emerging Markets have been the darling of many investors during this past year. The 1-year chart comparing VWO, ILF vs. the S&P; 500 clearly demonstrates the difference in performance:



During the early phase of an economic recovery, these funds tend to lead the pack and offer great opportunities, but for how long?

If you chart the same funds, but use a 6-months time frame, a different picture emerges:

One of the many components to consider when selecting an ETF to invest in is the average trading volume. It can easily be located at any financial site that shows pricing and charting information.

As previously discussed, high volume can be critical by making it easier to enter and exit a certain market without too much slippage, especially on days when the exit doors get crowded.

To get an overview of trading volume in general, I have taken the listings of the ETF Master and added current average volume figures. The data is as of 4/1/2010, but be aware that those numbers are not static and are subject to change.

You can download the file in PDF format here or in Excel format at this link.

My latest No Load Fund/ETF Tracker has been posted at:

http://www.successful-investment.com/newsletter-archive.php

Despite Friday’s sharp sell-off, the major indexes ended up about unchanged for the week.

Our Trend Tracking Index (TTI) for domestic funds/ETFs has now crossed its trend line (red) to the upside by +4.85% keeping the current buy signal intact. The effective date was June 3, 2009.




The international index has now broken above its long-term trend line by +6.28%. A Buy signal was triggered effective May 11, 2009. We are holding our positions subject to a trailing stop loss.

Stop loss questions are continuing to be the hot topic. One reader posted the following comment:

Have you considered stop loss based on volatility? It is very complex and tricky but better than straight 7 or 8% one fits all.

To be clear, I already differentiate to some degree. My 7% rule applies only to all “widely diversified domestic and international funds/ETFs.” For more volatile sector and country funds, I use 10%.

To slice and dice this further by determining that one ETF with higher volatility should have a 7.75% sell stop while another one with less volatility should have a 6.58% exit point, is simply making things too complicated.

While this may be an interesting project for someone with lots of time on his hands, the differences in outcome maybe minute. I like to look at the big picture and have a plan in place to get out of a position when the trend goes against me. That’s it—no more no less.

You have to remember that this is not an exact science, but merely a method to limit risk. As such, I do not believe carrying this to an extreme will have any advantages. However, if you do engage in this project with your own investments, feel free to share your experiences with me.

Reader Vik has this viewpoint regarding the use of sell stops:

Thanks for all your work. I have expressed my views earlier but I will just repeat them. Trend tracking is excellent method of investing particularly when investing is not your primary job function.

You have already said that your clients would not like their profits vanish if you went purely by trends instead of 7% dip rule. I think this is more of educating them by historical examples of which method ultimately works better.

Over the past 20 some years, there have been quite a number of market pullbacks that would have turned a major profit into a loss (a cardinal sin of investing), had it not been for the use of trailing sell stops. During the roaring 90s, there was no reason to use anything but the trend lines as exit points, as the bull market was in full swing.

As we entered the first bust in 2000, the name of the game seemed to have changed, which made the use of a sell stop discipline an absolute must. In 2008, you could have gotten away with only using the trend lines as an exit point, but that is with the benefit of hindsight.

It’s a matter of simple math. Trend lines, such as used with my TTIs (Trend Tracking Indexes), move slowly and therefore have a lagging effect, which can endanger your unrealized gains, especially after severe market activity.

To demonstrate the lag, take a look at 2008 again. After we sold out on 6/23/08, the market corrected so violently to the downside that even after the low was reached on 3/9/09, we did not get a buy signal until 6/3/09.

Now let’s look at the current status of the domestic TTI. It is positioned +4.87% above its long term trend line. If the market heads down from here, your 7% sell stop will bail you out way before the TTI crosses its trend line to the downside, therefore locking in a higher profit.

Of course, if this were to turn into a whip-saw, we’d be looking for a new entry points as discussed in previous posts.

Regarding the above three issue you have with trend tracking:

1. Given how much time most people waste on useless endeavors, like watching TV, spending 5 minutes a day updating stop loss points seems hardly a task at all. I have found that most investors have way too many holdings, which makes updating sell stops more of a chore. For a million dollar portfolio, you should be in no more than 10-12 funds/ETFs.

2. Sometimes you do, but more often than not, you end up being stopped out at a profit as I posted in “Buy-In Vulnerability.”

3. Sure, trading restrictions are an issue we all have to deal with most of the time. Fortunately, ETFs have become the main player, which has solved this problem for many. I have some clients with Fidelity 401k funds, which we purchased at the last buy signal on 6/3/2009, and we have not been stopped out yet despite several pullbacks. I attribute this to a more conservative selection process, which you should use when dealing within a restricted playing field.

What it comes down to is for you to use the approach that you are most comfortable with, and that matches your day-to-day schedule best. I for one prefer the use of trailing sell stops as my exit points, but that does not mean you have to as well.

One of the more frequently asked questions is whether it’s too late to enter the market now if you have new money to deploy. Reader Tiff is facing that decision and had this to say:

I am in cash position at the moment with about 200k available to invest. Should I jump into the market now or should I wait for a correction? Bulls and bears are both appearing in the news a lot.

You always say in the newsletter that we should just follow the trend and let the market tell us when to exit. But in my case, am I too late to the game? Is now a good time to get in? Or is it always a good time to get in and then follow your trend line to get out?

While I have discussed that topic before, it’s an important one and bears repeating. The issue is obvious in that you risk buying on top of the market, but since no one can give you an answer as to how long this bull will stay alive, or if we are even close to topping out, you need to approach it differently.

When new clients come aboard, I like to use my definition of risk tolerance to arrive at that answer. Assume that you invest your entire amount at this time and the market declines right away (worst case scenario), thereafter leaving you with an about 8% loss after your sell stops have been triggered.

How will that affect you? Obviously, you won’t like it. But can you live with the fact that this is part of investing and that at times you need to take a small loss in order to avoid a big one?

If this is not acceptable to you, start out by investing only 50% and then increase that once the trend continues to the upside. This will cut your risk in half and exposes your portfolio to only a 4% loss.

Still too much? Invest only 1/3, which will reduce your risk even further.

This way, you have a plan in place to evaluate if based on risk factors you are emotionally fit to invest at this particular time. It sure beats trying in vain to determine whether this bull has more legs or not.

If none of these 3 scenarios sit well with you, simply don’t expose yourself to any market volatility by staying in cash, money market accounts or CDs.