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

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

Another up week pushed all major indexes higher with the Dow now only needing 200 points to reach the 10,000 level.

Our Trend Tracking Index (TTI) for domestic funds/ETFs has now crossed its trend line (red) to the upside by +8.41% 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 +17.05%. A Buy signal was triggered effective May 11, 2009. We are holding our positions subject to a trailing stop loss.



[Click on charts to enlarge]

For more details, and the latest market commentary, as well as the updated No load Fund/ETF StatSheet, please see the above link.

In the last couple of posts, I talked about the implementation of the trailing sell stop strategy and how to handle distributions.

A sell stop is a vital part of protecting the bulk of your portfolio in case of sudden trend changes. Of course, the other side of the coin is that you may get stopped out, the trend reverses again, and prices head higher leaving you on the sidelines.

That’s a classic whip-saw and simply the price you have to pay in order to not go down with the sinking ship as many did last year and in 2000.

Reader Wade had this comment:

Yes, sell stops work to get out of the market with minimal damage, but what type of rule do you follow to get back in after the market turns around?

First, let me clarify that this is not an exact science, there is a little bit of guesswork involved.

Let’s use an example of how you might find a new entry point. Say, you bought an ETF at $10 and the price, over time, rises to $11.00, which becomes your high point from which to measure your 7% trailing sell stop. That would make your trigger point around $10.23.

Let’s assume that this sell stop gets triggered and you get out of the position at around the above price, give or take a few cents. Now the trend reverses again and prices head higher with your old ETF now crossing the $10.60 level.

You have decided that you like this ETF and want to establish a new position, but when and at what price point?

As I said, there is no hard and fast rule that guarantees a positive outcome. Trend tracking is based on jumping aboard funds/ETFs as they are advancing and showing strong upward momentum.

Personally, I would consider re-entering once the old high has been taken out. In this example, it means prices have to break above the $11.00 level before I make a new commitment.

While that does not give you any assurances, you are entering at least with the trend being on your side. At the same time, you need to establish a new sell stop point in case this turns out to be another head fake.

My point is that you are better off keeping your emotions in check by following a methodical approach for dealing with these uncertainties than going by the seat of your pants.

I firmly believe that if you have a plan in place as to when to buy, when to sell and how to deal with whip-saws, your investment life will become much calmer.

At that time, you no longer need to listen to the hyped-up cheerleaders on the financial news stations promising and touting anything just to keep you tuned in for the commercial messages.

Reader Tad made an important comment in regards to yesterday’s post. Here’s what he said:

I think you should make your readers aware of what happens to the NAV price when dividends and/or capital gains are paid out of a fund, as this might trigger an unwarranted trailing stop loss sale.

That is correct. When mutual funds/ETFs declare distributions, you have to adjust your high price, which is used to track the trailing sell stop point.

For example, let’s say you bought an ETF at $10. The markets meander but with an upward bias, and your holding hits a high price (since you purchased it) of $10.50. This figure becomes the point from which you measure the 7% stop loss.

If this fund now has a distribution of, say $0.20, the daily price (NAV) is reduced by that amount. If you are not aware of this, this may possibly trigger a sell signal, unless you adjust your high price downward as well. In this example, the high price was $10.50, which needs to be adjusted to $10.30.

Whenever you see a large price change in any of your holdings, be sure to check that it was related to market activity and not due to any distribution. Being aware of it, will help you make the right decision when it comes to liquidating your holdings.

Implementing the trailing sell stop strategy is imperative to your portfolio surviving treacherous times as this century has shown.

Even though it has been discussed before, new readers may bring up old questions, but they are nevertheless important to be reviewed again. Here’s the latest one:

Sorry for a potentially dumb question, but do you know if trailing stops are commonly provided by the big names? I cannot seem to find it with Vanguard, but it seems to be there for Fidelity. Should I do my best with an excel sheet if I do not have the option available at one?

Actually, this is not a dumb question at all. It simply shows that you are seeing the wisdom of using stops and are trying to find a way to apply them with your existing custodians.

As you know, there is no way to place stops for mutual fund holdings. You need to track the highs your funds have made since you have purchased them on a spreadsheet and update the prices daily. That’s what I do.

For ETFs, you can place orders for sell stops with any of the large brokerage houses. However, I do not recommend you do that, because intra-day market activity might stop you out and prices may subsequently rally.

In that respect, I treat mutual funds and ETFs alike. I track the day-ending prices on a spreadsheet and, if a sell stop has been triggered on that basis, only then do I enter the order the next trading day.

For domestic and widely diversified international funds/ETFs, I use 7%; for more volatile sector and country funds/ETFs, I use 10%.

The question in your mind might be when do I exactly pull the trigger? Right at 7%, or at 7.1%, or do I wait until 7.5%? That’s where a little bit of subjectivity comes into play.

Say, a domestic ETF closes off its high by 7.1%. Do I sell the next day? No, I personally like to see a clear piercing of the 7% level. For example, if the markets drop sharply that day and this ETF closes down -8%, I will place my sell order the next day.

If it closes down -7.1% or so, I might wait another day to see if the market rebounds. If it does, I patiently wait. If it does not, and the next day we’re heading towards -8%, I will liquidate. It all depends on your risk tolerance; only you can make that decision.

Reader Ken pointed to an article titled “Tax Traps for IRA investors in Short ETFs.” While it was written the beginning of this year, when the markets tanked, the issue, however, is still important.

Here are some highlights:

With the market down about 9% year-to-date, everyone is looking at making money shorting the market. It’s not easy: the downside potential is unlimited. Stocks sold short can be called away by the brokerage firm while a position is at a loss, thus, realizing the loss.

However, activities inside of these funds can cause the shareholder to file taxes even if they are bought inside an IRA. This occurs when a tax-exempt entity participates in business that is not deemed tax exempt by the Internal Revenue Service as part of the Employee Retirement Income Security Act of 1974 (ERISA).

[Emphasis added]

Over the years, I have talked with many investors and clients who had holdings in these types of short funds, especially BEARX, since it has been around a long time. However, I have never heard anyone bringing up the potential tax liability in an IRA account.

If you are an accountant, or have had tax issues as described above, please add your input as to how frequently this applies or if this will only occur as a random event depending on the fund’s activity.

I am traveling this weekend, but regular posting will resume on Monday.