Interest rates have been going up and have affected not only mortgage rates but U.S. Treasuries and bond funds as well.

Reader Eric was concerned about his bond index fund holdings in his 401k as he read Kiplinger’s “A Tipping Point In Bonds:”

A 27-year-long bull market in bonds is over and a brutal bear market is under way, says Tom Atteberry, co-manager of FPA New Income (symbol FPNIX). That’s bad news for bond investors, particularly those holding Treasuries and municipal IOUs.

But as bond investors regained their appetite for risk in 2009, they pushed up muni prices — and pushed down their yields — to the point where that cushion has essentially disappeared. As of May 22, the yield on ten-year triple-A-rated municipal bonds had fallen to 81% of the yield on the ten-year Treasury.

Nobody knows for sure how this bond debacle will play out. Some of my clients have been holding VBTSX, and the change in price has been negligible.

From my vantage point, the solution to deal with a potential drop in fund prices due to higher yields is the same as if you were invested in equities. There is no need to guess or panic but simply track the trend.

How?

You use the same sell stop discipline as you would if you were invested in an equity mutual fund/ETF. Find out the price you paid for the bond fund you are holding and apply a trailing sell stop of 5% or 7% or whatever fits your risk profile best.

If the long-term rally in the bond market eventually comes to an end due to higher yields, the trend will reverse and trigger your trailing sell stop point. If you owned this bond fund for a long time, chances are that you will be locking in profits. If you have just established the position, the trailing sell stop will limit your losses.

The investment methodology applied with trend tracking does not change because you are invested in bond funds vs. equity funds. It is designed to keep you in the market while prices are going your way and out of it with minimum losses before disaster strikes and annihilates your portfolio.

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

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

A last hour charge propelled the major indexes to another weekly gain.

Our Trend Tracking Index (TTI) for domestic funds/ETFs has now crossed its trend line (red) to the upside by a scant +0.69%%. We will watch for a couple of days to be sure upside momentum can be maintained before issuing a domestic Buy signal.



The international index has now broken above its long-term trend line by +7.90%. A Buy signal was triggered effective May 11, 2009. We are holding our positions subject to a trailing stop loss.

Higher oil prices and interest rates, along with GM nearing bankruptcy, pulled the markets down, and pretty much all of Tuesday’s gains were surrendered.

Our domestic Trend Tracking Index (TTI) moved again further away from breaking its trend line to the upside (-1.84%), which means that, barring any extreme upside recovery, a domestic buy appears unlikely this week.

Economic news seems to be interpreted in different ways, of course, depending on who you ask, but no one seems to have a clear cut idea as to what’s next on the horizon. Hopes of recovery by the end of this year are on the front burner, but we can’t be sure.

Given this constant barrage of bad news vs. encouraging news, let’s look at how bad the economy really is from a humorous point of view as submitted by reader Tom. I hope this will put a smile on your face:

The Economy Is So Bad…

Congress says they are looking into this Bernard Madoff scandal. Hey, great idea…. the guy who made $50 billion disappear is being investigated by the people who made $750 billion disappear.

Rising oil prices and interest rates, a falling dollar and a record decline in home prices couldn’t keep the market down yesterday.

The upward bias came in form of a surprisingly strong consumer confidence report that helped the bulls forget quickly that the past 4 trading days were losers.

Since our International Buy signal on May 11, 2009, our fund selections have now gained 3.30% and our hedge positions improved today as well.

Our Trend Tracking Indexes (TTIs) are now positioned as follows:

Domestic TTI: -0.59%
International TTI: +5.94%
Hedge TTI: +0.73%

Our domestic TTI has now again moved to close proximity of breaking its long-term trend line to the upside. As I said before, to minimize any whipsaw signals, I want to see a clear break above the line after it has been recalculated, which happens every Friday.

We’ve been close over the past few weeks, but the markets backed off every time we put our hands on the trigger. Stay tuned to any changes; I will keep you informed via an update blog post.

The ultimate investment goal for the majority of investors is to find some no load funds/ETFs that have the ability to zag when the markets zig.

This is a daunting task indeed and many, who thought they had such portfolio diversification last year, learned the hard way that this proverbial needle in the haystack had not been found yet.

The WSJ had some thoughts on the topic in “When The Market Zigs, These Funds Zag:”

Last fall, many investors found out that they weren’t as diversified as they had thought. Mid-cap blend, large-cap growth, international value: Their mutual funds had fancy names and labels, but when the crunch came, all those funds were caught doing the same thing, betting shares would rise.

Investors, of course, know there that there is no free lunch. Absolute return funds will outperform others in a bear market, but they will underperform when shares boom. They tend to have high expenses. Federated Market Opportunity’s A shares have a 5.5% sales load and a total expense ratio of 1.56 %. Plus, such funds are only as good as their managers.

Obviously, those investors who had FMAAX as part of their holdings did fare better than the rest of the asset allocation crowd. While I don’t own FMAAX, or any of the funds discussed in this article, I have used it in the past since it is available to me as a load waived fund.

With a Beta value of 0.43, it will hold up better than most in bear markets but lag in rip-roaring bull markets. Still, it’s not a fund for all seasons that can be blindly held. Applying a trend tracking strategy including stop loss points would have improved results considerably.

Buying and holding this fund still exposed you to a 24% drop last year, however, it has recovered nicely closing last week at 11.73, which is only a little over 7% off the price it had when our Sell signal was generated on 6/23/2008.

The bottom line is that there is no such one fund/ETF for all seasons, so the search for the needle in the haystack goes on.

One reader emailed me with the following question:

Could you explain the difference between smart money and dumb money? I know the traders lure us unsuspecting people into the market like they have over the last 2 months or so then sell their holdings and then go short and wait till the bag holders start selling again and then cover their shorts and start buying again apparently from the Dumb money people.

Is this close to reality?

Nobody is luring you into the market. It’s a decision you make and no one else. It sounds to me that you have a trader’s mentality (short-term), which puts you automatically in the loser’s column most of the time. There are very few short-term traders who consistently make money year after year. Many try but most fail.

Your comment makes me believe that you have lost money over the past couple of months; otherwise this question would be moot. Nobody is out to get you, but chances are that you work with pre-set stop losses, which get filled at the most inopportune time giving you the impression that you are being shafted.

To me, once sell stops are placed ahead of time, they become public knowledge to those executing the orders. This is why I never recommend placing stops in that fashion. If you base them on closing prices only, and they get triggered, then enter the order the next day.

You might want to consider using a different approach.

I have some clients who have divided their pile of investment money into two parts, named “play” money and “serious” money. Since they are interested in the market, they use their play money to satisfy what I call the need to gamble and take risks. I handle the serious money, which is to be invested with discipline and for the longer term.

To me, smart money is represented by those investors/advisors who work with an investment discipline, which supports clearly defined entry and exit points. At the same time, they are in control of their ego by seeing the need to take small losses from time to time in order to avoid the big ones.

Dumb money is the just opposite in that those investors are relying more on hope than anything else by not having a clear buy/sell strategy or any idea when to get out of a position. That, unfortunately, is the mode of operation by the majority of the investing public.