Bill Fleckenstein posted some interesting thoughts in “Thank Uncle Sam for the Rally.” Here are some snippets:

There is nothing like a monumental surge in government stimuli to help boost the markets and, by extension, people’s perceptions of the news.

I agree. And I will continue to wait for opportunities where I believe the risk-reward ratio is really in my favor and I am able to muster up some conviction.

[My emphasis]

This pretty much reflects what I have been saying. It is important that you as an investor have a plan in place and part of that plan is to wait for opportunities to present themselves. This is opposite to what most people do by feeling the overwhelming need to “do something.”

Using our hedge strategy has allowed us to move into the market earlier than our conventional trading rules call for. However, patience by waiting for the right moment to execute is just as critical with hedging as it is when establishing outright long or short positions.

Missing out on an opportunity is far better for your portfolio value than pressing the issue by forcing yourself into some positions too early and then watching the market prove you wrong.

Over the past couple of weeks, I have featured two readers’ experiences in setting up a hedge as per my free e-book “The SimpleHedge Strategy.” Both understood the concept and applied it well.

Despite the markets having shown dramatic drops (-25%), followed by sharp rebounds (+27%) year-to-date, the hedge concept has held up extremely well. However, when markets move in such extreme ranges, it is important for you to rebalance once your hedge gets lopsided.

I touched on that in my e-book, but I want to further elaborate on this very important concept. Yes, you can simply set up a hedge and hold it, but you’d be missing out on a lot of profits as well as bringing more of the downside risk into play.

Let me show you the difference of what happens to your hedge returns if you’re simply buying and holding vs. re-balancing as I recommend. Let’s look at the period from 12/31/2008 to 4/24/2009, since we’ve had extreme volatility and violent swings in the market place:

1. Domestic Hedge using SH vs. 2 mutual funds (buy and hold): +1.75%
2. Domestic Hedge using SH vs. 2 mutual funds (re-balanced twice): +6.79%
3. Domestic Hedge using SH vs. 2 ETFs (buy and hold): +1.87%
4. Domestic Hedge using SH vs. 2 ETFs (re-balanced twice): +7.72%

These are dramatic differences that you need to be aware of, and the impact on the bottom line over less than 4 months is very impressive by any standard.

So when should you re-balance?

As you know, we always start out with a 50/50 ratio between long and short. I will re-balance to that ratio, once the hedge gets lopsided by 61%/39% in either direction. So far this year, it has meant that two adjustments were necessary.

This is a small price to pay considering the positive effect these changes can have on your portfolio. I am obliged to tell you that this past performance is no guarantee of future results; however, using a methodical approach in your investing endeavors will enhance the odds of you being successful.

A couple of weeks ago MarketWatch featured the “Stupid Investment of the Week.” Here are some highlights:

When an investment company fires a fund manager, the typical pitch to shareholders is that they should stick around because better days must be ahead.

In short, it has fallen and can’t get up.

There is no doubt that international funds got clobbered during this past bear market, but to me that was not necessarily a function of bad stock selections as it was a function of market direction. Let’s be realistic, when a bear market strikes, all funds will go down.

Let’s take a look at Janus Worldwide and compare it to one of the investment darlings, namely Fidelity Diversified:



As you can see, they have mirrored each other pretty much over the past 2 years. That means no matter which fund you would have been invested in, the outcome of holding a bullish fund in a bearish scenario would have been the same: Heavy portfolio losses in the area of 50%.

That’s the issue the above article should have addressed. It’s not as important which fund you are invested in; it’s what you do when the market changes direction. Per our international Trend Tracking Index (TTI), which signaled a Sell on 11/13/2007 (see red arrow), you should not have held on to either fund.

This is why I keep harping on the same thing over and over when I read articles like the one above. It puts the cart before the horse by using whatever means to select a fund and then hope for the best.

To keep yourself out of trouble (translation: losing heavy), here’s the one-two-three punch in the investment selection process:

1. Determine the general trend of the market for the investment you are considering. If it’s bullish, go to #2; if it’s bearish, go to #3.

2. Select your investment from the choices available to you based on rising momentum numbers and establish an exit strategy after you have completed your purchases.

3. If the trend is bearish, don’t invest in a fund that prospers only in a bullish environment. Either stay on the sidelines or, if your risk profile permits, use an inverse fund/ETF to take advantage of a descending trend line.

Following these simple guidelines will put you in control of your investments and not the other way around. If you can become disciplined and follow a sell stop strategy, such as I recommend, you will at any given time know what your risk is as well as when to buy and when to sell.

Just making these adjustments to your approach of managing your portfolio will give you more peace of mind and let you sleep better at night.

Sometimes it pays to look at the big picture to see where we have been, where we might be going and what has changed.

Doing that will at the same time also answer a frequently asked question, namely how much time does the domestic Trend Tracking Index (TTI) spend in bullish vs. bearish territory. As you know, for me, the dividing line between being bullish and bearish is the 39-week moving average of the TTI.

Looking back some 18 years, from 1/25/91 to 3/31/09, it turns out that the price line hovers above the trend line 68% of the time, while we spent 32% below it. That means, just about 2/3 of the time, the bulls were in charge.

But that does not tell the entire story. This period included the 90s, during which, for the most part, you could have thrown darts at the mutual funds pages of your daily newspaper and picked a winner.

Times have clearly changed since we moved into this century and with it the ratio of bullish to bearish periods. Take a look at the table above and note that from 1/1/2000 to 3/31/2009, we have only remained in the bullish zone 52% of the time vs. 48% in bear territory.

My guess is that by the time this current bear market is over, the ratio may have even turned further in favor of the bears.

This century has surprised us with 2 bear markets which, as a result, have caused the S&P; 500 to lose 42% from 12/31/1999 to 3/31/2009 with many portfolios following a similar descent. If this pattern continues and, investors along with advisors don’t adjust from creating only bullish portfolio scenarios, the consequences obviously will be dire.

Why bring it up?

For one, we are now spending more time on the sidelines since the bullish periods have been reduced from 68% to 52%, at least during the past 9 years. This ratio change would be even more extreme if I were to compare the 1990s to the 2000s.

While being on the sideline has been very rewarding in sidestepping the bear markets of 2000 and 2008, it has also made me look for alternatives to increase investment opportunities by using new products, some of which have only been available for a couple of years.

I am talking about ETFs, of course, and the more recent introduction of inverse products. They have led to the introduction of my SimpleHedge Strategy, which offers possibilities during the 48% of the time when the bears have the upper hand. I have recently expanded on these ideas further by testing successful hedges using China, the Emerging Markets and the BRIC countries. I will publish those results in due time.

To be clear, these additions do not mean that the basic premise of trend tracking has changed. Our goal still remains to track the major up trends and be invested in these bullish phases when the opportunities present themselves. On the other side, it is just as important that we continue to follow our sell stop discipline and be out of the market to avoid getting caught in severe bear market slides.

In the past 6 months alone, we have seen a rally of 20%, a subsequent drop of 24% and a rally again of some 26%, which are clear signs of violent bear market behavior and uncertainty as to the longer term direction. Those, who participated in all three scenarios have not made much headway in terms of portfolio gains but had to endure major emotional stress tests.

The battle of wits between bulls and bears will go on forever, and we have no control over it. What we do have control over is our investment approach, and I believe that the addition of the various hedge strategies will allow us to better deal with the ever changing market conditions.

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

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

Despite sharp losses early in the week, the major indexes managed to claw back.

Our Trend Tracking Index (TTI) for domestic funds/ETFs remains below its trend line (red) by -2.82% thereby confirming the current bear market trend.



The international index now remains -4.09% below its own trend line, keeping us on the sidelines.

Hat tip to reader Rob for pointing to a very fascinating interview between Bill Moyer and William Black, author of the the book “The Best Way To Rob A Bank Is To Own One.”

You can view the video at:

www.pbs.org/moyers/journal/04032009/watch.html

It’s about 25 minutes in length, but I was so intrigued by what Bill Black had to say about the banking crisis, that it turned out to be time well spent.

Bill Black is the former senior regulator who cracked down on banks during the Savings & Loan crisis of the 80s, which makes him very qualified to to discuss current banking issues.

Hope you enjoy it as much as I did.