With the mother of all bears having mauled most portfolios in 2008, mutual fund companies are scrambling to come up with solutions to alleviate investor fear that nothing has been done to avoid a repeat performance.

American Century believes that their attention to risk control has been paying off:

About one-third of American Century’s 79 funds are in the top quarter of their categories for performance over the past year, according to investment researcher Morningstar Inc. For the past three years, more than one half of its funds were in the top quarter, and one of every four landed in the top 10%.

Last week American Century was named Best Large Mutual Fund Company at the 2009 Lipper Fund Awards. The prize is awarded to the fund firm top in “delivering consistent, risk-adjusted performance, relative to peers.”

That’s nice. They receive an award for “delivering consistent, risk-adjusted performance, relative to peers.” Every mutual fund known to man got slaughtered last year yet performance awards are being given out.

I have touched on this many times. If a mutual fund/ETF outperforms the typical S&P; 500 benchmark, this is a historic event and deserves praise. Never mind that the S&P; 500 lost over 38% in 2008. If a fund loses “only” 35%, they can boast that they have “outperformed” the index.

The fact that an investor in this fund is now sitting on mind boggling losses, which require him to have to gain 50% just to reach the break even point again, does not matter in the perverse world of Wall Street returns.

American Century still had several funds that trailed their benchmarks last year.

Chang added that while American Century stresses risk management, it also expects stock portfolios to be fully invested and not hold cash.

[My emphasis]

I am not sure why anyone would publish this information. The Ultra Fund lost 41.7% in 2008, yet it “is doing exactly what we told investors it would.” This has to be one of the most ignorant and selfish statements so far this year.

Take a look at the numbers. Ultra gained 21.8% in 2007 and lost 41.7% in 2008. A $100k investment in this fund would now be worth (at the end of 2008) only $71k, or a 29% loss.

It gets better. The Discovery fund lost 52.2% in 2008, but gained 31.5% in 2006 and 24.5% in 2007. On the surface, it seems that you should be ahead with those prior year gains, but you’re not. Your $100k actually shrank to a little over $78K.

I am not picking on American Century here; all fund companies will distribute similar information. My point, which I have been hammering on for over 20 years, is this:

It does not really matter how much of a return you make during good times, what matters is how much you keep when the markets turn south.

In other words, avoiding big losses is far more important than happily salivating over gains.

Hopefully, investors will have learned this lesson.

When you read stories like the above one above touting risk control, be aware that this has no effect on you as an investor. Mutual fund companies will always function as the ultimate buy-and-hold institutions no matter what wording is used. When the trend heads south again, it will up to you take action in order to avoid a repeat disaster of last year.

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

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

A long overdue pullback handed the bulls the first loss in six weeks.

Our Trend Tracking Index (TTI) for domestic funds/ETFs remains below its trend line (red) by -1.10% thereby confirming the current bear market trend.



The international index has now broken above its long-term trend line by +1.94%, which triggered a Buy signal effective May 11. We are holding our positions subject to a trailing stop loss.

Reader Frank had this comment regarding the need to set up stop losses:

I have been reading your column and understand the need for the trailing stops; however, the cost to transact at brokerage houses or the redemption time period at mutual fund firms are additional costs that must be considered and could become prohibitive in some cases.

Do you have a favorite place to transact so that these additional fees will not excessively burden the transaction?

Sure, all brokerage firms have some type of transaction costs when it comes to ETFs and early redemption fees with respect to mutual funds. However, that is totally unimportant when it comes to implementing a sell stop strategy because the risk of staying in the market at crucial turning points as opposed to getting out can be very costly as the last year has shown.

Trading costs have become very inexpensive but vary depending on where you keep your account. I use Schwab and selling an ETF typically costs 12.95 (but can be as low as 9.95) while the early redemption fee for buying and selling a mutual fund within 90 days is $49.95. Some custodians like E-Trade may have even lower fees.

Again, I need to stress that nowadays the costs of getting out of a position are not prohibitive in scale; what is prohibitive is staying in the market when trends turn south again and watching your portfolio values evaporate.

Transaction fees are part of life but, when used in conjunction with a sell stop discipline, they fulfill the function of portfolio insurance to assure that you can survive treacherous market conditions.

Monday’s moderate sell off spilled over into Tuesday, until late buying set in—but only the Dow ended up recouping all intraday losses by closing in positive territory.

It was a day that could have ended up really ugly as a menu of negative news ranging from weakness in housing, the selling of financial and technology stocks along with higher oil prices pulled the markets lower before the bungee effect catapulted the averages out of the doldrums. Even the increased probability of GM’s bankruptcy did not break the mid-day recovery.

After yesterday’s close, here’s where Trend Tracking Indexes (TTIs) ended up in respect to their long-term trend lines:

Domestic TTI: -0.69%
International TTI: +2.17%
Hedge TTI: +2.81%

We are maintaining our domestic hedges and have invested in the international arena. Our trailing sell stops are set, and we now need to wait and see if more upward momentum can be generated or if the upcoming dog days of summer are keeping a lid on further advances.

In case you missed, it Reader BD commented on yesterday’s post about “Investment Insurance” as follows:

Today was a good example as to what happens when one buys and sells only on the crossing above or below a moving average line.

I couldn’t live with myself if I allowed myself to be that careless and allowed that to happen to me. I couldn’t sleep at night just thinking about what I had done.

The key to any successful investment approach is the comfort level of the investor and not the method employed. If reader BD’s risk tolerance is such that he needs to wait for further confirmation of an uptrend, then that is what he should do.

However, I caution against finding too many reasons as to why this is not a good time to enter the market in order to simply avoid making a decision. Sooner or later, you need to draw a line in the sand and take a stance.

As long as BD understands that, and it appears he does, then waiting for the circumstances to meet his system’s requirement is the way to go.

Again, I have no idea what tomorrow will bring, and if this international Buy signal has legs or not. That’s why our sell stops have been established, and they will be triggered if market direction goes against us by a certain percentage.

For the record, I have not found that a rising trend line at the time a buy signal is generated via our TTIs has brought improved results over time as opposed to entering the market while the trend line was still descending.

In my last two posts, I talked about investment choices and the importance of using a sell stop discipline.

When you work with a trailing sell stop, you have to accept the fact that an occasional whip-saw signal will become part of your investment life whether you like it or not.

Taxxcpa had this comment:

A whipsaw possibility is like the cost of insurance. The cost of a couple of whipsaw losses is not too big a price to pay and you should recoup those losses when the trend does not end with a whipsaw and keeps moving up.

Even if this is a bear market rally, there is room for profit if the rally continues until the next sell signal is at a higher level than when the buy signal occurred.

That’s exactly my point. In most areas of your life, you have insurance in place to cover catastrophic events. You pay for this peace of mind whether these events occur or not.

The equivalent in investing is the small cost associated with an occasional whip-saw. However, this requires two things on your part:

1. Have a disciplined investment strategy in place with clearly defined entry and exit points.

2. Check your ego at the door by admitting that an investment decision may have been wrong (or too early) and execute your sell strategy before a small loss turns into a big one.

Millions of investors could have avoided portfolio disaster year, if they had acted on these two simple ideas.

History tends to repeat itself. If you did not heed these warnings last year and paid the price for ignorance, make sure that you are better prepared next time the bear makes an appearance.