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Thu. Jan. 17, 2008

Is It Time To Upgrade Your Portfolio? *

From an investing standpoint, there is nothing I enjoy more than beating the S&P 500. As noted in my Process Overview and Asset Allocation article, approximately one-third of my taxable portfolio is invested in Mutual Funds. I have a small amount invested in Vanguard’s S&P 500 Index (VFINX). I use this fund as my benchmark – if I can’t beat it over time this is where I need to put my money. The fund I have invested in for several years is The Davis Selected American Shares Fund (SLASX). Between 1993 and 2006 it out performed the S&P 500 in all but 4 years. 2006 was one of those four years and it looks is if SLASX will under-perform in 2007 (4.79%-SLASX vs. 5.39%-VFINX).

Given our long relationship, I am not ready to break up with SLASX just yet, but we have decided to see others. While scouring the horizon for a fund that will help me meet my objective of consistently beating the S&P 500, I came across the FundX Aggressive Upgrader Fund (HOTFX). It has a good track record of beating the S&P 500 through active management. Below is a chart showing the performance of the three funds:

Being a process-oriented person, what intrigued me about this fund was the “upgrading” process it used in managing the investments. From their website:

Our Investment Process
Upgrading is a method of systematically investing in securities that rank highly in our scoring system. We hold them as long as they continue to outperform their peers, then sell them when they fall in our ranks. We then reinvest the proceeds in the new strong performers. DAL Investment Company developed this strategy over the past 35 years.

Unlike market timers, we do not attempt to predict the movements of the market to move back and forth from stocks to cash. Upgrading is also unlike a typical buy-and-hold approach. Instead, Upgrading moves us flexibly among those areas of the market showing the best relative performance. Upgrading allows us to invest in what we believe are the best performing securities available-whatever the current market conditions.

How Upgrading Works
DAL’s Upgrading approach involves measuring near-term performance of mutual funds (twelve months and less) and comparing them to returns of other funds with similar risk. We invest in funds with the best recent returns, and monitor their performance. When a fund drops in our ranks, we “Upgrade” to the new market leaders.

Near Term Performance is Key
Unlike most investment approaches, Upgrading only considers near term performance because only near-term returns indicate funds doing well in the current market environment. Funds that have outperformed in recent quarters tend to continue to show strength into ensuing quarters, a phenomenon known as “persistence of performance.” Upgrading is a disciplined method of exploiting this phenomenon.

In short HOTFX is employing a momentum strategy. This strategy carries a higher degree of risk than a buy-and-hold strategy. As noted on the FundX website (emphasis added is mine):

The FundX Aggressive Upgrader Fund (HOTFX – Inception 7/1/02) is designed for investors willing to take on above-average risk in the hopes of achieving higher returns over time.

HOTFX may be appropriate for long-term investors who are willing to accept a considerable level of market risk associated with investing in a portfolio that depends exclusively on the value of common stock holdings concentrated in one or more sectors or industries.

HOTFX could be a core holding if you’re an aggressive investor, but more likely is more suitable as a speculative component of a diversified portfolio for long-term growth.

Full Disclosure: Last week I initiated a position in HOTFX. I will continue to evaluate HOTFX and add to my postion monthly as long as I believe it will out perform SLASX and VFINX, over the long-term.

I do not have near-term plans to sell any SLASX or VFINX. My position in HOTFX will be built with new funds over time.

Do you peridocially review your portfolio to determine if you can optimize it and increase its overall return?

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2 Responses to “Is It Time To Upgrade Your Portfolio? *”

  1. Millionaire Mommy Next Door says:

    I’ve been using No Load Fund*X strategy (as a newsletter subscriber) for my entire portfolio for several years. If you’re interested, I just posted my 2007 ROI on my blog. I also shared my last few years’ performance in an earlier post, too.

    As we travel more – and have less time to keep up with upgrading – I plan to switch over to their various mutual funds instead of making the trades myself.

  2. Dividends4Life says:

    MMND: I saw that your 2007 ROI was 14.3%. That is quite impressive at nearly 3 times the performance of VFINX and SLASX. It is my hope that HOTFX will consistently out-perform them both.

    Using the newsletter, have you been able to consistently out-perform the S&P?

    Best Wishes,
    D4L