The Best Mutual Funds - Tips for Your Market Portfolio
Books and CD's on Asset Allocation
Finding the best mutual funds can be a daunting task. A fund that's a good choice for one investor may not be so good for another. Here's some ideas to help you identify the best mutual funds for your individual portfolio.
The first thing you need to decide is if you are they type of investor that simply wants to find a fund to buy and hold, or if you are the type that will be one to change fund holdings often. Look at your history, and even if you say your are a buy and hold investor, see how often you are trading funds. You may be a closet trader that may not recognize it. If you find yourself changing fund holdings once a year or more, then you are really in a trading pattern, and you need to create a structure or system for your trades, and not just react emotionally to events as they unfold.
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Diversify Your Portofolio
If you are finding that you can really buy and hold a mutual fund, then the key to identifying the best mutual funds is to build a truly diversified portfolio. The real challenge here is to find truly diversified funds to hold. Truly diversified funds would be those that mathematicians would call de-correlated. The best book I've seen on finding de-correlated funds and deciding on how much to allocate to them is "The Intelligent Asset Allocator" or its companion book "The Four Pillars of Investing." These books suggest the use of index funds in different asset classes (like small cap growth) or different countries.
Index funds - These funds are basically designed to track one of the major stock indexes. The basic premise is that you can't beat the averages, so why bother, and just stick with a fund that minimizes expenses. These days many investors will substitute an index ETF for a mutual fund, as these will often have even lower expenses.
One other alternative is to trade funds based on finding the hot funds and holding them til they start to run out of momentum. The key to doing this is to find the right holding period for the funds. Many studies over the years have found that the strategy of buying the strongest funds from the last calendar year and holding them for a year does not typically outperform the market. Other studies have determined that a better choice is to only hold the funds for one to three months. Oner popular example of this is free Fidelity Select trading system you can see here. This strategy often makes liberal use of both sector funds and country funds, with the narrower niches makes the stronger and more sustained moves. Both sector mutual funds (like the Fidelity Select Funds) and ETF's are popular for this approach.
One other example of how finding the best fund is determined by how it fits into your portfolio. Some of the short index ETFs are can be used as a short term trading vehicle, where you are betting the market will drop over the next few weeks or months. This is at best a high risk strategy, tied to some time of market timing signals. But another use for these same funds is to hold a small percentage of them as a part of your portfolio (say 5-20%) and simply hold them, using that as a hedge against a market drop of some type. This will actually create a very conservative portfolio, with a risk reward that can be better than the typical stock/bond mix that is the benchmark of conservative portfolios.
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