Index Update 31 January 2010...

In my 401k, I have a limited array of investment options, as does pretty much everyone. But, I have a very good 401k in that it has passively-managed index funds available and I don't have to rely exclusively on actively-managed mutual funds. The difference is very important. Passive funds are designed to exactly track an index, say the $SPX. Often, they have pretty low annual fees (mine are ~25bp or 0.25%). Active funds, on the other hand, try to beat the index they've benchmarked themselves to, again say the $SPX. Since they're trying to beat the index, they'll charge higher fees (typically 50-100bp, but sometimes more). Really, active funds are little more than a Wall Street marketing sham to try to bleed more money from you. Who wants to just match the market when you can beat the market? That's the thing. The vast majority of active mutual funds does not even perform as well as its benchmark (I'm talking 2/3 here or more). So, that means if you buy an active fund, you're probably paying them more money to underperform. You're getting ripped off. Obviously, not all active funds underperform the market, but most do.

Except for a couple cases in my 401k, I stick with passive funds. The exceptions are a FCNTX, which is a legacy position I kept open because it's closed to new investors; SGIIX, a top-performing global blend fund that is actually within spitting distance of its all-time highs; and TEEMX, an emerging markets fund (because I don't have direct access to emerging markets in my 401k). I also have my fixed income fund (which I refer to as 'cash'), UTX common stock from my employer, and my index funds for $IEE, $MDY, $RLG, $RLV, $RUT, and $SPX.

My system has served me very well in allowing me to sidestep much of the 2008 collapse, though it did not get me back in last year as quickly as I would have liked. That said, since I started this at the beginning of 2006, as of today, my 401k's performance is 12.01% annualized versus the $SPX's -3.67% in the same time.

The reason I bring this up is the market in the past two weeks has done some significant damage to my signals. The monthly signals are still fully bullish, except for the $IEE signal, which fell this month from fully bullish to partially bullish. The weekly signals are where the carnage is. The $IEE, $MDY, $RLG, $RLV, $RUT, $SPX, and UTX have all gone from fully bullish to bullish neutral in the past two weeks. I use a 5-point system to rank the indices on the daily, weekly, and monthly timeframes.

0 = fully bearish
1 = partially bearish
2 = neutral bearish
3 = neutral bullish
4 = partially bullish
5 = fully bullish

I use the monthly signal to tell me what my maximum asset allocation will be towards a particular holding. The weekly tells me how much of that maximum I should commit right now. The daily helps me fine-tune my entries and exits.

Because of the strength in the monthly charts, I will still go ahead with my plan to add at the 200-day EMAs, as I did earlier this month at the 50-day EMAs. However, if the 200-day EMA fails to hold, I will sell what I've bought and take the minor loss despite the strength in the monthly charts. When a stock or an index has used a level, say the 50-day EMA, as support for a long time, and that level gets decisively broken and is not quickly reclaimed, that is your first red flag of trouble. Then, the next support level, in this case the 200-day EMA, is the next key. If this gets decisively broken and is not quickly reclaimed, that's your second red flag and that's your cue to sell your position down to a small placeholder and step away until the security is able to reclaim the 200-day EMA. Previous support has now become new resistance, so in this case, you let it drop until it shows you signs of life.

This approach saved me big time in 2008's meltdown. It left me slower to get in 2009's rally than I would've liked, but look at it this way. If you lose 50%, then gain 50%, you're still 25% below where you were to start because once you lose 50%, you need to gain 100% to get back to even. The trick is to try to keep your assets as close to all-time highs as possible.

Position: Long FCNTX, SGIIX, TEEMX, UTX, and index funds for $IEE, $MDY, $RLG, $RLV, $RUT, and $SPX

Disclaimer: This is not a recommendation and is presented for informational purposes only.