To understand the risk level each of the FundX Upgrader Funds, it is important to understand how we classify the wide array of mutual funds available to us.
We Classify Funds By Risk, not by Type of Fund
Our fund classification system is an essential component of Upgrading. Rather than categorizing funds according to investment styles, market capitalization, or other commonly used criteria, we group equity funds into four risk classes, with bond funds grouped into a fifth class.
We examine the downside potential of each fund and group them with their peers. For example, we don't isolate international funds from domestic, or growth funds from value funds. Instead, we segregate funds based on portfolio diversification and downside risk.
Full Range of Investment Opportunities
Using these broad categories offers a full range of investment opportunities. It also allows us to exploit trends in market leadership without being lured into riskier funds. The funds with the highest returns rise to the top, whatever their investment approach may be. We can then confidently compare funds based on current performance, regardless of style or strategy and move between funds without increasing our overall portfolio risk.
Each of the FundX Upgrader Funds has approximate upper limits to how much each portfolio may venture into each particular class. Keep in mind that these self-imposed limits are targets and the funds will generally be invested within these constraints. Changes between classes in the portfolios are made at the discretion of the Portfolio Management Team overseeing the funds.
In broad terms, this is how we define our five fund classes:
CLASS 1: SECTOR AND SPECIALIZED AGGRESSIVE STOCK FUNDS
In Class 1 we list funds presenting high levels of risk. Most "sector" funds that focus on a particular industry or market sector are in this category because they lack the diversification of more broad-based equity funds. Gold or precious metals funds are grouped into this category. Class 1 funds may invest in very small or unseasoned companies (micro-caps), or particular countries or geographic regions. This may include "emerging markets" - countries with less stable developing economies.
CLASS 2: AGGRESSIVE STOCK FUNDS WITH ABOVE AVERAGE RISK
Funds in Class 2 typically experience higher volatility than the overall U.S. equity market. They may hold stocks or convertible bonds of small- or mid-sized companies. These funds may also lack diversification by focusing on a few industry sectors or by concentrating in a few individual holdings.
In pursuit of higher returns, Class 1 and 2 funds may employ leveraging techniques such as margin, or use derivative instruments such as uncovered put or call options in ways likely to increase volatility.
Funds that are not significantly correlated to, or are negatively correlated to domestic and overseas equity markets are generally found in either Class 1 or 2. These may include "bear market" funds that make extensive use of short-selling techniques.
CLASS 3: HIGHER QUALITY DIVERSIFIED STOCK FUNDS
We use Class 3 stock funds as the core of any portfolio designed for long-term growth.
Primarily, these are diversified portfolios comprised of well-established mid- and large-sized companies, possibly including some bonds or cash. The international and global funds tend to invest in larger companies in mature economies, such as Europe and Japan, and are diversified across many countries.
Class 3 funds, as a group, have a risk profile similar to that of the overall U.S. equity market (as measured by an index like the S&P 500), with some funds having greater risk and others less.
CLASS 4: TOTAL RETURN (BALANCED) FUNDS
Class 4 funds tend to be more defensive than the other equity classes and usually have a history of lower volatility than the domestic stock market. These funds display a wide variety of investment strategies, often including common stocks in combination with some income-generating instruments in order to reduce the risk of their stock holdings. They may hold derivative instruments such as futures and covered call options, or use hedging techniques such as short selling. Although these funds may use such instruments in ways that are intended to lower portfolio volatility, there is no assurance they will succeed in doing so.
CLASS 5: FIXED INCOME (BOND) FUNDS
The primary goal of bond funds is to generate current income while preserving capital. Because of their more predictable income streams, bonds generally have less price volatility than stocks. Funds that invest in bonds with higher credit quality and shorter maturity tend to be less risky than those with lower credit quality and longer maturity. Some Class 5 funds, seeking higher total return, specialize in high yield bonds with lower credit quality, or in international bonds denominated in foreign currencies.
The FundX Flexible Income Fund may utilize underlying funds invested in taxable bonds, either corporate or government. The average duration, maturity, and credit quality of these bond portfolios can differ widely. These funds will be used to varying degrees depending on where we see the greatest opportunities.
The S&P 500 Index is a broad based unmanaged index of 500 stocks, which is widely recognized as representative of the equity market in general. You cannot invest directly in an index.
Diversification does not assure a profit or protect against a loss in a declining market.