One of the more common questions we get: Which Fidelity Funds do you use for your system? Why don’t you use all of them?

First, here is the list of Fidelity Select funds that we use.

Now you will note that we don’t use all 41 (or whatever the number is these days) of the Select Family, and in fact we use just over 1/2 that many.

There are two reasons we don’t use all the funds.

First, we trade just two funds in our system. A fair question is why 2? Basically it is a compromise between diversification, performance, and ease of trading. You can trade basically the same system using up to 4 funds, and you will get a little more diversification between your holdings, but overall the performance is similar to the 2 fund version. More than 4 Select Funds and the system performance starts to tail off, both in terms of overall return and risk adjusted return.

Given that we are trading just 2 Select funds, we need to keep in mind the need to trade only funds that don’t have a high degree of correlation, otherwise there is little point in trading 2 funds. We initially screened the funds when we started trading the system back in 2002, and found that there was some overlap in some of the funds, for example many of the tech funds were highly correlated, as well as some of the financials, just to name a few. So we took out several of the funds that were too closely correlated.

Then, as we started to get more people trading the system, we had a couple of instances where people were running into trading restrictions because their position was more than 1% of the total fund value. So, in 2006 we screen out all the funds with total assets less than 30 million dollars, which eliminated about 3 more funds.

Finally, we have never traded the Fidelity Select Gold fund. Historically, Select Gold has been a very volatile holding, and when testing fund trading systems if it were added to the list it usually degraded the overall return, and increased total volatility as well.

So, in a nutshell, that’s how we got to the list we have today.

Next we will take a look at one of the last pieces to trading the Fidelity Select funds, the source of your data.