Several years ago I was discussing market trading strategies with one of our most faithful clients. This gentleman was trading stocks before I was born. He witnessed the development of mutual funds and options markets. He mentioned that in his experience, the markets made many of their biggest gains in relatively short periods of seven to 14 days. Although this seasoned trader believed in the validity of being invested during long-term trends, he noted that even in sustained uptrends the markets would have short, steep advances.

I’ve never forgotten that observation, primarily because in the years since I’ve found it to be true. Partly as a result, when reviewing investments I normally look closely at both short and long-term performance. In most instances, funds I consider for investment will be among the leaders in both categories.

The financial news media focuses a lot of attention on short-term market or sector advances. For most investors, short-term rallies need to be part of a longer trend in order to have much importance. Most custodians (the company where your money is held) have so many restrictions and penalties associated with short-term trading that it becomes impractical. Investors end up forced to trade intermediate and long-term cycles.

Differences between long-term and short-term leaders can sometimes be an indication of economic changes that will result in a rotation among industry sectors. This can signal a possible change in longer-term trends. Recent weeks provide a good example.

Over the past month, the top sector ETF has been Merrill Lynch B2B Internet HOLDRS (BHH). It is up more than 14%. The telecommunications sector has also seen a recent surge and the top fund in that group, Merrill Lynch Telecom HOLDRS (TTH) is up more than 7% in that time. IShares Dow Jones Transportation Index Fund (IYT) has risen more than 6% in the past month and iShares MSCI - Brazil Index Fund (EWZ) is ahead by 5%. Given the recent weak market conditions, these are all respectable returns and many investors would put money in these funds based on their one-month gains. The chart below illustrates their performances since mid-January.

The red line is BHH. Notice that the bulk of its gain came in a three-day period in January. Since then it has actually given back some returns. The other funds on the chart are TTH (green line), IYT (yellow line) and EWZ (purple line). Below are the same funds on a one-year chart. Obviously the longer perspective changes the picture. Now the top fund is EWZ, which has gained more than 70% over this period. But the gains were not always steady. There were sharp, short advances as well as some periods of correction. Now we can see that the past month has actually been a weak period for this fund and that it is still in a sustained advance. This would make it a good candidate for purchase.

Compare that to BHH, which is up 23% over the past year. While that seems like a good return, a glance at the red line shows that in addition to the three-day rally in January, the rest of its gains came during a sharp one-week rise in October 2005. The fund exhibits no sustained trend. Purchasing it at this point would appear to be nothing more than a gamble. There other two funds are a little more difficult to judge. Notice that the green line, TTH, has made a nice gain since mid-October. But its total gain over the past year is just 8.5%–basically the same as in the past 30 days. This fund could be at the start of a long-term advance, but I’d want to do some more fundamental research into the telecommunications sector before I would commit money to it. Finally, IYT is up about 22% over the past quarter. Whether or not the transportation sector continues to trend upward is largely dependent on what happens with the price of crude oil. If oil prices begin rising again, chances are this fund and the entire transportation sector will falter.

If you click the Internet link to view this report on our web site, I’ve included a table that shows the returns of all ETFs over the past month. Basically it shows that if you randomly chose an ETF for investment over the past four weeks your chances of losing money would have been about equal to your chances of making a profit. As a group, international funds are still dominating the funds that are in the black. Energy funds have taken a beating for the past month, but it is too early to declare an end to the bull market in oil prices.

Have a wonderful weekend. I hope you are fortunate enough to have good weather for enjoying the holiday on Monday.