How I’m Safely Trading This Dangerous Market
I recently noted that my mom is a wonderful cook. Now, of course she is also a wonderful person. But with that official disclaimer out of the way, as I pointed out, she believes it’s possible to catch a falling knife.
All that’s left to say on the topic is that I am glad drugstores are open because she keeps getting hurt trying to prove me wrong. Many individual investors seem to believe she is a role model as they jump into the stock market believing it has fallen far enough.
But catching falling knives is just one problem I see among investors in market declines. Another problem is trying to time the bottom. Investor sentiment started shifting towards bullishness last week in the American Association of Individual Investors weekly poll.
The graphic below shows the most recent data.
Typically, at the bottom of the bear market, the number of bulls falls and the number of bears increases as investors give up. In the past, the percentage of bulls drops under 20% at bottoms while bears top 70%.
We are nowhere near those levels yet.
Right now, the stock market is most likely completing a 38.2% retracement of the initial decline. That will bring the SPDR S&P 500 ETF (NYSE: SPY) to about $265, equivalent to about 2,650 in the Index.
Source: Symbolik by DeMark
That would mirror the pattern seen in 2000 in the NASDAQ 100 Index. Invesco QQQ Trust (NASDAQ: QQQ) is an ETF that tracks that index. The chart of QQQ is shown below.
Source: Symbolik by DeMark
There are startling similarities between the market’s actions in 2000 and now. Investors were optimistic in 2000 and believed the decline was a chance to buy the dip. They were wrong because the economy was slipping into recession.
With the economy slipping into recession, buying dips may not work well. However, holding long-term positions and adding stocks in uptrends should deliver gains. That’s why I recently recommended a trade in one of the strongest sectors of the market over at Maximum Income.
How I’m Trading This Situation
Specifically, it’s with an ETF in the Treasury market, iShares 7-10 Year Treasury Bond ETF (NYSE: IEF).
IEF holds bonds that mature in seven to 10 years, and the chart shows it is on a “buy” signal.
The increased volatility in interest rates over the past few weeks has created higher-than-average premiums on options. Volatility is at the highest level it has been in more than 20 years, which you can see in the bottom panel of the chart below (showing interest rate on 10-year Treasuries).
And there is unlikely to be a significant decline in this ETF, which holds Treasury bonds, because the Federal Reserve is acting to hold down interest rates. That means bond prices should rise or hold steady.
Bonds rise when current rates decrease. That’s because the older bonds are worth more.
To understand this, think of a (hypothetical) $1,000 bond issued last year with an interest rate of 5%. It pays $50 a year in income. If interest rates fall to 2.5%, the bond still pays $50. To get to a 2.5% yield, the price needs to rise to $2,000. This assumes all other factors remain the same.
With interest rates likely to fall or hold steady, IEF should be fairly stable. That surge in price over the past month represented a flight-to-safety trade as investors bought Treasuries as other assets fell. There is unlikely to be a reversal since the Fed will intervene if prices fall too far.
Action To Take
With reasonable safety, we can make what I like to call a “bonus dividend” trade in IEF. This ETF also pays a monthly dividend, so we will enjoy steady income until this is called away.
This kind of low-risk income trade is exactly the kind of thing I’ll be looking for in the current market environment. Using this low-risk strategy, we can earn “bonus dividends” right away, without having to wait for income to roll in.
We’ve already collected $210,297 using this strategy… on top of regular dividends. Go here to learn how you can, too.