I could tell you that October trading has been rocky, but then I’d just be preaching to the choir.
While I’m not ready to declare that the sky is falling, I think the smell of fear among bulls is palpable. Global issues, Ebola news, seasonality and panicked profit-taking are having quite the effect on the markets.
Keeping this uncertainty in mind, it’s wise to start thinking defensively, in the event this instability is here to stay.
To be more specific, I’m talking about protecting profits, considering products that perform well in both bear and bull markets and speculating to make money in the meantime.
Protect Your Profits
With the recent rash of 1% moves in equity markets, now is a good time to take a closer look at your portfolio and see if an overhaul is due.
For your longer-term, blue-chip "Forever" stocks, stay the course. Short-term fluctuations should not matter and attempting to time the market is difficult to do profitably.
For your more speculative, higher beta stocks, it’s time to compare notes with analyst price targets and see how exaggerated price-to-earnings ratios may be. Maybe you’ve noticed that a stock surged above analyst estimates or you’ve got some stocks trading at sky-high prices relative to their earnings. It might be time to cash out on part of your position and re-enter when valuations fall in line.
Fortifying Your Portfolio
A common misconception is that all stocks and industries do excellent in bull markets, only to get crushed in bear markets. A common tool is inverse exchange-traded funds that flip that idea on its head, but there is more to the picture.
Certain industries that perform decently in bull markets actually hold their value well during bear cycles. Think of areas that require daily or monthly spending, regardless of whether the U.S. economy is growing or contracting.
What am I talking about exactly? Toilet paper, toothpaste and other things people will buy no matter the condition of the economy.
Healthcare and consumer staples often do well when a bull market tips over into a bear market, as spending in those categories doesn’t typically grind to a halt. Buying ETFs of these “essentials” can add insurance to your portfolio and you won’t get crushed if the market grows legs again. Note that they will likely correct downward coming out of a bull market, but are known to weather market turbulence well.
Some precious metals could also be grouped into this category. Gold and silver are often known to pop as investors seek a “flight to safety,” and both have spiked noticeably in October. Their broader trends have been overwhelmingly negative, however, so I’d be looking for more concrete confirmation of a bear market before hopping in.
Speculative Ways To Generate Alpha
Still looking to squeeze some money out of the markets? A few options exist, but beware that they may carry more risk and can range from passive to very aggressive.
Investors looking for continued income should look into dividend ETFs -- pick one with stocks that have histories of increasing their dividends. Bond ETFs with shorter maturities could also prove profitable versus moving to cash.
If you want to make money and think volatility will continue to increase, going long the VIX is a smart move. Buyer beware, though, it has already spiked quite a bit this month.
Risks To Consider: Let me be clear, I am not calling out for a stampede to turn your portfolio upside down here. The direction of the market is fuzzy at best, but now is the time to do your homework and analysis, not when the bottom has fallen out and you’re left blind-sided.
Action To Take --> Scour your portfolio for any speculative positions that could fall at a fast pace in a downturn. Take a closer look at some bear-friendly defensive ETFs to see if they are the right fit for you -- IYH and VDC are two of my favorites. Finally, only consider risking a small portion of your capital if you’re dead-set on trading the market sideways or down right now.
I mentioned "Forever" stocks above. These are world-dominating companies that have such strong fundamentals and growth potential that you can purchase shares and virtually hold them forever. To learn how to get access to the best Forever stocks to buy in this market (and any market), click here.