Comparing Various Shelters from the Stock Market Storm
With the stock market falling in leaps and bounds every day this week, many investors are looking for a better place to park their money. There are several ways to do this.
So many of us invest without a plan, and may not even think that one is needed, or even useful. They just keep investing regardless of what happens, picking a certain combination of assets to do this with, usually some ratio of stocks and bonds.
There may come a time where we may question this, and this always only really happens when we get a big selloff in the stock market. We’re certainly getting one now, and for those who are still exposed to long stock positions and haven’t acted, this is a good time to at least try to come up with some sort of plan.
This correction is certainly an odd one, we don’t ever see issues that aren’t expected to affect business all that much producing such a massive selloff. We do see the market exaggerate risks all the time, but what sets this one apart is our continuing to go down each day in such big leaps and bounds.
This is definitely what you would call a panic, and we just broke the record for the fastest 10% decline in history, which includes some of the grimmest of times. In comparison, this one is a joke, and is a joke even without comparing in fact.
There are more forces behind this correction than just this virus scare, and it has come out that hedge funds have been unloading positions since February 19. This just happens to be when the whole thing started.
We can at least understand why these funds are selling so much, as they probably want to get ahead of the election, and avoid the huge risks involved. With the odds in favor of a bear market around the corner, and it taking quite a while for them to unload, this may make sense, although the force and the timing of it may be more subject to questioning.
Things have moved down enough to see plenty of individual investors pulling back or pulling out, and the combination of seeing how fast their stocks are going down together with a well stoked sense of paranoia from viewing the media circus that just keeps playing louder and louder as the actual event wanes could have many reaching for their mice or their phones.
There comes a time where it’s just painfully clear that we are going in the wrong direction. When we already fell way further than we should have on Monday, were given a nice gap up by the futures market on Tuesday, threw that back into their face, and headed further down, the market told us that they were indeed serious.
We’re going to take the opportunity to look at the world’s fastest correction, and look at how various strategies to protect ourselves from these things would have worked. We want to compare what happened with stocks over this time, the S&P 500 losing 12% so far from the close on February 20 to the close on Feb 27.
One of the things that should stand out for investors is how futile diversifying your stock portfolio is against market risk. We need to be selecting our stocks based upon performance, and not purposely seek to dilute our returns by including an assortment of lesser performing stocks under the guise that this will protect us in times like this.
89% of the stocks in the S&P 500 are in correction territory as well as the index, and this is just the way these things go when you get a big market move down. We need a separate strategy to manage this other than just looking to spread things around in a lot of different stocks, which is just a bad idea all around.
What the great majority of investors do in order to address this risk is to hold a certain ratio of stocks to bonds, 50:50 for instance. We already know that this will save us half of that 12% loss. We’ll use the iShares 20+ Treasury ETF as our bond benchmark, which is up 3.6% over this time. This yields a loss of only 2.4%, much nicer than 12% to be sure.
The problem with this strategy is that we cut our gains in half with this as well, and there’s a lot more gains than losses with stocks. Going back to March of 2009, the S&P 500 is up 436%, and half of that is 218%. Our bond fund is up 49% over this time, so that only gives us a 267% return, 169% less than just going with the stocks.
We do this, we end up with not enough money to retire on, and all this extra return sure would have come in handy. We’re simply paying way too big of a price for times like this week, although we should not just leave ourselves fully exposed to these things either.
There’s Too Much At Stake for Us to Not Be Willing to Think a Little
The problem with the fixed ratio is it is way too inefficient for our purposes, and we need to make sure that the plan we come up with is as efficient as possible. We want to both seek to maximize our return and keep our risk manageable, which means that we want to use our hedges responsibly and not just indiscriminately.
If we are open to exiting when things turn against us too much, there will be a time where this plan needs to be put into action, where we have a plan A for bull markets and a plan B for when things turn too bearish.
The idea here is to get off the stock train that has reversed direction and hop on to another train, like the bond train, when it is moving in the other direction. This can include not only bonds but other assets that are considered to be a hedge like gold, or even certain stocks that are insulated more from these risks.
If we switched to bonds or gold at some point during this time of turmoil, we could have saved ourselves some money as well as being currently out of the fray, and this is the proper and sensible time to use something like this, not when things are going up. We need not be afraid to pull the trigger with this there is no right or wrong here as far as what happens, there is only our being protected or not.
Even if we end up being a little worse off from our entry and exit during dicey times, this is a very small price to pay versus cutting our long-term returns almost in half by holding this stuff all the time. We feel that we are married to our stock positions, and are reluctant to make any changes, but we need to realize the importance of protecting ourselves and those who simply refuse to do this will get the fate they deserve.
Gold has cooled off a bit though, and at the present time, bonds are the better performing of the two, although gold is at least up 1% over this time.
For those who really want to switch out of their long stock positions and really go on the offensive, the ProShares UltraShort QQQ ETF may be for you. This shorts the Nasdaq at 3 times leverage, and can turn a correction like this into a bonanza. This ETF is up 44% since February 20.
This one requires considerable care, as you don’t want to be in it during the rebound, and it’s not always easy to tell what a real rebound is. The idea is to wait until we stop going down and then go back to the long side. There’s a tamer version of this ETF that only uses 2 times leverage, but given how hard these moves are, it’s simply better to go with the bigger one and just be more careful with how long you stay in and really cash in on these things if you are up to doing that.
We did an article on managed futures funds recently and wanted to have a look at how they are doing, given that they have historically been negatively correlated with bear markets in stocks. They have been basically flat this time, and while this means that they didn’t lose money, if you don’t even beat cash, cash beats you because it is safer.
As far as being in stocks on the long side during this time, this move has taken no prisoners, and nothing may bring this home better than seeing the utilities index give up 9%. These stocks are normally pretty immune from stock market pullbacks, but not this time, which also goes to show you how you need to not assume too much when investing.
One Stock Has Notably Survived this Attack Thus Far
This correction has even put the hurt on one of our favorite stocks, CME, which up until Thursday’s trading was performing like a champ throughout this mess. After giving up 4.5% Thursday, it’s still up a hair from where it was on February 20, and one of the very few stocks that hasn’t lost anything over this time.
We wrote about CME in a previous article touting it for its all-weather appeal, and this is a hedge that not only protects us, it also has outperformed the market over time, by a wide margin. This is particularly well suited to those who do not want to have to worry about exiting their positions yet still strive for very good returns.
That’s not something that is normally possible to do, but CME isn’t your average stock, especially during pullbacks. They make money from people buying and selling futures and options, and that action actually goes up during times of market stress like we have now.
CME is still prone to the very big stuff, like the crisis of 2008 which had any stock in the financial sector hammered, whether it made sense to or not. Aside from that, this stock does very well during market sell-offs, as we are seeing once again with this one.
It is worth comparing this stock to the market, to get a feel of how much of a champ it actually is. Year to date, it is still up 4%, compared to the S&P 500’s being down 8%. Since the start of 2018, CME is up 41%, while the S&P 500 is only up 11%.
Over the last 5 years, CME has risen by 121%, while the S&P 500 has only gone up by 44%. Going back to the start of this bull market, since the start of 2009, CMD has risen by 567% while the S&P 500 has only gone up by 341%. This isn’t just a contender with the market, it beats it soundly across all timeframes.
This includes the mini-bear market of late 2018, where the S&P 500 dropped by 20% and CME actually went up a tad. Since that move to the downside started, the S&P 500 is only up 1.6%, while CME has booked a gain of 20%.
CME also looks great from a fundamental perspective with very nice earnings growth forecast, as they ride the wave of momentum that we have seen with people trading and investing more and more. Financial securities trade every day, rain or shine, and there may be not be a company more insulated from economic cycles than this one.
If you could only invest in one stock and had to keep it no matter what, CME isn’t just the best choice, it’s the best choice by a long shot, and maybe even the only good choice here. There are a lot of conservative investors who would be far better off putting all of their money into this versus other alternatives that only serve to greatly dilute their returns.
The returns this provides will also put a smile on the faces of all those investors who want to beat the market but have no idea how, or don’t want to ramp up the risk too high because they aren’t confident they will do the right thing when times like this hit.
We do need to be careful entering this stock after it had such a bad day Thursday, but the idea here is to look to see it stabilize and it can then be mounted safely for those who are looking to have their money in a safer place but also rack up the gains, at a higher rate than the market.
CME may be the best all-around stock in the market in fact, and this really has provided tech stock type returns with a level of safety that leads the pack even in the face of such a broad and massive market selloff. This is an amazing combination. The best part of this is that it provides what most investors want, something you can truly just buy and forget about, and still be smart, and you can’t say that about much else these days.
Editor, MarketReview.com
John’s sensible advice on all matters related to personal finance will have you examining your own life and tweaking it to achieve your financial goals better.
Contact John: john@marketreview.com
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