Some believe a massive correction is in the cards. Here are four hedging strategies to protect you and your investments.
The stock market just seems to keep climbing, even as economic news remains tepid. With Q1 GDP coming in at -1%, Q1 retail sales cratering, and employment data suggesting times remain tough, some investors just shake their heads at the market, believing we are overdue for a 20% correction, or more.
The bad GDP number for Q2, and continued bad news from retail or other sectors might be the trigger for a sell-off. While I don’t usually suggest holding hedge trades, there are long-term investments you can have in place to hedge your total exposure, particularly if you have a bearish sentiment.
1. SPDR Gold Shares (NYSE:GLD)
SPDR Gold Shares (NYSE:GLD) is one of the best all-weather hedges you can own. For starters, I think you should have some part of your long-term diversified portfolio invested in precious metals.
Hard assets are just good things to own, regardless of the economic environment. Hard assets tend to retain their value. Gold has both practical use in industry, and is also considered a storehouse of wealth. It’s considered a safe haven in tough times because it is precious, different to mine and difficult to store.
The price of gold may fluctuate over the very long term, but during the worst economic times, it tends to rise…sometimes more than the overall market, and if the market is falling, so much the better. So I would hold SPDR as a fixed core position anyway, and add to it if you feel that the market is overdue for a correction.
2. ProShares Short S&P 500 (NYSE:SH)
ProShares Short S&P 500 (NYSE:SH) is as simple a hedge as it gets. It shorts the entire S&P 500 index. You can buy it, effectively permitting you to “go long a short position” without actually having to establish a short position in any stock or index.
The great thing about this ETF is that you can hold as much of it as you wish to hedge a given amount of your portfolio. If you own $100,000 in stock, and you are worried about a 20% correction, you could completely offset that correction by investing $100,000 in ProShares stock.
Of course, that might only be appropriate in the moments when the crash is actually occurring. If all you want to do is blunt the force of the loss, you could invest something like $20,000. You might lose $20,000 of your long portfolio, but you’d make $4,000 on your short position, thus hedging the portfolio a bit.
3. Horizons S&P 500 Covered Call ETF (NYSE:HSPX)
Horizons S&P 500 Covered Call ETF (NYSE:HSPX) offers another way to gently hedge the market, and also give you an advantage in years when the market is flat. The ETF sells calls against long positions, generating income from the call premiums.
The way to think of it as a hedge is that the call premiums give you downside cushion, should stocks fall. The covered call strategy works best for the seller if he sells calls and the stock finishes just under the strike price. They retain the stock and collect the premium.
If the market falls, all that cash that has been collected over many months of premium collection will blunt the effect of the crash.
4. iPath S&P 500 VIX Short Term Futures ETN (NYSE:VXX)
iPath S&P 500 VIX Short Term Futures ETN (NYSE:VXX) is a play on the market’s volatility. This is a strategy that should be employed as a crash begins, or if the market skyrockets. It rises if options action rises, which happens when the market moves rapidly in either direction. It’s not a long-term hold, but definitely a trading vehicle that will protect you if the market should crater, and even if it snaps back quickly.
Lawrence Meyers does not own any security mentioned.
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