Some obvious…and not so obvious routes to dampen volatility
So there’s that S&P 500 again, sitting near an all-time high. And, whether you are a “90%er” (90% of the way toward the assets you need to retire), or just starting out, many investors don’t like to take big risks.
The problem is that you don’t want to bail on your portfolio. The world always looks grim to some. It follows that the stock market always has a reason to go down. And, it always has a reason to keep moving higher.
So, rather than play a guessing or timing game, I have spent much of my career analyzing and identifying ways to complement that main stock (or ETF or mutual fund) portfolio with some investment shock absorbers.
These hedging concepts all have one thing in common. They use Exchange-Traded Funds (ETFs), used alongside your main equity portfolio. The other important way to think of these is as a way to replace what bonds used to do for you.
After all, bond yields are near record lows. That gives them at best a weak outlook. At worst, they could erode wealth in a way that will stun many investors. Yes, bonds can wreck retirement plans, too.
Perhaps more than ever, today’s markets present ways to have your long-term investing cake and eat it too. Here are a few of the many ways in which you can try to protect your, uh, assets.
Short the stock market (sort of)
There are a group of “inverse” ETFs that essentially aim to deliver the opposite outcome of a broad stock market index (like the S&P 500, the Dow, the Nasdaq NDAQ , etc.). That is, if you invest $100 in an inverse ETF and the stock market goes up by 5%, you might see that $100 drop to $95. However, if the market went down by 5%, your inverse ETF may rise to about $105.
I am talking about “single” or “unlevered” inverse ETFs (that’s a mouthful). I DO NOT suggest considering levered ETFs, the kind that move more than 1:1 in the opposite direction of the market index you are hedging.
The world has sped up, and so have the markets. I am not recommending you drop your existing approach and become a day-trader. However, I do think there is a whole lot of room between “long-term investing” and day-trading.
I have always felt that being adaptive to changes in the investing climate is more important than almost anything else. It reminds me of summer camp, where we would play softball for an hour, then have that super-sweet Orange-ade drink to “hydrate” (though that term was not used in the 1970s). Then it was over to the basketball court, or the pool, or arts and crafts.
It was camp all day, but the skill sets you would apply would change rapidly. I think investing is more like that today than at any point in my 34 years in this business.
That’s why I think that the expected time frame of each investment you make should be understood before you spend a dollar. To me, that means have a core portfolio of equities (stocks and/or ETFs), a disaster-hedge piece, and a tactical piece.
The tactical piece has a specific objective that is essentially a way of hedging against major losses. It aims to produce returns in smaller bites, AND to avoid major loss through leaving capital out there to be ravaged by the market’s biggest downturns.
Owning things for weeks or months, not years, and having a discipline to move with moving markets. It’s a skill to be developed for sure.
But let’s face it: we are not going back to the old way markets worked. There are too many new, short-term oriented types of participants in the markets today for that to happen. I fought this for years, but not anymore. Bottom-line: be adaptive; embrace tactical investing as a part of your long-term plan.
Hedge the U.S. Dollar DLTR
This is a new one to many investors. The Dollar has been so strong for so long versus world currencies, you could excuse investors for not even knowing that hedging the Dollar’s value was even a thing. But it is. And it is getting more important to understand.
Today, the Dollar is beset by several potential issues that are rapidly coming to the surface. I have written to you often about the massive debt buildup in the U.S. The government, corporations and consumers have all leveraged themselves way too high. What will break that debt bubble? When the world stops letting it happen. When will this malfeasance be punished? Heck if I know. But I see gradual evidence that the Dollar’s golden run is starting to fade.
To profit from this, you have several places to look. Commodity-related investments, other currencies and inflation-friendly investments are a good place to start. Why inflation-related items? Because a weak currency can prompt higher inflation, as the government attempt to pay down some of that debt with devalued currency. More on this if/as it develops.
Final point: think of hedging as being way beyond just prevention of investment loss. Hedging can be an offensive move as well. And in many ways, it makes a long-term portfolio much more well-rounded than it would be otherwise.
Comments provided are informational only, not individual investment advice or recommendations. Rob Isbitts provides Advisory Services through Dynamic Wealth Advisors