There’s a lot of talk lately about risks in the stock market, and for good reason.
Over about six weeks, the S&P 500 index SPX, -1.33% has seesawed pretty dramatically, including a fall from all-time highs around 2,870 to a three-month low of 2,580 — a roughly 10% drop in short order. The market has made up some lost ground lately, only to slump again Thursday afternoon on fears of a trade war, and many on Wall Street fear the recent turmoil is only the beginning.
If you share that trepidation, why not buy some crash insurance?
Thanks to a stock market that has gone almost straight up and a bond market that has offered paltry yields for pretty much a decade, many investors have been conditioned to only play the market one way: buy stocks and hope they go up.
That’s been a very profitable game, to be sure, but it’s not the only one. And for investors who are more conservative — for instance, those who are at or near retirement — there is a lot of value in thinking about capital-preservation strategies as well as those that tap into growth.
If that kind of strategy appeals to you, here are five tactical ETFs that could act as “insurance” against a market decline. They may never deliver dramatic gains, and in roaring bull market you will certainly leave some profit on the table. But much like medical insurance that feels like a waste of money until you find yourself in the hospital, these ETFs will provide peace of mind — and protection if and when the unexpected happens.
Direxion S&P 500 Bear 1X Shares
Aggressive traders are probably familiar with the Direxion family of funds, chock-full of leveraged offerings that allow you to play three times the movement of a group of stocks. These investments are interesting ways to supercharge your profits in a surging market, but risk delivering three times the pain in a market that’s crashing.
But amid its portfolio of 3X funds, Direxion has one of the best ways for individual investors to hedge against a stock market decline in its Direxion S&P 500 Bear 1X Shares fund SPDN, +1.50% It holds futures and short positions on S&P 500 stocks in an aim to deliver the opposite results of the index. For instance, while the S&P 500 is up about 12% in the last 12 months through Thursday, this ETF is down nearly 12%.
To be clear, this is not a great way to make boatloads of money from a stock-market decline. If you’re looking to do that, trade put options or take a peek at the Direxion’s more aggressive inverse funds. But if you simply want to soften the blow of a marketwide slump on your overall portfolio, putting a small portion of your cash in this downside fund could be a good hedging strategy.
AdvisorShares Ranger Equity Bear ETF
One of the more sophisticated ETFs that lets you invest like a hedge fund is the AdvisorShares Ranger Equity Bear ETF HDGE, +0.61% It is dedicated to short-selling stocks, but unlike the broad-based Direxion fund it focuses on companies that seem to be struggling for specific reasons.
For instance, the fund now is betting against stagnant consumer staples company Kellogg K, +1.07% motorcycle manufacturer Harley-Davidson HOG, -0.59% and social media company Snap SNAP, -0.64% among others. Thanks to this tactical approach, the ETF is up about 4.5% year-to-date through Thursday while the S&P 500 has notched only a small gain.
Obviously, a bull market that charges benignly higher is bad for any short-side fund, and this one is still about 6% in the red over the last 12 months vs. the 12% gain or so for the S&P. But unlike with the Direxion S&P 500 Bear 1X Shares fund, you’re not seeing a hard inverse correlation.
Considering the choppiness lately and the way sectors seem to be diverging, it may not be a bad idea to let the AdvisorShares Ranger Equity Bear managers handpick some dogs and bet against them as a way to keep your head above water in a down market.
Pimco Enhanced Short Maturity Active ETF
While there’s something to be said for taking a portion of your assets and simply setting them aside, most investors can’t stomach conventional cash-like options. Money-market funds offer next to nothing in returns, while “high-yield” CDs still barely crack 2% in annual yield and require you to tie up your money.
If you want the liquidity and security of cash but want to generate something with your money, the Pimco Enhanced Short Maturity Active ETF MINT, +0.03% offers a great alternative. Focused on short-term bonds, with 74% of its holdings with less than a year in duration and the other 26% currently in maturities of one to three years, it avoids some of the long-tail risk from rising interest rates. And since the fund is actively managed, holding a wide variety of bonds including everything from emerging-market debt to investment-grade corporate bonds to government paper, it can make tactical bets that provide modest yield without undue risk.
The result is an ETF that has stayed remarkably flat from a per-share perspective, trading between $100.50 and $102.00 since 2012, but delivering about 1.8% in annual yield. That’s about the same return as a CD but with the option to sell whenever you want.
This is certainly not a fund that will ever provide significant growth. But if you want cash-like stability with a modest yield, with liquidity that will allow you to access that money whenever you see fit, it’s is a very interesting option.
Vanguard Short-Term Inflation Protected Securities ETF
As the name implies, the Vanguard Short-Term Inflation Protected Securities ETF VTIP, +0.14% is a direct play on Treasury inflation-protected securities, or TIPS. This fund admittedly has a pretty disappointing record lately, but it may serve a useful role going forward for those looking to hedge in this volatile market.
Sure, the fearmongers who talked up hyperinflation risks in the wake of the Great Recession have ultimately been proven painfully wrong. The annualized rate of inflation hasn’t been higher than 3.0% since the end of 2011, and hasn’t topped 4.0% since early 2008 before the financial crisis was in full swing. That has led to a pretty terrible return for TIPS, a special kind of government bond that is indexed to inflation.
But all the talk lately of inflation concerns may mean the time for this ETF is coming around.
There is a very real chance that current inflation fears, like those of years past, are overblown. But as an insurance policy, it may be worth a look.
iShares Gold Trust ETF
I’m not naïve enough to think that gold GCJ8, +1.39% is truly a “safe haven” asset. Nor do I think it’s at all realistic that gold will ever be used widely as currency.
But if you’re looking for an uncorrelated asset to the equities market, gold GLD, -0.22% does have a lot to offer as a hedge because it is incredibly independent of stocks, and one way to play it is the iShares Gold Trust ETF IAU, -0.32%
For those unfamiliar with the vagaries of correlation, if two assets move completely in sync in the same direction they will show a “correlation coefficient” of positive 1.0 and if they always move in opposite directions they will show a correlation of -1.0. A correlation reading of zero means, obviously, there is no correlation and the assets move independently.
While different time periods admittedly yield different results, over the last three years gold has had a correlation coefficient of roughly negative -0.15. A perfect zero correlation is all but impossible in the real world, so gold may be as close as you can find to an asset that is independent of the stock market this year.