Well, The Market Is Up 95%

The US stock market is up 95% in less than two years. No matter anything else in terms of perceived fundamentals, Fed action, ongoing threats the fact remains that the market is up 95% from where it was in March 2009. Whether or not people should feel better it is also true that many people do feel better about the market. I’ve never believed that a lot of people sold out at the bottom and missed the entire rally, I don’t believe it is that cut and dried, and so seeing your portfolio come back by some large chunk, even of not 95%, is going to make you feel better one way or another.

Against this backdrop it is somewhat surprising how many new defensive ETFs have recently come out or have been filed for. There has been the WisdomTree Managed Futures ETF (WDTI) which an absolute return product, RBS has come out with two ETNs that are essentially long the index when it is above the 200 DMA and out when it is below (there is a large cap version and more recently a mid cap version), iShares filed for minimum volatility ETFs and after coming out with the Cambria Global Tactical Allocation Fund (GTAA) AdvisorShares is coming out with the the Active Bear ETF (HDJE) which will sell short individual stocks.

Frequently new products come based on the short term sentiment of the market as evidenced by past debuts of certain commodity and metals ETFs throughout the commodity bull market, and the number of traditional mutual funds that promised to hedge the downside after the bear market was well under way.

As I have mentioned quite a few times, some exposure to a fund that should have some sort of zigzag effect is a worthwhile hold with the proper understanding that during a raging bull market it will be a drag on the portfolio. When the market was near what turned out to be the low I commented repeatedly that the time to get out of stocks or load up on defensive funds was not after a huge decline, that it was unfortunate for anyone learning they had the wrong asset allocation but it was too late for gutting a portfolio. The time for lightening up (the context being people who freaked out two years ago but managed to hold on) would be after, say, a 95% rally. Of course people who were freaked out might very well forget what two years ago felt like–this is quite common, people somehow forget that markets go down and how afraid they were when it did go down.

Maybe we should take the recent wave “defensive” funds as a contrarian indicator that the market will go much higher from here. To paraphrase myself from when the market was in freefall, the odds of a large rally are less after a large rally. In very late 2008 I wrote a 2009 outlook post for Seeking Alpha where I got filleted for applying that same idea to large declines as I thought a very large rally was coming. That was a little easier because of how one way the fear was versus now where while the mood on Wall Street is pretty decent, the mood on Main Street is pretty lousy.

Perhaps the best thing now is for people who were freaked out before to take a good look in the mirror. Anyone who rode all 56% down with the SPX or worse by virtue of portfolio composition at the time, now has much more in their portfolio. If this is you and you freaked out, were desperate and were bargaining with yourself should you now think back to what that was like and revisit what your ideal target asset allocation should be? Doing this now is better than waiting until the next large decline and I promise you there will be a large decline at some point in the future.

The best course in my opinion is a normal equity portfolio with some objective trigger point for defensive action but of course this requires being able to sleep at night no matter what is going on. After a 95% rally, specifically predicting a large correction is less important than not panicking should one come along and catch you off guard. You may not be able to trade around a correction that scares people but you can be mentally prepared.

About Roger Nusbaum 169 Articles

Roger Nusbaum is an Arizona-based financial advisor who builds and manages client portfolios using a mix of individual stocks and ETFs. Roger writes a popular blog, which focuses on risk management, foreign stocks, exchange traded funds, options etc.

Roger has been recognized by many in the investment management industry for his expertise in portfolio management. Roger has been regularly interviewed by the financial press, trade journals, and television news shows. He has also had numerous technical articles published and has been quoted in a number of professional trade journals, newspapers, and consumer finance magazines. He appears frequently on CNBC Asia as a market commentator.

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