June 4, 2010

What's going on with the markets?

What’s going on with the markets?

As the market goes up and down, so does people’s retirement plans and 401k’s – with all of the so-called “experts” out there, not too many of them are getting good results (or as they call it, “finding alpha”) in this economic environment.  And there are a plethora of problems out there causing a fear factor and massive sell offs of equities and a rush to buy up treasuries, bonds, CDs, and other “safe” investments.  How do you protect your assets from the Euro debt crisis?  What about the on-going deficits and future tax burden of the US?  What’s the best strategy to invest your money?  There are some people making a ton of money out there…with this much volatility in the markets – hedge funds, day traders, and a few others should be having somewhat of a field day.

There are several alternatives to suggest – but my best suggestion would be to invest in companies that are paying dividends and then select another stock or investment vehicle to act as a hedge.  First let’s talk about the dividends…Yes I know this sounds old school – but anytime you can receive an extra buck it’s a good thing, right?  …Especially when that extra buck doesn’t require you to “clock in” to earn it.  There are several companies that have been paying dividends consistently that I like for my portfolio: BP, PWE, MO, and DTE to name a few. (Of course, depending on your tax bracket, the Obama administration is going to potentially tax this unearned revenue to help fund his new healthcare overhaul.)

Nevertheless, you can still have your money work hard for you by paying you dividends while you keep your day job for now.  The Federal Reserve is keeping interest rates artificially low in order to restore the economy – which means that the money in your savings account is not earning much interest at all (go ahead and check…you’ll see that I’m right).  Why is this?  Well – it’s because the government doesn’t want you to save right now…Uncle Sam wants you to spend!  When Americans spend – the economy rebounds because consumer spending is more than 60% of our GDP.

Therefore, if no one spends, then companies won’t make any money and inventory builds up, bank lending freezes over, and unemployment remains high.  So the Federal Reserve reacts by dropping interest rates, which means banks will pay us next to nothing to keep our money in savings… so consumers react by taking their money out of savings and most likely will invest their money in equities, or company stock.  Companies begin to see an increase in their bottom line due to the inflow of cash from consumers’ investment – which means it will hire more people to expand operations, or maybe acquire another company.

When more people have jobs – then we can assume the more people will spend – and the economy will rebound.  (This is only but one watered-down economic theory out of several different schools of thought.)

Anyway, what is hedging? And why would you hedge against your investments?  Whenever the market exudes such volatility and has extreme “DOWN” and “UP” swings, then you are going to want to protect your assets and practice “alternative” strategies.  A Hedge Fund is not an asset class – but merely a fund that uses different strategies that are applied to make sure an individual is able to profit in “DOWN” and “UP” markets!

To be brief and simple – whenever you buy a stock, you are going “long”, or expecting the market to go UP…on the contrary, if you’re expecting the market to go down then you would buy a “Put Option”.  A Put Option increases in value as the market goes down…plain and simple.  This is one a simple form of a hedge…it gets more complicated – but that is outside of my scope today.

 So, back to my previous stocks DTE, BP, PWE, and MO – if you owned these stocks and wanted a simple hedge – then buy Put Options for these stocks or any other stock that you may own for that matter.  A good hedging strategy is the best way to make a profit in these volatile markets.