BY CHRIS HANLY
Time for Investors to Hunker Down
Investment Consultant, Gary Goldberg Financial Services
First and most importantly, I hope that all of you are safe and made it through Hurricane Sandy with nothing more than minor damage and some inconvenience. My thoughts are with you all, as are everyone at Gary Goldberg Financial Services. As I was thinking about this month’s column, as I was waiting in line to purchase extra batteries, I realized that a lot can be learned from our behavior in preparing for the arrival of hurricane Sandy. Long lines could be observed at grocery stores and gas stations all along the East Coast. People rushed to buy or rent generators. Fear of being stuck without power, food and water, possibly for several days, is at the core of this behavior. Many fellow contributors and reporters will write about which sectors and stocks stand to gain or lose the most from the storm. But there is a greater lesson to be learned — a lesson in investor psychology.
I’ve lived on the East Coast my entire life and experienced several hurricanes and snow storms over the years. In preparation for an arriving storm, my neighbors and I run to the grocery store to bulk up on bottled water, batteries, and food — normal and prudent behavior for anyone if you ask me. Yet, when it comes to investing, few prepare nearly as well. Most investors focus their research on mutual funds, stocks, or other investments that did well over the past year. Many measure their portfolio performance against the S&P 500 and hope to beat the index — rarely taking into account risk. The market is trading near its all-time high, corporate profit growth is slowing or declining, Europe continues to face its debt crisis, and the United States is just 75 days from potentially falling off the fiscal cliff – and yet despite these factors investors are behaving as if there were nothing but blue skies to be seen; chasing returns, disregarding risk and the potentially setting themselves up for significant portfolio losses.
In these dark and stormy times, investors would be wise to collar their biggest holdings. Portfolio hedges are still relatively cheap, especially if you don’t buy long-dated options. Say, for instance, that you own the State Street S&P 500 ETF (ticker SPY), which is currently trading around 141. You could sell some 150 December Calls and use the proceeds to buy some January 135 puts. That way, you’ve protected your downside risk and still have some upside. If your shares get called away, buy them back; after all, you still own the January puts so you’re covered in the event of a sharp selloff.
If your portfolio is predominantly comprised of individual stocks, you may still want to consider buying the SPY puts, especially if your portfolio is highly correlated to the S&P, which is likely in this environment. If the puts expire worthless, look at it in a similar manner as you look at the cost and effort you underwent preparing for hurricane Sandy. You’re probably glad you were prepared and grateful that nothing happened and that you didn’t need that generator you rented or the extra canned food you purchased. (PS: Give the food to your local shelter. I’m sure they can use it).
Christopher Hanly is an investment consultant with Gary Goldberg Financial Services in Suffern and can be reached at (845) 368-2900 ext. 247 or firstname.lastname@example.org.