Daily Gains Letter

How to Wall Street-Proof Your Investment Portfolio for Bull and Bear Markets

By for Daily Gains Letter | Apr 15, 2013


With the Dow Jones Industrial Average and S&P 500 hitting record highs, many investors may be wondering if it’s time to re-jig their asset allocation, divert more money into the stock market, and take full advantage of the long-in-the-tooth bull market.

Normally, when we consumers go shopping at the mall, we look for deals, and buy when something is on sale. A rational buyer doesn’t put a sale item back, deciding they’d rather purchase it at full price. When it comes to shopping, we are a rational lot.

The same cannot be said for the stock market, especially during a bull market. If there’s one thing a bull market can do, it can give us a false sense of security that leads us to make irrational decisions—two factors best left out of the money management equation.

For starters, when the markets are doing well, we feel optimistic, downplay the risks, and overestimate our stock-picking prowess, regardless of how well-informed we are. Interestingly, depressed people are more realistic about their investments.

The emotional disconnect is one reason why investors do not sell stocks that are performing poorly. Studies show that the pain investors experience when taking a loss is two-times as great as the pleasure we feel when we make money. In an effort to avoid pain, we avoid selling stocks that actively erode our retirement portfolios. Hoping for a rebound, we’d rather deplete our retirement fund than deal with the pain associated with a modest loss. (Source: “Investor psychology: How to avoid over-confidence,” Modern Wealth Management web site, May 9, 2012, last accessed April 12, 2013.)

Where does that leave today’s investors? The current bull market has entered its fifth year and it’s showing no sign of slowing down, even though the U.S. experiences an economic slowdown every four to six years.

For most Americans, the idea of an economic slowdown following this not-so-prosperous bull is depressing—and for good reason. The underlying economics propping up Wall Street are more aligned with a bear market. Unemployment remains high, consumer confidence is low, personal debt is at record highs, gross domestic product (GDP) remains bleak, and housing is still fragile.

It essentially feels like a bull market being miraculously propped up by bear market economics. This means that your retirement or investment portfolio should contain equities designed for both environments.

A bear market means investors have a lack confidence in the economy. Under normal circumstances, investors turn to safer investments, such as bonds, during a bear market. But today, 30-year bonds yield less than three percent, one-year jumbo certificates of deposit (CDs) return one percent, and jumbo five-year CDs provide 1.5%; factor in inflation, and you’re losing money. (Source: “National High Yield Rates for CDs,” Bankrate.com, last accessed April 11, 2013.)

During bear markets, there are some products and services people will always turn to. That’s why it’s good to add an exchange-traded fund (ETF) that holds stocks that perform well regardless of economic conditions. Vanguard Consumer Staples ETF (NYSEArca/VDC) consists of companies in the consumer staples sector, including food, beverages, and tobacco, as well as nondurable household goods and personal products.

In the midst of a bull market, the last thing an investor wants to do is think of a bear market. After all, your investments are doing well, so why rock the boat? If you want to buy low and sell high, now might be the perfect time to consider bear market ETFs. Since the markets have been doing so well, bear market ETFs have been performing poorly. Since the bull market began, ProShares Short Dow30 (NYSEArca/DOG) has seen its price slide from a 2009 high near $88.00 to around $30.00 today. In good and bad times, we know the markets are cyclical. Every dog has its day, and this bear market “DOG” is no different.

While it may not be wise to re-jig your retirement portfolio too much when the markets turn, it’s important to make sure it is optimized to help you reach your long-term goals. Whether we’re in a bear or bull market, it’s also important to determine your risk level and make peace with it.

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