jaudio shorts

Since we have now launched into round 2 of the Strategy Lab Open, it is back to the drawing board to map out a winning strategy. In a down market or a bear market, there always seems to be some confusion on what to do. The idea that overseas markets are "de-coupled" from the USA doesn't seem to be panning out. What is an investor to do? The answer lies in 3 letters: ETF.

For those that don't know, ETF stands for "Exchange Traded Fund". It is basically a mutual fund that trades like a stock. ETFs consist of many different stocks, all picked to suit the particular goal of the ETF. Although I will have some individual stock picks in this round, I have a significant amount of money in ETFs. I cannot say enough about the advantages of ETFs. The upsides to ETFs can be found in numerous books and articles, but for the average investor and those in the SLO, the greatest upside to ETFs is diversification.

Some of us look at the winners of Round 1 and think we have to swing for the fences with every pick we make. I beg to differ. Slow and steady can win the race. The coming months could be pretty rocky, and I wouldn't doubt that a 300-500 point swing in one day may be commonplace. The only way to lessen the blow is with diversification. ETFs provide just that.

Why buy into one technology stock when you can buy them all? Why buy one large cap, mid cap, or small cap stock when you can have all of them? Why buy one value or growth stock when you can have 100? No matter what type of investor you are, diversifying a portfolio is of extreme importance, and ETFs allow you to have the diversification condensed into one security instead of hundreds. With hundreds or thousands of securities in your portfolio in the form of ETFs, a market bombshell won't leave you gobsmacked the morning after. Stockshah, who finished with a stellar 49.02%, had an awesome pick in LDK Solar (LDK). LDK skyrocketed from $30 a share to over $70 a share in less than a month, a home run pick by any measure in that amount of time. However, LDK was $75 in late September before tanking to $30. It was all a matter of timing. Similar trends were seen with other solar companies to include TSL and CSUN. But what about an ETF that is heavy solar? Powershares Clean Energy ETF, PBW, started at $22 in mid September, topped at $28 at the end of December, and has since retraced back to $22. That's a 27% gain or a 21% loss depending on if you bought at the top or bottom. The point is, though you will have gyrations up and down, they won't be as severe, and they won't kill you especially when you have no money to spend because you are "all in". Some people are able to time the market here and there, but most of us can't do it. ETFs will be more forgiving, especially when you unknowingly buy at the top.

That doesn't mean you can't get risky with ETFs, though. Diversification can man less risk or more risk depending on your style. That's another beautiful thing about ETFs. They allow you to be as conservative or aggressive as you want to be. In SLO round one, I piled my portfolio with Proshares Ultra Short ETFs. These ETFs are designed to go up 2% for each 1% the market goes down. There were days that my Nasdaq UltraShort, QID, was over 20% in the red because the market moved up. In fact, my entire portfolio was a good 20% in the red for a while. It was incredibly wild ride. It was also extremely risky. Are you looking to be risky? There are ETFs out there that are waiting for you. On the flip side, if you are a disciple of Ric Edelman, you can build a portfolio that includes every asset class with ETFs. Want to add bonds to your portfolio? There's ETFs for many government and corporate bonds, long term, short term, and inflation protected. Want to add gold or silver to your portfolio? There's ETFs for that too. How about currency? There's ETFs for currency including several European countries, the Canadian Dollar and the tried and true greenback. Don't like the greenback? Get an ETF that bets against it. Think the stock market is going to go to hell in a hand basket? Go UltraShort. Do you like commodities? No problem. Think the financial market and real estate has finally hit bottom and is about to go back up? Go for some real estate ETFs There's literally no end to the selection. You can find an ETF for almost any asset class, lifestyle, sector, or market you are looking for. Here are some of my favorites:

Proshares:

I am biased toward Proshares because of the selection of long and short ETFs, and their customer service. (More about the customer service in an upcoming blog)
Proshares offers 58 ETFs that can be a simple or as complicated as you like. They have ETFs that mimic returns of the DOW, Nasdaq, S&P, and Russell 2000, both long and short. They also have 6 Ultra Short International ETFs that will be sure to be bought and blogged about in the competition. I am heavy in FXP, the Ultra short China ETF, maybe a little too heavy for my tastes, but with China looking more and more like a bubble, it has further to fall. Check them out at http://www.proshares.com/funds

Ishares:

Ishares, found at www.ishares.com, has one of the most user- friendly sites for browsing their ETFs. Within 5 minutes you can place your mouse over the "ishares quick finder" icon and find ETFs tracking US markets, foreign markets, currency, and bonds. I added a few bond and currency ishares to my portfolio to diversify into another asset class. Ishares site is also good for researching the ups and downs of specific foreign markets, so at the very least, it warrants a bookmark.

Powershares:

Found at www.powershares.com, the first sentence on the site says it all. "PowerShares currently offers over 100 compelling investment opportunities through style, industry, commodities, currencies, specialty access and broad market Exchange-Traded Funds." Click on the products icon, and you will see a listing of an amazing group of specialized ETFs. My favorites are the commodities, dividend yield, and sector ETFs. Like micro-caps? Powershares PZI is awaiting your buy.

This is my no means an all-inclusive list, but it is a pretty good start when looking to find a way to diversify risk when applying your strategy.

Let the game begin.

---Jonathan

Comments: View Comments |  Friday February 1, 2008  |  Stocks: CSUN, FXP, LDK, PBW, PZI, QID,