If you had gone long the stock market in 2009, you would have made a small fortune by now. The S&P 500 (INDEXSP:.INX) bottomed in March 2009 at just over 660 and now in June 2014 we are well over 1900. That's a 300% gain in just over 5 years which for the S&P 500 is unprecedented.
Personally I would be wary getting long stocks here. Yes, they may continue to outperform other sectors but in my view, the risk greatly outweighs the reward. What you must consider is that markets go up differently to how they come down. This market driven by the Fed's quantitative easing programs has not had or has not been allowed to have a significant correction as of yet. All markets should be able to trade freely meaning when there are more buyers, the market rallies and when there are more sellers, the market drops. When you look at a recent chart of the S&P 500 (INDEXSP:.INX), you see that the market hasn't had any significant drop recently. The question is why not?
When conditions like this happen in any market, the market runs the risk of entering a runaway move. A runaway move is when the market grinds higher day after day sucking in more buyers at every opportunity. This is what we as investors need to be careful of. Human beings throughout history always have acted in scenarios like this with emotion instead of logic. You see your neighbors getting rich and you want part of the action. Here is what a typical chart of a runaway move type scenario looks like:
Notice how the smart money always enters at the start of the bull. I think smart money is entering the commodity markets as we speak, more specifically precious metals.
On the contrary, here is how an uneducated investor participates in a runaway move. He excitingly dives in as there is a frenzy of activity happening and he probably experiences some of the remaining up-move before the market plummets. As I've already said, markets come down far differently to how they go up as you can see from the chart above. Four months of steady gains in a runaway move type market could be erased in one day. This is what stock investors need to take into account. Yes, stocks seem to be the best play right now but runaway moves always end in a crash scenario. In saying all this, we are not in a runaway move yet but definitely have the potential to be in one soon if the market continues to grind higher week after week.
"Markets always reverts to the mean" says Tastytrade CEO Tom Sosnoff. What this means is that market forces always overpower government or central bank interventions. This is evident in the above chart and this statement also clearly illustrates that there is far more risk to the downside in equities than anything else. Because of this I believe that soon investment capital will start leaking out of the equity markets and will land on the commodity markets mainly precious metals as they have been correcting since 2011. "When it ends, we will all pay a terrible price," says Legendary Investor Jim Rogers and he's right as Money like water always ends up in the most undervalued markets no matter how large and frequent the interventions. Below is a chart showing the Housing bubble back in 2007. When you compare this chart to the chart above, it is evident that we have not yet returned to the mean so we probably will have more downside pressure in housing for the next few years at least.
So how can we investors play this potential down move in equities? Well we have several leveraged options we can play such as ProShares UltraPro Short MidCap400 (ETF)(NYSEARCA:SPXU) or ProShares UltraPro Short Russell2000 ETF (NYSEARCA:SRTY). These are both ultraPro funds meaning they will move 300% compared with the normal Midcap400 and Russell200 indexes. Proshares offers ultra funds which move 200% compared with the underlying and also they offer ultraPro funds which move 300% compared to the underlying. You must control the size of your investment in instruments like these but they could very well end up being highly profitable trades come 12 to 24 months time..
I must reiterate that leveraged funds like these are extremely risky. One must have the right profile and the right risk management to invest in these vehicles. Size is key with leveraged funds. If you trade too big and even more so on margin, you deserve to get your head served to you on a plate. This market is a fierce difficult short at the moment. The Fed's printing press is extremely powerful and they may have the capability to keep this market elevated for years on end so I implore you to be prudent in your investing.
Disclosure: The author is long SPXU, SRTY. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.