Current Market Environment Is Ideal for Shorting Retail ETFs

| About: SPDR S&P (XRT)

In recent analysis, I've explained why Netflix (NASDAQ:NFLX) is not a good short sale candidate. I've also shared personal preferences when it comes to setting up and executing trades to the short side. By purchasing index put options when volatility (NYSEARCA:VXX) is not spiking upwards, investors minimize paid premiums and gain leveraged, diversified exposure to downward market or sector-specific moves. Most stocks move in a highly correlated fashion, with faster growing or more speculative businesses overperforming more stable operations.

A major theme responsible for current stock market weakness is job market weakness and resulting cuts in consumer spending. America's iconic retail sector, dependent on a strong dollar and disposable income in the hands of U.S. workers, faces certain difficulty in the foreseeable future.

The retail sector seems endlessly littered with overpriced individual names. Abercrombie and Fitch (NYSE:ANF) has a trailing P/E of 35 despite revenue declines, Shutterfly's (NASDAQ:SFLY) P/E over 130 brushes off new competition, market saturation and macroeconomic woes, and outdated department stores, such as JC Penney (NYSE:JCP) and Sears (NASDAQ:SHLD), remain valued optimistically despite declining sales and margins. Even consumer electronics leaders offering more traditional valuations, from Apple (NASDAQ:AAPL) to Hewlett Packard (NYSE:HPQ), are leveraged to the buying power of U.S. consumers.

The current market environment, with fear and uncertainty in the air, is ideal for shorting ETFs, which generally garner a premium in bullish periods while trading at a discount to NAV during sell offs. Premiums have risen with volatility in recent trading, however, sector ETFs still offer the best value on massive leverage that comes with options.

The SPDR S&P Retail ETF (NYSEARCA:XRT) is the vehicle I've most commonly used to gain exposure to the short side. SFLY and ANF are among the fund's top current holdings, as is NFLX. With diversification across so many dysfunctional and high-flying stocks, I'm willing to accept shorting a stock or two I wouldn't individually. Alternative retail ETFs XLY and RTH focus on more conservative names such as Home Depot (NYSE:HD), Wal-Mart (NYSE:WMT) and TJX Co (NYSE:TJX), which offer less potential downside than high flyers additionally held in XRT.

Disclosure: I am short XRT.