Hedging The Market As the Tax Year Closes

by: Kevin Quon

As the end of the year approaches, tax-adverse investors begin to lock in their gains and losses. For investors looking to protect themselves from the possibility of a weaker market, placing a few short-term hedge positions might be a wise solution to counteracting any effect a downturn market might have incurred. Several methods exist to properly hedge against vulnerable bullish positions on the broader market.

For investors unable or unaware of how to short the market, one might consider opening up long positions in funds that specialize in providing short-like results. AdvisorShares Active Bear ETF (NYSEARCA:HDGE) offers such a non-leveraged solution in the form of an actively managed short-position fund. Though the fund is relatively new, a quick comparison against the SPDR Dow Jones Industrial Average ETF (NYSEARCA:DIA) shows that it’s mirrored quite well against the broader market. Investors seeking a very aggressive long stance for a hedge might consider opening a position in Direxion Daily Small Cap Bear 3x Shares (NYSEARCA:TZA), a triple leveraged small cap fund.

Capturing volatility spikes could also serve as a correlative bearish play as volatility tends to trend upwards when the market begins to fall. While most volatility plays are ultimately derived from the VIX index, investors needing to open long positions will have to resort to a fund such as the iPath S&P 500 VIX Short-Term Futures ETN (NYSEARCA:VXX) or the iPath S&P 500 VIX Mid-Term Futures ETN (NYSEARCA:VXZ). Those investors hedging with a bit more confidence over a looming volatility spike could consider the VelocityShares Daily 2x VIX ST ETN (NASDAQ:TVIX), which operates under a leveraged basis. This type of position could leave an investor a bit more exposed if their bets falls through.

For investors able to short the market, one might consider shorting the SPDR S&P 500 (NYSEARCA:SPY) for a cautious take against the S&P 500 index. As small cap companies tend to be more volatile, a short against the iShares Russell 2000 Index (NYSEARCA:IWM) would tend to fare better on a successful short. Shorting investors wanting to be a bit more aggressive should consider shorting the Direxion Daily Large Cap Bull 3x Shares (BGU) as a means of shorting against a leveraged position.

Disclosure: I am long HDGE. I also have long and short call and put positions in IWM and SPY.