"Ad augusta per angusta" [to high places by narrow roads]… it seems as though our Latin predecessors were seeking alpha as well!
2008 is shaping up to be a difficult market to navigate for individuals as well as professionals. The croupier is about to spin the roulette wheel and wealth managers are placing their bets. Will the ball land on red (recession) or black (progression)? Let's examine a core-strategy for red. This is intended to make suggestions on a few key areas which should not be ignored, not as a design for an entire portfolio.
As a certain Wesley Snipes explained to us in the movie Blade, we should "always bet on black". Unfortunately for investors, employees and business owners across this nation Mr. Snipes is incorrect in this regard. The economy is incapable of consistently remaining in the black. There are always recessionary periods that lie in wait for the country to overextend itself by developing a bubble (see definition below). So how would one prepare their portfolios for a potential recession? Below are a few plays you can make to protect or grow your portfolio in 2008, assuming the economy declines further.
Pick up the UltraShort S&P500 ProShares ETF (SDS). The companies that the S&P 500 consists of are the pulse of the United States of America's economy. While this ETF does not short the economy, it does bet on a decline in the stock prices of those companies that make up a strong portion of the economy. In my opinion, the market players have yet to factor the negatives of our current economic state into the S&P 500. If we enter a recession it's a fairly safe bet that this ETF will outperform many of your other positions.
Pick up high-quality, high-potential healthcare stocks. Seek out stocks whose companies have a good balance between a current product base and a strong product impact potential [PIP]. An example would be Company X having $500 million in annual sales from 2 existing products and another product in Phase III testing which has sales potential of $50 million per annum (10% of sales). Here the company is already on solid footing (patents, etc. assumed valid for years to come) but can achieve a significantly higher stock valuation if Phase III completes successfully. If a healthcare company provides something people require and don't simply need, they're a pretty safe bet during an economic downturn. You'll have to do your own research on this one.
Finally stay away from retail and consumer discretionary. The American consumer will probably not be able to sustain its current strength following the one-two punch of a depressed housing market and inflation's rise (commodity prices are soaring from already-elevated levels).
DEFINITION: A Bubble, in economic terms, occurs in two phases. Phase one, the seed of a bubble, is when demand outstrips supply and causes prices to rise. Phase two, the actual bubble formation, is when supply proceeds to surpass demand yet prices continue to rise. Phase two can continue for months or years. It creates an illogical economic environment which in time will correct itself through mild or severe contraction.
Please comment with variations of a definition or comments on mine. I'm interested as I have yet to see a fully accurate definition.
Disclosure: David Schrader's firm is long SDS
