Warren Buffett says:
" Anything that can't go on forever will end"
Most "experts" would not consider switching to Exchange Trade Products in a falling market. They will advocate a buy and hold policy when it comes to entering the Stock Market.
That may not be the best strategy!
Why would anyone want to be holding stock when there is a falling market?
There is a way around this.
You can sell your shares and do nothing. Or ...
... you can sell your shares and buy Exchange Traded Products to mitigate any losses.
Within your Pension Plan you cannot "short" the market or short any shares that you hold.
But you can sell the shares that you hold (and you should) and with the proceeds buy a certain 'Exchange Traded Product' (ETP). Then, buy your shares back, when the market decides to turn up again.
Exchange Traded Products (ETPs) or Exchange Traded Funds (ETFs) may sound complicated, but they are not. Read on to find out just how simple they are.
But for now, here's a simple explanation of what they are:
An 'Exchange Traded Product', which is sometimes referred to as an 'Exchange Traded Fund' (ETF) and sometimes more specifically, an 'Exchange Traded Commodity' (ETC) is nothing more than a "box" full of products.
That "box" may contain stocks, indices, or commodities such as gold, oil, silver, wheat, pork bellies, sugar and so on.
The idea being that each "box" of product is managed such that it tracks the product that it emulates.
For example, the SPY Exchange Traded Fund tracks, as near as damnit, the S and P 500 index.
And there's an important point. ETPs "track" their underlying product as close as possible. They don't try to beat them, they are managed to track them. So, in our example, if the S and P goes up 5%, the SPY ETP goes up 5%.
A key point of an 'Exchange Traded Product' is that individuals, like you and ourselves, can easily buy (and sell) them. Just like we can easily buy (and sell) shares.
They are priced at a multiple of their underlying product. So if the S and P was trading at say, 2000 then the SPY ETF may trade at 200, one tenth of the parent value.
There are literally 1000s of ETPs on the market, and more and more being added. They have been around for a few decades now and are extremely popular. Not least because of their versatility.
For us, there are three main benefits to trading ETFs or ETPs.
1. they are dead easy to trade in. They trade exactly as shares do.
2. The market in 'Exchange Traded Products' is extremely liquid. Meaning that there are millions of shares traded daily.
3. Like popular shares, they have a narrow buy-sell spread.
There are other benefits as well, such as there is no stamp duty to pay (like there is on shares).
A big advantage of ETPs and probably one that has made them so popular is that instead of buying an individual stock you can buy a collection of stocks.
"They" say, that to be properly diversified in the market you should hold between 30 and 40 different shares.
We have never understood who "they" are.
But most of us do not have the funds to be buying 30 or 40 individual shares. But, should we want to have that sort of diversification, then buying an 'Exchange Traded Product' in something like the 'S and P 500', or the FTSE100 could be an option.
Now, that's not an option that we personally want to take, we prefer the thrill of buying individual shares (especially in a rising market).
This diatribe is merely an illustration of what is available.
Exchange Traded Products are versatile.
You can even buy ETPs that follow sectors. There are ETPs for the Energy sector, the Utility sector, Financials, etc. etc.
You can also buy ETPs that cover geographic areas. If you like the look of China, or Japan, or some of the emerging economies.
Yep, you've guessed it. There's an ETP for those as well.
And the biggest benefit of all - is that they are cheap and easy.
O.K. That's two benefits, but you get the idea.
That's right. Forget everything else that is on this website and trade in nothing else but Exchange Traded Funds.
You would do very well.
But you would do even better investing in individual shares.
But we can understand that a lot of people are very risk averse and would prefer the "basket" of products approach.
If this sounds like your bag, go for it.
You could quite simply set up an 'Exchange Traded Product' Portfolio that would literally track the markets of your choice.
We all know by now that, over time, investing in the Stock Market is just about the best passive investment you can make.
And for the more conservative investor, building a portfolio of ETPs could be an admirable way forward.
You could have a stake in virtually any country in the world.
You could have a stake in any sector of the economy.
You could have a stake in other asset classes such as bonds, commodities, equities.
Such a portfolio would require minimum maintenance. If you're the ultra-conservative type - consider it.
If you're a little more adventurous - stay tuned.
We alluded to this earlier.
Ideally, we do not want to be invested in ordinary shares during a Bear Market.
Ha, easier said than done.
When is Bull Market not a Bull Market?
Briefly. We want to be invested in ordinary shares when the market is going up. And we want to be out of ordinary shares when the market is falling.
Sounds simple enough. But in practice is not simple enough.
How do you tell when a Bull Market is coming to an end and a Bear Market is ready to hit?
Great question. And we wish we had a great answer. But we don't. Nobody does!
We like "forever stocks" but we will even dump these if we think a Bear Market is upon us.
Before we try to give our simplistic approach to switching from a Bull to a Bear Market (and from a Bear to a Bull Market) here is our thinking.
Historically, Bull Markets have lasted longer than Bear Markets.
Furthermore, Bull Markets have increased more in percentage terms than Bear Markets have decreased.
What amazes us is that we remember the Bear Market of 1970-1974, and the "crash" of October 1987, and the "dotcom" bubble, and the Bear Market of 2008-2009. But when you look at these on the charts, all of them appear as nothing more than a "blip."
History as proved that staying in the markets long term is the best policy. Just ask Warren Buffett.
Place long term chart here
But adventurous people will want a little bit more excitement, which means switching out, and then back in, to take advantage.
So, what would you use as an indicator to get out of a Bull Market and avoid the resultant falls?
Similarly, what indicator would you use to get out of a Bear Market in readiness for the next market rise?
Answer: The 200 day moving average.
Our philosophy is simple. We invest in good solid companies that have a 'Durable Competitive Advantage'. And we hold them through good times and bad times.
However, in extreme cases, a full blown Bear Market might persuade us to get out for a short time. In which case do we get out and hold cash or do we put our money to work that bit harder?
Obviously we want to maximise our return.
Having identified a situation where the market is going to fall (substantially) we would discuss what to switch into.
And the answer would be into a vehicle that takes advantage of a falling market but trades just like stock. The answer: a suitable 'Exchange Traded Fund'.
But which one? There are thousands of ETFs.
There are instruments that are called 'Inverse Exchange Traded Products' sometimes referred to as 'Reverse Equity ETPs'.
These inverse funds track the market "inversely". That is, if the market falls 1% then the inverse ETF rises 1% and so on.
They are available from various fund providers such as ProShare and if a 1% rise against a 1% fall isn't enough for you, there are instruments such as "Ultra Inverse ETPs". So a 1% fall in the markets is matched by a 2% rise in the ETP. Naturally, such an ultra inverse ETP comes with increased risk. Something we would never invest more than 10% of our total pot into.
Similarly, we would never invest more thn 50% of our total pot into an Inverse ETP. The remainder would be in cash.
The ETF Book by Richard Ferri
The Ultimate ETF Guidebook by David Stevenson and David Tuckwell
Contrary to what Warren Buffett does, we do believe in being out of a falling market, albeit for a short time.
But you've got to be careful, do not confuse a dip in the markets with a full blown Bear Market. Easier said than done.
You need to stay in the market when there is a dip but get out when it's a Bear Market.
There are probably two ways you can spot this difference. The first way is have a "feel" for the market as a whole. Is the local, and world economy, turning into a recession?
And secondly, do it mechanically. Use a 200 day Moving Average on your charts to time your exit, and re-entry points.
A third alternative, is to do what Warren Buffett does - if you are invested in a good company that has a 'Durable Competitive Advantage', stay invested. Come what may.
However, remember this. The markets are always ahead of events. History has proved this to be about 9 months. Meaning that markets start to fall about 9 months before any bad news is out. And markets start to recover about 9 months before the green shoots of recovery appear.
On balance, we favour being out of a Bear Market although we can see Mr. Buffett's stance on this. But when you have situations like: the Dotcom bubble, the 2008 sub-prime mortgage problem, a pandemic (or just the threat of one will do), we believe your savings, or at least a large percentage of them, would be better in an Exchange Trade Product.