David Fabian: “Deep into the darkness peering, long I stood there, wondering, fearing, Doubting, dreaming dreams no mortal ever dared to dream before.” Edgar Allan Poe – The Raven
With the stock market sitting near all-time highs, often times ETFs that have languished fly under the radar as investors focus on the euphoria of unrealized gains. The natural inclination is to keep pouring new money into stocks that are performing well, which is exactly what recent data suggests has been happening. So far this year investors have added more than $277 billion into stock ETFs and mutual funds. That is the single biggest year of inflows to stock funds since 2000, which suggests that optimism is high despite the risks of a correction.
With Halloween upon us and the end of the year rapidly approaching, I thought it would be prudent to focus in on investment themes that have been persistently frightening all year long. Many of these sectors have been consistently trending downward with no bottom in sight, but when the tide turns they may be ripe for a sharp rebound.
1. What fear? The iPath S&P 500 VIX Short-Term Futures ETN (VXX) is designed to provide access to equity market volatility through CBOE Volatility Index futures. Simply put, this exchange-traded note offers investors the ability to capitalize on the CBOE VIX Index which is a widely recognized measure of fear in the marketplace. Throughout 2013 that fear has largely been replace with greed for stocks, which is why VXX has fallen precipitously.
This ETF is down over 60% year-to-date and most shockingly has attracted over $1 billion in new assets according to Index Universe. Clearly there is still a great deal of demand for institutional investors to hedge their bets using an easy to access ETN such as VXX in their portfolios.
While this fund has fallen out of favor now, it could quickly bounce higher if we see a flight to quality that includes heavy selling pressure from stocks. It can be used as an alternative method of shorting the market in the event that a correction ensues. However, this fund can be volatile and I recommend that novice investors thoroughly research the index methodology before entering a new position and use a tight stop loss to guard against further downside risk.
2. Breaking the Buck. The PowerShares US Dollar Bullish Index (UUP) is one of the most well-known proxies for tracking the US dollar index. This ETF recently hit fresh 2-year lows as a result of continued strengthening in foreign currencies and a commitment to loose monetary policy by the Federal Reserve. A falling greenback can be good for international corporations that derive the majority of their profits from overseas operations. It can also benefit precious metals prices such as gold as investors seek to diversify their exposure away from paper assets.
There is nothing to suggest that the recent trend of a falling dollar will subside any time soon. I am continuing to advocate avoiding this space in favor of more traditional asset classes such as stocks and bonds. Although a breakdown in international markets might send investors fleeing to purchase the dollar as a safer alternative to foreign currencies.