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With Two Simple Moves, You’ll Calmly Weather This Downturn

7 | By Shah Gilani

It’s no surprise that U.S. stocks have dropped into a free-fall mode.

I’ve been warning about the risks that stock, bond and other financial-asset prices face for some time.

Now that it’s happening, though, you need to understand these two things.

  • Exactly what’s happening…
  • And what you can do about it – both to blunt your losses… and to make money.

In fact, while other investors are panicking – and see gloom and doom – I see opportunity.

This morning’s market plunge underscores my long-held mantra: “There’s always a place to make money… always.”

Today I’m going to show you a couple ways to put that mantra to work – so you can cash in…

Forgetting About the Fed

The big, big picture that too many investors lost sight of was that the U.S. Federal Reserve‘s “zero-interest-rate policy” (ZIRP) and massive quantitative-easing (QE) moves didn’t stimulate economic growth.

And it didn’t work when the European Union (EU), Japan and China tried this strategy for themselves.

What all that easy liquidity did do was lift asset prices – which, in the case of the Fed, was also an articulated policy goal.

In the Fed’s “wealth-effect” scenario, consumers would feel better about the economy’s prospects (and their own) by watching stock prices rise.

Aided by the Fed’s cheap-money tailwind, U.S. companies over the last six years helped their own cause with $2.7 trillion of stock buybacks. That boosted Corporate America‘s all-important earnings-per-share (EPS) metric (since the same earnings total is apportioned across a lower number of shares).

That additional boost of corporations buying their shares at ever-increasing prices and better earnings metrics made stocks look better and better to the untrained eye. And that created a “virtuous momentum” market where stocks were pushed to increasingly higher “highs.”

While other countries were following the Fed’s lead, China not only lowered interest rates but embarked on a debt-fueled stimulus tear – including runaway infrastructure spending.

According to McKinsey Global Institute research, China’s total public-and-private debt burden skyrocketed from less than $7 trillion in 2007 to more than $28 trillion by mid-2014.

Despite this, China’s GDP growth rate has been slipping badly.

For a couple reasons …

First, there were low interest rates that have been diverting investment capital and savings into capital markets – chasing stocks and increasingly lower-yielding fixed-income securities. Then there was China’s stimulus efforts to boost infrastructure, manufacturing and exports.

These two factors led to overproduction and the stockpiling of commodities. And they brought us to the point we’re at today.

That’s a big, big picture I just painted, of course. But beneath that, mechanical realities were signaling trouble.

The price of oil has been sliding. When the price of the most important commodity in the world skids precipitously, it’s not just because America’s new record production of 10 million barrels a day is tipping the supply side of the equation.

And it’s not that other producer countries desperate for revenue (which is another indication of trouble) are pumping furiously.

The price of oil – that critical bellwether – is crashing because global demand hasn’t been rising as much as before… because global growth is slowing.

That’s been a flashing light.

A warning…

Debt Planet

Then there’s Greece. It’s been a great 28-century run, but the “Hellenic Republic” is probably on its last legs. That’s another warning sign – not just about Greece, but about the burden of debt in general.

There’s no way Greece can pay the more than $350 billion it owes, and that’s just in bailout loans.

There’s no way Japan can repay its government’s $11 trillion in debt, which will be three times Japan’s GDP by 2030.

The United States is no slouch in the debt department either. Globally, debt burdens have been climbing higher.

And that takes us back for a moment to the big, big picture: By slashing interest rates, central banks are engaged in a scheme to cut the financing costs of the rising debt loads of each of their respective governments.

The only escape route out of everyone’s debilitating debt spiral is for economic growth to accelerate (that’s, of course, what everyone had hoped low interest rates would accomplish). Accelerating growth would boost the tax revenue needed to help pay down debt. And it would also fuel inflation, which reduces the cost of the debt.

That’s why central banks want inflation. But there is no inflation – which is another crystal-clear signal of trouble.

Then there’s China. The saying used to be, “When the United States sneezes, the world catches a cold.”

That’s now true of China. And China is sneezing, hacking, loading up on NyQuil and taking three days off work.

Beijing tried to push stock markets higher by cheerleading them on through party papers and TV shows.

Millions of new brokerages accounts have been opened since the end of 2014, and Chinese “speculators” have been lavished with margin to buy into the nation’s hot stocks.

The central planners had hoped to get China’s debt-ridden corporations – especially the state-owned and controlled entities – to be able to issue new equity to new stock investors. The goal: To offload balance-sheet debt onto stock-market “plungers” – a Wall Street euphemism for market players that make big-and-reckless bets.

Beijing’s plan didn’t work. When Chinese stocks crashed, that was another giant warning light signaling trouble ahead.

There’s just no good news left to lift stocks higher. There’s no market leadership from any industry, other than the brief momentum runs made by some tech darlings and a bunch of hot biotech companies that are promising next-century solutions to yesterday’s problems.

And there’s even another challenge looming: The Fed says it’s leaning toward raising interest rates.

How to Run the Table

All these signals were flashing yellow, then bright red in the past few weeks.

We caught them all in my Short-Side Fortunes trading service and are very short and very, very happy, because we are short China, oil, Europe and all the U.S. stock indices.

I’m looking for an oversold bounce at some point, but if we get one on thin volume, it will be a chance to just load up for the next downdraft.

There’s nothing holding markets up anymore. It’s truly frightening.

Central banks have shot their ammo. Their bazookas are smoking… and empty.

What the markets need now is a good, long flushing-out. Not that I want to see that, even though we are short, but that’s what they need to squeeze out excesses built into artificially inflated stock-and-bond prices.

It’s not too late to capitalize on this opportunity… to hedge against further downside moves, or to make money if stocks fall more – as I believe they will.

Because puts are now so expensive, the best way to hedge and the best way to profit from any further selling would be to buy “inverse” exchange-traded funds (ETFs) like ProShares Short Dow30 (NYSE Arca: DOG), or ProShares Short QQQ (NYSE Arca: PSQ).

We own both in my Short-Side Fortunes service, and they provide great short exposure to the big U.S. indices.

As sure as this sell-off was clearly signaled, there will be signals when we’re near the bottom.

We’ll continue to follow stocks down.

And we’ll be there for you when they’re ready to rebound.

As they always do…

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7 Responses to With Two Simple Moves, You’ll Calmly Weather This Downturn

  1. David Kirk says:

    Can you explain more about how to purchase ProShares Short Dow30 (NYSE Arca: DOG), or ProShares Short QQQ (NYSE Arca: PSQ) to limit our downside losses?

    • fallingman says:

      You can buy ’em with one click like any stock. Just be aware that if you don’t get movement in your direction … down market in the case of a short ETF … in a timely fashion, the fund will gradually but inexorably lose money due to the fact that these funds hold futures contracts and it costs money to continually roll those over. They’ll eat you up in a flat market and, of course, if you guess wrong and are on the wrong side of the trend you lose.

      The thing to do is to sell out of the money call options against at least some of your short ETF position. That’ll more than offset the erosion and allow you to maintain the position over time.

  2. Jim V says:

    Shah,
    I always enjoy your reading your comments and recommendations. With PSQ and DOG trading at $56 and $24, there’s not much room for profits if, for example, a 2% portfolio allocation amounts to $1,000. I made money on both of these ETFs during the downturn, and ask if you could expand on your “protective” recommendation to invest in PSQ and DOG (for the sake of those who use Options) ?
    Jim V

  3. Gordon says:

    These may be great and timely investments now, but aren’t there things about these shares held over the long term that investors need to know about?

  4. Alan Steinbronn says:

    Most people don’t realize that China was the wealth producing god-send keeping the global illusion of life going.

    Until now. Now China’s in the same boat as everyone else.

    Wealth created with interest attached, no matter how small the interest rate, is an automatic default and bankruptcy producing mechanism that has been swallowing up nation after nation for centuries.

    When the currency requested is the only currency created where is that added interest payment coming from?

    Nowhere. It’s an impossible task. And it freezes everyone’s ability to use all the wealth producing real tangible assets available to them.

    The private banking industry is nothing but a ‘get something for nothing’ massive ponzi scam that eventually bankrupts societies and leaves its sovereign people ruined by debt and in total destitution.

    (not that the private banking participants suffer, mind you)

    That scam moved into China bigtime. It swallowed up its wealth producing ability in record time through typical exploitation – the standard operation model for private banking.

    Now with China on its knees, the world better get the Big Picture – as long the private banking industry is in control of what is and always will be a PUBLIC function (creating a nation’s currency) wealth EXTRACTION, not wealth creation, will occur.

    You NEVER put private interest in the shoes of Public Interest. Never.

    The world is suffering from massive wealth creation ability starvation – DEBT – which is why deflation is now the current threat, which occurs before the end-game – the whole show stops and drops.

    Mind you, it’s not the currency that collapses. It’s the monetary process responsible for creating economic value and enabling prosperity in a society that fails.

    The process of distributing the people’s accounting tool (which is all currency is) so that they can carry out economic productivity and normal exchanges has been high-jacked by an anti-social anti-wealth mechanism.

    Sooner, or later, you’ll realize this fact. I hope it’s a LOT sooner but, I’m not holding my breath.

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