Back in May, when I started reducing risk, getting out of stocks and moving into Treasury bonds, it seemed like a strange move, akin to taking an umbrella with you on a bright sunny day. However, after a near 20 per cent fall from the May highs and a summer that most investors would want to forget, reducing stock market risk and buying Treasury bonds didn't turn out to be such a crazy idea. The TLT ETF soared 30 per cent, leaving many scratching their heads, especially after the US debt rating was downgraded.
But now it's time to put that umbrella away and get back into stocks and sell out of your Treasury bonds safety blanket. I know it feels wrong, but it always does when you’re going against the general flow. Humans on the whole like to be popular and like to be part of the crowd, but history shows that the majority of the crowd do not make money, so if you want to be a successful investor then you have to be able to take a contra view.
Fund managers are bearish, politicians are panicking and the retail investors have given up, yet US companies are in great shape, and as earnings come out over the next six weeks we will see that many have underestimated how profitable major US companies are.
While I will still be trading individual companies, right now the easiest and quickest way to get exposure to stocks is by buying the Russell 1000 ETF.
I will give you two versions, depending on your risk appetite – one has no leverage and one has 300 per cent leverage.
The Russell 1000 is an index that makes up around 93 per cent of the US market. The current top holdings are: Exxon Mobil Corp, Apple Inc, International Business Machines Corp, Chevron Corp, Microsoft Corp, Johnson & Johnson, Procter & Gamble Co, General Electric Co, AT&T Inc and Pfizer Inc. All of these are household names and can easily be spread bet in their own right. They are all multinational companies, and most of them are due to report earnings in the next six weeks.
The plain version is Vanguard Russell 1000 ETF (VONE), which is a relatively new ETF and offers a very cost-effective way to get in and out. Management fees are 0.12 per cent a year, which puts it into the lowest ETF fee category. The ETF is bought and sold like a normal share. Yes, you can also trade options but I just looked at the prices and I don’t see good value.
Options on leveraged ETFs tend to be expensive and not that well traded. The most traded and liquid index option is the SPY followed by DIA and QQQ.
Now for the turbo-charged version: Direxion Large Cap Bull X 3 (NYSE:BGU). Based on the same Russell 1000 index, BGU aims to make 300 per cent of the daily gain or loss. So if the Russell is up 2 per cent in a day, this ETF will be up just under 6 per cent. The management fees are much higher – 0.95 per cent a year until March 2012 and then it moves up to 1.28 per cent (I actually read the prospectus).
This is not ideal for long-term holders; the VONE is more for long-term investments. In the short term, however, BGU can give you a better gain, and the daily reset – as long as markets move upwards fairly steadily – can work in your favour.
The liquidity is massive on this ETF and it’s common to see four to five million units go through a day, so you can easily buy and sell with fairly tight spreads: normally 1 or 2 cents. Do be aware of the risk in a 300 per cent leveraged daily reset ETF and only allocate risk capital.
