While more sound the alarm on the economy's potential dip into a recession, investors could turn to inverse or bearish exchange traded fund strategies to hedge further risks.
After the Federal Reserve executed a 75 basis point interest rate hike in response to the spike in inflation with more expected ahead, more observers are warning of a potential fall toward a recession, and many doubt that the sell-off in the equities market will abate without a clear turning point in inflation data, Reuters reported.
“Volatility is going to stay high, which makes market participants including myself less interested in taking risk in general,” Steve Bartolini, a bond fund manager at T. Rowe Price, told Reuters.
According to data from Bespoke Investment Group, a recession could mean more pain for the equity markets, since bear markets accompanied by recession are typically longer and steeper, with a median decline of about 35%. The S&P 500 is already in a bear market after falling 22.2% year-to-date.
"If we end up in a recession later this year or early next year, earnings would decline on equities and stocks would probably go down further," Sean McGould, president and co-chief investment officer at hedge fund firm Lighthouse Investment Partners, told Reuters.
The recession fears stem from investors' doubts about the way the Fed is handling inflationary pressures, as many believe that policy makers are only now trying to play catch-up. Consequently, the Fed's actions may become overly zealous in tightening monetary policies and drag the economy into a recession.
"The Fed is in a very difficult position that frankly they put themselves in by mishandling monetary policy and allowing inflation to rise as much as it has," Michael Rosen, chief investment officer at Angeles Investment Advisors, told Reuters. "The so-called soft landing is looking more and more tenuous."
ETF traders who are looking to protect their portfolios from potential pullbacks ahead may consider some exposure to bearish or inverse ETFs to hedge against further falls.
For example, the ProShares Short S&P500 takes a simple inverse or -100% daily performance of the S&P 500 index. Alternatively, for the more aggressive trader, leveraged options include the ProShares UltraShort S&P500 ETF, which tries to reflect -2x or -200% of the daily performance of the S&P 500; the Direxion Daily S&P 500 Bear 3x Shares, which takes -3x or -300% of the daily performance of the S&P 500; and the ProShares UltraPro Short S&P 500 ETF, which also takes -300% of the daily performance of the S&P 500.
Those who want to hedge against risk in the Dow Jones Industrial Average can use inverse ETFs to bolster their long equities positions. The ProShares Short Dow 30 ETF tries to reflect -100% of the daily performance of the Dow Jones Industrial Average. For more aggressive traders, the ProShares UltraShort Dow 30 ETF (NYSEArca: DXD) takes the -200% of the Dow Jones, and the ProShares UltraPro Short Dow 30 reflects the -300% of the Dow.
Lastly, investors can also hedge against a dipping Nasdaq through bearish options as well. For instance, the ProShares Short QQQ ETF takes the inverse or -100% daily performance of the Nasdaq-100 Index. For the aggressive trader, the ProShares UltraShort QQQ ETF tracks the double inverse or -200% performance of the Nasdaq-100, and the ProShares UltraPro Short QQQ ETF reflects the triple inverse or -300% of the Nasdaq-100.
