The Worst Could Well Be Over for the Stock Market. Moves to Make Now.
In an economic world that is in various stages of integration and disintegration, investors must learn to endure dramatic stock corrections, which now seem to occur every few years.
It is no longer enough simply to pick good stocks and let time compound returns in a mostly benevolent environment. Investors must now have the discipline to endure violent price movements that are exacerbated by the interaction of global stock, bond, commodities, and derivatives markets.
Just consider what has happened since April 2, when President Donald Trump announced his global tariff regime. Stocks experienced historically significant declines and gains in a compressed time.
Anyone who panicked—or heeded the fearmongers—lost lots of money. Granted, the markets were scary, but recent history has repeatedly demonstrated that anyone who fails to anticipate routs and panics should endure the pain of a plummeting portfolio. Sooner or later, markets recover and rally higher.
Sudden declines can make most investors forget that 78% of the stock market’s best days occur during bear markets, or during the first two months of bull markets, according to Hartford Funds. Over the past 30 years, missing the market’s 10 best days reduced returns by half, and missing the best 30 days reduced returns by 83%, the firm says.
This column has long endorsed monetizing the fear of other investors by selling cash-secured put options on blue-chip stocks or buying stocks during declines. The goal is using short-term volatility spikes to buy quality stocks that can be held for three to five years and ideally longer. We call that “time arbitrage.”
Until recently, we were cautious as it was hard to know if negative tariff reactions were a prelude to deeper declines or an overreaction. That’s why we advocated hedging ahead of the April 2 tariff news, then selling call options against stocks to offset stock weakness, and then buying calls to participate in a recovery.
Now the worst of the tariff tantrum seems over as Trump appears to be pursuing nuanced policies. If we’re right, the shift suggests normalized put-selling risks, though implied volatility, a key options premium determinant, remains elevated. That gives sellers of options an edge.
Goldman Sachs derivatives strategists recently told clients that the average one-month implied volatility of an S&P 500 index stock was around 44%, near its high over the past year.
Because tariffs have given Trump the powers of Poseidon over markets, investors should scale into positions. Rather than selling 30 cash-secured puts with the same strike price to buy 3,000 shares, sell 10 puts with different strikes. The strategy requires setting aside enough money to buy the stock at designated strike prices.
Consider Palantir Technologies, a software company that is far below its 52-week high of $125.41 on fears the stock is too hot for the current environment.
With Palantir at $98.40, the May $97.50 put could be sold for about $9.65, the May $95 put for about $8.55, and the May $92.50 put for about $7.45.
Investors keep the premiums if Palantir remains above the strike prices at expiration. If the stock plummets, investors either buy it at the strike prices or adjust positions to avoid assignment. Should that happen, investors can then sell calls to get paid to wait for the stock to recover.
But rather than tap-dancing around the intricacies of strategic investing, just maintain a simple focus on owning quality stocks and monetizing fear. If you are comfortable with puts and calls and volatility, you can get the options market to pay you for being a long-term investor.
That, at least, will be easy to endure.