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My Absolute Favorite Way To Protect A Portfolio

 March 08, 2012 02:28 PM

The steady market gains we've seen during the past four months have made me a bit nervous. All of the action seemed to be benefiting the riskier plays in the market, leaving seemingly safer plays one step behind. As a result, a focus on stocks with strong downside support has not been the place to be, hampering relative returns in my $100,000 Real-Money Portfolio. In effect, I've been buying a group of tortoises, while the hares have been the ones winning the race lately.

But it's a long race, so I'm not deterred.

A market that quickly changes direction won't just punish the riskier stocks that have been in vogue; it will also drag down virtually every stock in tandem. That's what we saw this week when the Dow Jones Industrial Average posted its first 200 point drop of 2012 on Tuesday, March 6.

Thankfully, a few days before I loaded up on the Direxion Small Cap Bear 3X Shares (NYSE: TZA). this bearishexchange-traded fund (ETF) rose 6% on the day the market plunged. And because I'm convinced that small-cap stocks are especially vulnerable right now, I'm holding on to this fund, despite the fact that it has risen 15% in just nine trading sessions.

Just a hedge -- that's it
Where will the market go from here? If I could answer this question, then I wouldn't even bother buying stocks. Instead, I would buy this kind of leveraged ETF, which magnifies a sector, industry or market by moving at twice or three times the rate (or, in some cases, in the opposite direction) of whatever it is tracking. (In the case of my portfolio holding, TZA, it moves at three times the rate in the opposite direction of the Russell 2000 Small Cap Index.)

No one has a crystal ball. That's why it's best to focus on the best stock ideas that can outperform the indexes.

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