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3 Trades Set To Soar In Bear Market

 July 23, 2012 12:49 PM


(By Michael Vodicka) There is never a better chance to make a lot of money in a very short amount of time than in a bear market. That is because of one classic saying about how securities trade; they take the stairs up and the elevator down.

Stocks and markets in general climb a wall of worry higher, but when investors and traders get nervous, they all run for the door at the same time and send prices plummeting lower. That creates an unusual amount of volatility and a unique opportunity to make a lot of money in a very short amount of time.

That dynamic is on display today, with the averages trading sharply lower on a fresh new flare up in the Euro zone as Spanish and Italian bond yields continue to surge. But even if you missed the front end of the selloff, don't worry; because there is evidence this is the beginning of a sustained sell off.

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A Recession Looms?

Beyond the absolutely massive problems the market is confronting with Europe, China is also a major concern as the largest emerging market in the world struggles with its slowest growth in more than a decade. China has been a huge source of sales and income for many international companies in the last ten years, so slower growth in China has serious implications for GDP, earnings and global growth.

The United States is also seeing slower growth, with most of the big investment banks recently downgrading second-quarter and full-year GDP projections. Some analysts are projecting second-half GDP growth of less than 1%, which means the US economy is dangerously flirting with recession territory.

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Earnings are also part of the story, where peak margins mean profit growth will have to come from higher revenue. But with sales growth cresting, there is concern that we have seen a short-term top in earnings.

But here is the kicker; does the market have any of this priced in? Of course not; as it stands, the S&P 500 is down less than 4% from its recent high above 1,380. In April and May, the S&P 500 fell a total of 9%. But the economic data has gotten worse since then, so if we fell at least that much more, the market has another 5% down side from here.

If that's the case, here are the three ways to score big profits from further equity weakness.

Buying shares of Direxion Daily Small Cap Bear 3X Shares (TZA) is a way to short the market, but shorting small caps with 3X daily leverage puts some serious kick into your trade. When the S&P 500 bottomed out in early June, TZA was up as much as 32%. Small cap stocks usually see the biggest losses in selloff because investors shift out of risk assets and into more conservative segments of the market. And that presents a unique opportunity to big up a big gain in a very short amount of time. If the S&P 500 were to fall another 5%, TZA would stand to gain another 15% or more.

Speaking of low-risk assets, when the market gets nervous, risk-averse investors pour into Treasury's, still viewed as a virtually riskless asset in spite of the federal governments weakening credit profile. That will put a big into Vanguard Extended Duration Treasury Index ETF (EDV), an index of Treasury's with an average duration of 25 years. With investors fleeing risk in the last few months, this conservative little bond investment is up more than 14% on the year and more than 2% in just the last week as stocks have traded lower. Yields are already dirt cheap, but short-term, if the market gets nervous, Treasury's almost always see a spike higher.

But out of all three ideas, the way to get the biggest bang for your buck is to buy volatility, with the ProShares VIX Short-Term Futures ETF (VIXY), an ETF that is linked to VIX futures contracts. This ETF jumped more than 33% in the S&P 500's 9% decline in May, so another 5% decline in stocks would signal sharp gains for VIXY.

The Big Picture

A lot of investors are scared of bear markets and corrections, but the truth is, a sell off represents an incredibly unique opportunity to make a lot of money in a very short amount of time. And with more advanced investments options available to investors than ever, there are many different ways to profit from bearish sentiment.

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