Over the past three weeks, stocks on the S&P 500 Index are down about 3% from their Feb. 18 highs. The pullback comes after nearly six months of almost uninterrupted gains, which some contend make the market über-vulnerable (i.e., long overdue) for a pullback.
So far, the pullback has really been very mild save for Thursday’s 200-plus point drop in the Dow. Now market pros, pundits, traders and average investors are watching and waiting to see which direction stocks are headed next.
I would like to be the first to admit that I am confused about which way stocks are likely to go from here. There are great arguments in favor of a continued bull market, and there are some distinct signs present that we’re now beginning a corrective phase that could send stocks down another 4% to 6% from here.
If we do see a decided turn south in equities, and particularly if that move is prompted by a continuation of high oil prices and lackluster economic growth, then it may just be time to start playing defense.
Now when I say “playing defense,” I am not talking about liquidating your holdings and moving them into a secure underground bunker. Rather, I am talking about moving money into defensive stocks.
Defensive stocks are those companies and industries whose performance and sales are not highly correlated with the general economic cycle. In other words, these are companies — and presumably stocks — that will deliver steady returns in either boom or bust times.
Sectors such as consumer staples, utilities, health care, preferred stocks and precious metals are all considered classic defensive plays. What these sectors have in common is that they aren’t likely to crater when the market or the economy turns south. Conversely, they usually don’t deliver superhuman returns the way, for example, tech stocks do during bull markets.
A good way to trade defensive stocks is to use exchange-traded funds (ETFs) pegged to specific defensive sectors. Funds like the Consumer Staples Select Sector SPDR (NYSE: XLP), Utilities Select Sector SPDR (NYSE: XLU), Health Care Select Sector SPDR (NYSE: XLV), iShares S&P U.S. Preferred Stock Index (NYSE: PFF) and the PowerShares DB Precious Metals (NYSE: DBP) all represent easy, low-cost ways to get your trading dollars exposed to defensive plays.
If you’re looking to trade a continuation of the recent downward bias in stocks, then these defensive stock ETFs just might be the way to go.
If you prefer to trade stocks in rough market conditions, check out my recent article on 5 Defensive Stocks to Buy Now.
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