After stumbling into the new year, the stock market has finally found some equilibrium. The free fall that originally brought out the doomsday crowd stopped at the most pivotal technical point on the chart: a perfect double bottom that tested the lows from last summer’s Flash Crash crisis.
A double bottom is typically a buy signal, and considering the Dow Jones Industrial Average has been on a tear ever since it was formed, I think it’s safe to say it was again this time, too. The index strengthened and covered an amazing amount of ground in its rebound (breaking through some key levels I was watching), and the momentum has investors buying more aggressively.
As a result, I’ve been getting questions on Twitter regarding what to buy. “What about the indexes? ETFs look good. Should I stick to individual stocks? Is it a good idea to hedge?” There’s no simple answer, but let me share some thoughts on these questions today.
First, I am primarily a stock guy. ETFs are tempting investments, especially when you’re big on a certain sector – kind of like I am with cybersecurity – but there are also concerns. Let me use PureFunds ISE Cyber Security ETF (HACK) as an example.
The Potential Downside to ETFs
Yes, HACK fits into my cybersecurity theme, and it will likely do well in the future. However, the main concern here is that not only will this ETF include the best names in the sector, it will also contain the also-rans. I expect to be able to do better over the long run by concentrating on the best names and avoiding those that would typically pull a broad ETF down.
Here’s another thing to consider. Regarding HACK specifically, these names move on hacking news, which doesn’t always translate into an immediate impact on the fundamentals, so the sector can get ahead of itself. This can result in volatility for the ETF — as well as the individual stocks — so investors need to make sure it fits their temperament.
Now that said, ETFs can be good hedges at times.
Take GLD, for example. I’ve talked about gold before, and I’ve been on record for the last decade saying that it should not be overweighed in anyone’s total investment portfolio — definitely no more than 10%. Gold prices are negatively correlated with the U.S. dollar. As the dollar’s value increases, gold’s value decreases. That’s why it’s seen as an inflation hedge. I may even look to buy more this year.
In the end, the key is to be invested in great companies that other investors will ultimately want to be in, too. I like to stick with individual stocks, but other investors may prefer to put their bets in a full sector. It’s really a personal preference.
Whether it’s directly or through ETFs, the path to long-term wealth is owning great companies. Now is a good time to take advantage of opportunities in some of those great companies that are likely to move higher over the long term.
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