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If investors needed a reminder that global stock market rallies have been goosed by the Fed’s lose monetary measures, they got it.
On Wednesday, U.S. equities went on roller-coaster ride.
The Dow Jones Industrial Average, up 155 points before FOMC Chairman Ben Bernanke said the Fed could soon begin to tap the brakes, ended the day down 80.41, or off by 0.5%,.
The uncertainty of when the Fed would begin to wind down its $85 billion-a-month in asset purchases sent investors to the sidelines in a hurry.
“This is a very sensitive market and particularity sensitive to any notion that tapering will come too soon,” Quincy Krosby, market strategist at Prudential Financial in New York told Reuters.
“No one wants to be selling if the data reaches the point when the Fed begins to specifically talk about tapering. The market doesn’t wait for the Fed to move. It will move before. That’s how it operates,” Krosby continued.
Of course, we knew QE couldn’t really last forever. So what should investors do?..
Here are three ways protect your portfolio as the Fed prepares to wind down almost six years of quantitative easing.
- Bank on a Rising U.S. Dollar
Not surprisingly, the U.S. dollar rallied following the Fed’s minutes.
Since the start of 2013, the dollar is the top performing G10 currency, rising in both risk-off and risk-on situations. The ICE Dollar index (FX: USDX) is up some 6% year-to-date, an upward trajectory that is expected to continue.
“Currencies have been held hostage by QE over the last few years,” Societe General said in its recent Multi Asset Portfolio report. “Our FX strategist expects the U.S. dollar to rise against all the major currencies by the end of the year, including the euro.”
Currency trading is fast and volatile, with money made and lost in seconds. At the same time, currencies can exhibit major trends lasting days, weeks or years.
PowerShares DB 3X Long US Dollar Index Futures ETN due Oct. 31, 2020 (NYSE: UUPT) allows investors bet on rising greenbacks via a less volatile trading vehicle. The exchange traded product has a market cap of $4.42 million; daily volume is roughly 207,000; and its 52-week range is $19.29-$23.70.
A wager on a falling euro is another way to take advantage of a rising dollar. ProShares UltraShort Euro ETF (NYSE: EUO) is one option.
- Buy U.S. Cyclical Stocks
When the Fed does take the first step to reduce QE, it will occur when the central bank sees significant and sustainable improvement in the overall economy and job market.
That’s good news for cyclical stocks like auto manufacturers, airlines, steel, paper, heavy machinery and hospitality companies. When the economy is growing, cyclical stocks often surpass expectations.
And it pays to jump in early. Many in the sector start to show signs of improvement months before an economic upswing. Data from S&P IQ Capital shows the best time to buy this sector is just before interest rates rise, a period when cyclicals tend to outperform growth stocks.
Some cyclical funds include S&P Industrial Select Sector SPDR (NYSE: XLI), PowerShares Dyn Leisure & Ent (NYSE: PEJ), Market Vector Steel ETF (NYSE: SLX), iPath Dow Jones UBS Copper Total Return Sub Index ETN (NYSE: JJC) and First Trust Exchange Traded Fund II (NYSE: CARZ) an auto ETF.
- Go Long Eurozone Equities
History shows U.S. economic recoveries have a positive effect overseas. The case for tapering QE is an improving American economy, hence ripple effects abroad are expected.
“Euro zone equities are more cyclical by composition and full of international companies which should benefit from positive news from the U.S.,” SocGen analysts said.
Investors get broad based exposure with iShares MSCI EMU Index (NYSE: EZU), which measures the performance of countries in the Eurozone. Country specific ETFs include: iShares MSCI Germany Index Fund (NYSE: EWG); iShares MSCI France Fund (NYSE: EWQ), and iShares MSCI Sweden Index Fund (NYSE: EWD).
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