Not A Green Arrow In Sight

We witnessed a mega-meltdown in stocks literally across the board yesterday. The Dow plummeted 416 points or 3.3% to end the session with its worst one-day performance since Sept. 17, 2001, the first day the market opened after the attacks of 9/11. There wasn’t a green arrow in sight virtually the entire day for the Dow, as all 30 stocks that comprise the index were buried in the red.

Things weren’t much better in the S&P 500, as all but three of the index’s 500 issues traded lower on the session. To understand the magnitude of yesterday’s selling, all you have to do is look at the volume. Out of a total of 2.3 billion shares traded on the NYSE, 2.15 billion traded on the downside. That, my friends, is the epitome of a wave of market selling and it’s what we’ve been warning Alert readers about for some time now.

Yesterday’s market freefall should serve as a stark reminder to all of us that risk is inherent in investing. The omnipresence of risk is something that we sometimes tend to ignore, but it seems like whenever we get too complacent about risk, the market imposes a little reality check on us to let us know who is in charge.

One thing we need to keep in mind here is that despite the big sell-off Tuesday, one day does not make a trend. However, I do think that the psychology of this market has been altered as a result of Tuesday’s action. Right now, the major market indices are still well above their 200-day moving averages and I think most intelligent investors will at least begin evaluating their exposure to risk.

Investors buying on margin and utilizing other types of leverage have been a key component of this uptrend. And, that extra risk inherent with leverage is a big reason why I’ve been so cautious during the past six months. Leverage is a great tool in a rising market, but it’s also a huge liability when things go south.

I heard a lot of chatter yesterday from pundits who blamed exchange-traded funds (ETFs) for extending the losses and causing the markets to be more volatile than in the past. This reasoning may be the case, but let’s remember that most ETFs are held by institutions. Hedge funds are big players in the ETF market. I believe that hedge funds are dominating the daily trading in markets worldwide. If all the hedge funds head for the exits at the same time, then we really will see what big selling is like. And, that situation could cause a complete collapse of equity prices.

I think the next five trading sessions will give us a real sense as to where this market may be headed for the rest of the year, so tuning in to what’s going on has never been more critical.

Want to learn how to avoid the ravages of days like we experienced Tuesday? My Successful Investing subscribers were able to sidestep the decline in the Dow, S&P 500 and NASDAQ by allocating to areas of the market that are less vulnerable to the widespread downturn. Plus, our sell discipline allowed us to protect our principal in the areas of exposure that did take a hit.

Now more than ever, risk management is the key to building and to protecting your hard-earned investment capital.

Want to find out more about how to manage risk in the equity markets with Successful Investing? Click here.