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Hedging Against the Fiscal Cliff
Old 10-03-2012, 12:13 PM   #1
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Hedging Against the Fiscal Cliff

Last August, I made a prediction about a market slump that I thought was going to happen because of the squabble in Congress over the debt ceiling. I was severely taken to task because of the fervency of my prediction and the general belief that you can’t time the market. We did suffer some level of volatility in the market because of that showdown but most of the ill effects were postponed because of the deal Congress agreed on.

Flash ahead to today… I am now uncomfortable about the fiscal cliff that was created by that Congressional showdown. But the way the market is going, it’s just as likely to accelerate as it is to crash. At one point in 2009, I was down almost 45% and I’m not anxious to repeat that experience. Like many of you here, I had to claw my way back to break even, often taking on unreasonable levels of risk to do so. So what to do

I decided to try to hedge part of my portfolio using the VXX. Yesterday, I bought 200 January 2013 calls at a price of 20 cents each. I know it’s a gamble but hopefully it will help me sleep better if things go awry. The VIX is close to historic lows and $4,000 is a miniscule portion of my portfolio.
This is my first attempt at hedging my portfolio. Anyone out there have any experience in this sort of thing? Your thoughts would be welcome.

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Old 10-03-2012, 12:34 PM   #2
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There will be a lot of basis risk in your hedge. A far more simple and hopefully effective hedge would be to buy out of the money puts on ETfs that follow the same indices your investments are in or most closely resmble.

"There are three kinds of men. The one that learns by reading. The few who learn by observation. The rest have to pee on the electric fence for themselves."

- Will Rogers
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Old 10-03-2012, 12:46 PM   #3
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Yeah, I guess that does make more sense. Maybe I should have posted this message BEFORE I pulled the trigger.
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Old 10-03-2012, 12:52 PM   #4
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Have you read this: Hedging stock market volatility - CBS News

By LARRY SWEDROE / MONEYWATCH/ September 17, 2012, 1:33 PM
The bottom line is that using the VXX as a tool to provide portfolio insurance isn't a prudent investment strategy. If anything, the evidence suggests that it would be better to take part of your equity allocation and use it to short the VXX!
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