Does market's gain signal a pause?

Strong corporate earnings make it tough to bet against stocks, but nothing keeps going up in a straight line.

By InvestorPlace Oct 19, 2010 9:59AM

By Jamie Dlugosch

Exchange-traded funds have been successful for us as of late, but it appears that a pause may be around the corner.

One of the biggest mistakes investors can make is to project their own personal situation to the market or stocks in general.

If times are tough, the assumption is that times are tough everywhere and that stocks will likely falter. All sorts of emotions, including envy and jealousy, can come out of the woodwork when things aren’t going well personally. 

These emotions often prevent investors from thinking clearly about portfolio decisions.  Everyone, include me, struggles with these demons, and they are demons.

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How can it be that the market is now up nearly 5% year to date?  If you were inclined to believe that things were so terrible, chances are you missed out on a tremendous rally.

On the exchange-traded-funds (ETF) front we’ve had three straight weeks of making money. Last week the gain tracked the small gain of the market as the gold and metals markets took a short breather.

I’ve ridden the gold wave for the past three weeks. It has been a nice run that has helped this little ETF portfolio gain nearly 4% in that period.

This week, we’ll take a little breather from the metal pit. Keep in mind that I am still bullish on precious metals, but I am also aware that things do not go up in a straight line.

It is only natural to have a pause. Look at the tape in the metal market from Friday, and I think one can deduce that a pause is likely for the week ahead.

Related Article: Follow the Fund Flows Into Precious Metals

As for stocks, it is hard to bet against them at the moment. Corporate earnings have been fantastic, and that trend can be expected to continue.

Bank stocks got hit hard last week, providing an opportunity to perhaps go long in the space this week. The foreclosure debacle should be nothing more than a blip.

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All in all, it is setting up to be a week in which investors may be looking to take profits. Then again, they may be willing to bid stocks further.

I’d play the week right down the middle. Here’s how I would set up my portfolio for the coming week:

SPDR KBW Regional Banking (KRE) – Bank stocks sold off last week when Bank of America suspended foreclosure operations. The news had some speculated that banks could lose big dollars as a result. I view this as a complete over-reaction. In general I am very bullish on the regional banking sector. Use the selling to take a long position here this week.

SPDR S&P Semiconductor (XSD) – Apple moves above $300. Google beats estimates by a wide margin. The world is still dominated by technology. Driving technology is the semiconductor space. If stocks go up next week, look for chip stocks to lead the way. In a week whereby I wish to be market neutral I’ll get extra bang from this volatile sector.

SPDR Dow Jones Industrial Average (DIA) – On the flip side of the juice from semiconductors is the stodgy yet volatility damping Dow Jones Industrial Average. Not much to get excited about here. Investors know what they are getting by playing the 30 stocks of the Dow. Not too hot and not too cold.

ProShares Short Russell 2000 (RWM) – Offsetting the long positions this week will be a short of the small cap stocks. These stocks run well when the market is going up and run poorly when the market is going down. We can use this position as an offset to the semiconductor holding.

ProShares Short S&P 500 (SH) – On the opposite side of the Dow long ETF we can use a short of the S&P 500. The index has rallied smartly this fall. This position will protect against a correction next week.

I would take equal positions in the five suggested ETF’s using 100% of available capital. If you are keeping score our little $100,000 hypothetical portfolio is now valued at $103,603.

We’ll try to keep that moving in the right direction.  Check back for more ETF research and ETF information

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