Chris Rowe

A New Way to Profit From the Falling Market

by Chris Rowe   03/03/09

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Don't be afraid to take bearish positions here. The market is probably going at least 15% to 20% lower.

Although I typically like to use in-the-money put options to play the downside, options are going to be expensive as people become more fearful (due to increased volatility) and are willing to pay more for them.

So, it makes sense to start looking to the short exchange-traded funds (ETFs), the double-short or UltraShort ETFs, and, if you really want to dance with the devil, the newer triple-short ETFs.

If you're just day trading the downside, and don't really have bullish positions on the table, then you might be rolling the dice with these triple-short ETFs, as they are incredibly volatile. You could make a fortune or just get your butt handed to you with a ribbon on it saying "Nice doin business with ya."

However, if you're portfolio has too much bullish exposure -- meaning you're getting hammered right now -- then I wouldn't even call the triple-short ETF trade a dance with the devil. Instead, it just might be your savior in an otherwise bloody market.

What Are Triple-Short ETFs?

Triple-short ETFs are bearish investments that are leveraged to profit three times (300%) the inverse of the index they mirror.

Here are a few to consider:

• Large Cap Bear 3X Shares (BGZ) -- mirrors the Russell 1000 Index
• Small Cap Bear 3X Shares (TZA) -- mirrors the Russell 2000 Index
• Energy Bear 3X Shares (ERY) -- mirrors the Russell 1000 Energy Index
• Financial Bear 3X Shares (FAZ) -- mirrors Russell 1000 Financial Services Index

I'll use FAZ as my example. It seeks to replicate, net of expenses, 300% of the inverse daily performance of the Russell 1000 Financial Services Index. So, if the Russell 1000 Financial Services Index declines by 10%, FAZ should increase by about 30% ... and vice versa.

How to Hedge With Short ETFs

Let me stop here for a second. I would feel incredibly irresponsible if I didn't reiterate my warning about dancing with the devil.

Most investors conceptually "get" leverage. You don't need me to explain that a 3X ETF is three times as risky. But once you actually feel the sting a couple of times -- and if you trade anything like this, odds are that time will come at some point -- you will take on a whole new respect for my warning.

This is not a game. You can lose money -- big time. So, I want to show you how to hedge effectively.