Last week proved how fast a market can move. It showed that, even if you suspect a correction is likely, when exactly it is going to happen will always be a surprise.
Last week’s article “How to hedge your bets” looked outdated by Friday when it ran in the Mail & Guardian, having been written the Monday before.
On June 5, I investigated options open to investors who were concerned that the market may be facing a major correction, in the region of 15%.
Global Trader’s head of trading Mark Wurr’s prediction that the market would fall by 15% came true far sooner than expected. The All-Share Index fell 13,2% in just four days.
By the time the article appeared the prediction was a reality. By the time readers read the article on Friday my short position on Satrix40 paid big time.
My logic was that I already had a fairly big exposure to the market through my share portfolio. However, the individual shares are solid and I did not want to sell them, incurring possible taxes and additional costs.
So I used a CFD (contracts for difference) to short the market. I effectively sold Satrix40 on the Monday and closed my position on Thursday afternoon, June 8.
By that time Satrix40 had fallen 13% from R19 to R16,50 giving me a 60% return in just four days, compared to my share portfolio, which fell 10%. If I had hedged 50% of the value of my share portfolio, I would have been up 20% overall.
In hindsight, of course, I should have bet the farm and made an absolute killing. But the first rule of investing is: How much can I afford to lose?
If the market had rallied last week, I could have been down over R1 000 before my stop-loss order kicked in. That was about all I was prepared to risk dabbling in derivatives for the first time.
Shorting the market has an increased risk because there is little chance of holding out until your luck changes, as over time markets tend to go up. If the market had rallied, it could have done so for a prolonged period. I would simply have had to close my position and realise my loss.
Although I now have a few extra rands to play with, I have decided to sit on the sideline this week due to the futures close out, which will have happened by the time this article appears on Friday.
Future close outs tend to be very volatile periods as managers close positions and often have to buy back shares to settle hedge positions. Nilan Morar, sales trader at Global Trader, says the majority of its clients are also taking the week off. Morar says once the future close out is over, you need to re-evaluate your portfolio and take a decision whether or not the market will rally or see another fallout.