2 ETFs to Play the Debt Downgrade

08/08/2011 3:25 pm EST

Focus: ETFS

Chris Kacher

Managing Director and Chief Investment Strategist, MoKa Investors LLC Co-Founder of VirtueOfSelfishInvesting.com

Dr. Chris Kacher, co-founder of SelfishInvesting.com, says precious metals appear poised for further gains in light of a slowing global economy and the S&P downgrade of the US credit rating. He also names some short ETFs for investors who can handle the volatility.

Kate Stalter: Today we’re talking with Dr. Chris Kacher, also known as Dr. K. He’s the cofounder of SelfishInvesting.com, and Chris, it’s so great to have you here with us today.

Chris Kacher: Great to be here Kate.

Kate Stalter: I wanted to start by asking you about the big sell-off in the market following the S&P downgrade of the US credit rating.

Give us some context on this. How should individual investors be responding to this? A lot of people are obviously very nervous about the current situation. Give us your take on what is going on.

Chris Kacher: Well we’ve been advising members on our Web site, SelfishInvesting.com, for much of this year that we’ve been heavily bullish on the precious metals, silver and gold. We invest in those by way of the 1x and 2x ETFs.

Essentially, we’ve been advising members to expose themselves back into the precious metals over the last few weeks.

We’ve seen buy signals pop up. Today is August 8, it’s Monday, and gold and silver both gapped up while the general markets gapped down. Our view has been that if you have been pyramiding these positions, you could certainly use the price strength of these metals to further pyramid in if they hit your price points.

In other words people can say, “OK, when silver and gold ETFs rise by X%, like 10%, then I’m going to add to my positions.” So you’re letting the vehicles prove themselves strictly on a price basis.

This allows you to average up, this keeps your average cost down, and so essentially you’re investing in these vehicles from a position of strength, great psychological strength. And we all know that’s very important when you have money on the line.

Kate Stalter: What about handling other equity investments at this point in time? What’s your take on that?

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Chris Kacher: Well we’ve been in cash for much of the year when it comes to individual stocks. We have tried a few of these names, and on balance they have not worked out very well.

This has been a very choppy, trendless year, and I would have to say that this is one of the most challenging years on record. I’ve been doing this for 20 years. Certainly the most challenging in 20 years, because you can’t get a trend going in either direction, except in the case of precious metals.

We’re always looking for the trends. We’re always looking for where the money’s flowing. Even in a year like this year, you can always find a place to make money—and this year actually, despite the challenging nature of it, has been a very good year for us performance-wise.

We’re sticking to our guns in terms of what we believe will continue higher, and that would be the precious metals. That’s simply because we have so much quantitative easing on the horizon—not just in the United States, but also in Europe.

You’ve got the PIIGS [Portugal, Ireland, Italy, Greece and Spain] disaster, and you’ve got the European Central Bank going to be printing a lot more currency, and then you’ve got the Fed also giving an indication that QE3, that is quantitative easing No. 3, is on the way. They’re meeting Tuesday and very well could make a formal announcement, since the downgrade of US debt is potentially going to force their hand into that type of situation.

I think the precious metals are the place to be, because we have a race of currency devaluations going on all over the world..and as currencies fall, precious metals are going to go higher.

I’m a big student of the markets. I love studying market history. We put out a report earlier, before the market opened today, about the 1970s and how favorable that was to precious metals, and looking at the similarities between then and now. I think there is a very strong case for the continuation of this uptrend in precious metals.

Kate Stalter: I’m aware of your investment philosophy of looking at growth leaders and tracking them and putting them on a watch list. Anything in particular that individual investors should do right now if there are any other pockets of strength that might exist at this moment?

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Chris Kacher: Well, I think the pocket of strength really is cash, and that’s where we’re at right now.

It was late last week that we advised members that they might want to take profits off the table in silver and gold, since we saw popping action on Thursday. That would be Thursday, August 4. Sure enough, silver than proceeded to go a bit lower.

 It tends to be two to four times as volatile as gold, so we were very happy to have exited and we’re looking to get right back in, because we do believe the long-term uptrend in precious metals is going to take gold [higher].

I don’t like to make predictions, because ultimately no one knows what the markets are going to do between here and in the future. As Ed Seykota, a good friend of mine, likes to say, “The future doesn’t exist, just focus on the now.” But that said, I would make a formal prediction that calls for $70 silver and $2,000 gold, potentially by the end of this year.

Again, lots can happen between now and then, but given where things are headed—given the rhythm of everything—I wouldn’t be surprised to see those price points hit sooner than later.

As far as individual stocks, there is nothing out there. I don’t see anything. Everything has gotten taken down.

Actually, every single sector was down late last week. And there has been so much technical damage done to the market that my view has always been, when you have a very difficult market situation—and this would apply to the Asian contagion in 1997, the Long Term Capital disaster in 1998, 2000 to 2002 where the Nasdaq lost 78% of its value from peak to trough—I always view that as a great time to either stay in cash or go short.

Now there are so many inverse ETFs that can be bought, so that’s a huge gift, especially for my market direction model. The market direction model is something I created in 1991, that was actually inspired by Bill O’Neil’s book How to Make Money in Stocks, and it essentially is a statistical formulization of many, many market cycles.

In other words, it’s been back-tested many decades, and it’s been used in real time, under fire, since 1991 with great success. In this market correction that we’ve had, it once again proved itself by issuing a sell signal.

So if you were short in individual vehicles like the Daily Small Cap Bull 3x Shares (TNA), which is a 3x ETF that mirrors the Russell 2000, or Direxion Daily Technology Bull 3x Shares (TYH), which is also a 3x ETF. These are vehicles whose shorts, in just in a matter of a few days, were up something like 25% from the time the model issued the sell signal.

Or instead of shorting the TNA and TYH, you could have been buying the inverse equivalents, which are Direxion Daily Small Cap Bear 3x Shares (TZA) and Direxion Daily Technology Bear 3x Shares (TYP).

These are very volatile instruments. They work extremely well with the model.

If you were to use these instruments in 2009 and 2010 you would have achieved roughly triple-digit gains—we’re talking just around 100%. In 2009, TNA was up 157%. In 2010 it was up more than 86%.

But to get those returns you also have to be able to have the stomach for the volatility, because these things are whipping all over the place.

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