Taking a Cautious Outlook

05/30/2003 12:00 am EST

Focus:

As we saw in our last issue, featuring highlights and opinions from The Las Vegas Money Show, there is no dearth of bullish advisors.  And indeed, a bullish stance has been the right position since last October. But not everyone is convinced that it is smooth sailing ahead. Rather, some advisors see choppy waters and warn investors not to throw caution to the wind.

"Confidence is still peaking," says Steven Hochberg and Pete Kendall, editors of The Elliott Wave Financial Forecast. "Several sentiment indexes have registered readings that are close to their most bullish levels since the start of the bear market. The latest reading from Investors Intelligence – which ranks bull vs. bears – shows the lowest level of bears in 11 years. We are topping in a second wave rally and May should see the resumption of the bear market in stocks. The unfolding Elliott Wave patterns suggest that the market’s next move should be a vicious decline that brings the bear market back into full focus."

"The fact that the markets have been rallying strongly doesn't mean that the fundamentals have improved significantly," says Elliott Gue, editor of Wall Street Winners . "With regard to market valuations, the case has been made repeatedly that equities remain at the high end of fair value, at the very least. Extremely optimistic money managers continue to forecast that the economy will be stronger a year from now. However, we doubt that capital spending will experience anything more than a temporary bounce. We'll remain cautious and stick with bonds and other income-oriented investments."

"So how should you allocate your investment assets in this environment?" asks Bernie Schaeffer. Here are his guidelines, which come from the latest issue of The Option Advisor :

  1. Maintain a healthy cash reserve of up to 50%. Both the optimists and the pessimists are smug and comfortable in their respective forecasts, when in fact now more than ever no one knows what lies ahead for the markets and for the economy. While I tend to side with the pessimists because they have logic on their side and because the optimists tend to be Wall Street or mutual fund types with a vested interest in the bullish case, I fully recognize the tremendous uncertainties.

  2. Invest 20-30% in mid-cap and small-cap technology and Internet names. I've been pounding the table about my strong preference for Nasdaq/tech over the so-called ‘safe’ blue-chip names, and I'm still pounding. Nothing is ‘safe’ in the current environment, and today's ‘safe’ is often tomorrow's disaster.

  3. Invest 15-25% in stocks that generate significant current income. Among my favorites is the Merrill Lynch Utilities HLDRs Trust (UTH NYSE), with a 4.4% dividend yield. And a basket consisting of General Motors (GM NYSE 5.9% yield) and Ford (F NYSE 4.1% yield) is also compelling. Risky? Yes, and that's why you're limiting your capital commitment.

  4. Invest 5-15% in gold stocks. Gold is a hedge against the entire spectrum of economic nightmares, and the Bizarro world is replete with potential nightmares.

  5. If you are a sophisticated investor, who thoroughly understands the risks, consider buying some put options on the largest-cap blue-chip names. Make sure you buy enough time (at least out to January 2004). And you may want to consider selling lower-delta puts from closer expiration months against your long puts as a way to pay for the time decay.

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