Sell, Sell, Sell

09/15/2008 12:00 am EST

Focus: ETFS

Tobin Smith

Founder and Chief Research Analyst, Transformity Research LLC

Tobin Smith and Joshua Levine of ChangeWave Research say the economy is deteriorating, and it's time to go short.

The data from the latest ChangeWave Alliance corporate quarterly spending survey shows that as bad as the economic slowdown has been this year, it's going to worsen at an accelerating pace—at least until the presidential election on November 4th.

The US credit crunch has taken an ominous turn for the worse during the past 90 days, and there are no signs that the situation has begun to stabilize.

This is putting the squeeze on corporate growth and expansion plans, and it's going to put a further squeeze on third-quarter earnings at many firms and on the guidance they issue for the fourth quarter.

Consequently, we think the probability is high that the major indexes will break through major support levels, so the recent market sell-off is just the beginning of a sharp down leg.

Three new recommendations—all short exchange traded funds (ETFs)—will enable us to take advantage of the broad weakening economic conditions, as well as the poor outlook for two particular sectors.

Each of these ETFs is leveraged to profit two times the inverse of the index that they mirror. The value of these ETFs soars when the underlying stocks go down. (That also makes them appropriate only for risk-tolerant investors who can afford to lose the money they're investing—Editor.)

The Russell 2000 index consists of 2,000 of the smallest stocks included in the Russell 3000 index. The average market cap is roughly $1 billion and the largest company is $3.6 billion.

While the Russell 2000 has held up considerably better than the Nasdaq Composite index recently, it's evident from the Alliance data that virtually no sector will be spared in the third quarter. Buy UltraShort Russell2000 ProShares (Amex: TWM) under $74. (It traded under $70 Friday—Editor.)

UltraShort Financials ProShares (Amex: SKF) corresponds to twice (200%) the inverse (opposite) of the daily performance of the Dow Jones US Financials Index, which measures the performance of the financial services sector, [so it goes up when the financials go down, and vice-versa-Editor].

Given the increasing difficulties of companies of all sizes to borrow money in this environment, we expect that the banks and other financial firms will be under tremendous pressure and that it will continue to take its toll on their performance. Buy under $125. (It traded at $115 Friday—Editor.)

UltraShort Semiconductors ProShares (Amex: SSG) tracks the daily performance of the Dow Jones US Semiconductors index. Yes, the semis have already taken a big hit in recent weeks, but we have tracked this sector for years with our Alliance surveys and the most recent results are truly gruesome, indicating much more downside to come for these stocks.

On that basis, we're looking for the semiconductor group to break through its multiyear base and for much more ugliness. Buy under $82. (It traded above $85 Friday—Editor.)

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