‘Should I Go Completely To Cash Right Now?’ Try My Cash Management Discipline Instead

I paraphrase the wise words of George Washington…

These are the times that try traders’ souls. The bull market day trader, and easy money margin player, in this downturn, shrink from making their portfolios work and go to all cash. But the trader and investor that stays in the market now, will create strong positions that will be the envy of the casual traders, and long-term investors that don’t adjust their portfolios.

This question was asked In our community, so I am assuming that many of you are considering this as well. I will therefore tackle this question seriously and in-depth. We will talk about strategies to manage your portfolio a little bit better. Frankly, who among us hasn’t entertained such a notion in the past or maybe right now. This is the hardest market we have seen since the “Great Recession”. Some data items square up with the “Great Depression” as far as down weeks in a row and the rest. This week’s analysis is not about optimism and the notion that we have hit bottom. Let’s leave that aside at the moment, We could have said that the week before last, and at the moment there are plenty of technicians out there that are predicting that we go lower. Even so, even if there’s a possibility that we do drop another several hundred points on the S&P heaven forfend, getting out today will be the coup of the century.

What happens next, when does one get back in? Human nature makes it quite difficult for someone to get out, then the impulse to get in but at the exact right moment. Likely not, there isn’t nearly ever a discernable exact right moment. That’s because no one rings the bell at that moment. At some point the stock market is forward-looking and likely we will at some point bounce hard and keep going. All the while the person that got out completely will hesitate to get back in because they expect the bounce to fail so they could get in then. Or they want to see proof positive that this hell is over. Trouble is, the stock market will sniff out that the punishment is over way before any single human can detect that. It is possible that that coup of dropping all your stocks before the downturn will come to naught, the cash that you saved will be exceeded by stocks going forward.

The key is to be in it to win it, stay with the market, play a little defense, and play the downside as well as the upside. That might be more time-consuming than the average person, also there is a risk to playing to the downside too. Even hedging takes attention to keep the costs low. So what to do? While going completely to cash is not advisable, using cash as a tool to help smooth out the ups and downs could be the first step to managing the volatility going forward. If we drop to 3200 on the S&P, will working with cash as a separate asset class stops all the losses? No, but it could help smooth out the smaller ups and downs. Then you can layer on some hedging and maybe shorting stocks in specific areas could help a ton.

So what does this Cash Management Discipline mean?

Let’s list some Bullets to keep it simple;

1. Cash is an asset class it has a value to an active trader consider it your ammunition storage. Cash is not normally part of a trader’s portfolio, most are in the habit of being “All In”

2. Cash is the cheapest hedge, the more cash you have uninvested the less loss in a downturn.

3. Try to get into the rhythm of the market. Simply to trim positions when the market has one of its big rallies that we’ve lately and trim off 3% to 5% of every position

4. When the market inevitably has one of its selloffs add it back into the stocks

5. The reason I call this type of cash management a discipline is a habit of wanting to sell the whole position to get that alpha is deeply ingrained. Also getting into a position all at once is ingrained as well. Trim and invest in stages, no one buys at the exact bottom or sells at the top.

6. I’m trying to encourage my loyal readers to concentrate on the building of cash when we are up, then redistributing cash when we are down, it makes trimming shares that much easier if you concentrate on cash as a separate asset, and generating it as a goal in itself

7. Why am I saying to add back shares when the market is down, why not withdraw shares and keep all the cash? Well, that is tantamount to giving up which is the same problem as withdrawing all at once, How do you get back in?

8. There is one more piece to this and that is “trading around positions” when you trim as the market rallies and sell the highest priced shares of that position. When you add back presumably you are getting those shares at a significantly lower price. This lowers your overall cost basis.

9. This is very important; When I talk about cash, I don’t mean that you add additional cash into your trading account. Never add cash, the trading account is supposed to generate cash for you. If you add cash that usually means that you are losing money in trading. Maybe change your tactics, or just stop fast money trading.

Will a Cash Management Discipline approach completely deflect another 500-point drop? No, it’s more effective for the current ups and downs that the market normally has. I believe it’s a more effective way of capturing alpha without the usual angst that is involved with taking losses and making profits. The other part of this that I urge you once again, is to move into a position in small bites, not all at once. Also, you can gradually set aside some cash and not redeploy all of the cash you collect and wait for a more settled market. This will also allow you to set aside a safety net if the market does drop precipitously. A lot of things have gone wrong that have exacerbated the current malaise. At this point, it would have been logical to assume China would have ended these inexplicable shutdowns. The pileups at the docks when this was never an issue before, were unforeseen. The big one was Putin’s war in Ukraine. Aside from the human tragedy and destruction, the loss of wheat exports from Ukraine is throwing the whole agricultural trade order into disorder and helping launch food inflation. There are other factors like the price of diesel, and fertilizers. I can go on and on, the assumption is that in order to tame the beast is to crash the economy. Therefore, the talk of the S&P 500 falling to 3200. My natural inclination is to be an optimist, but I don’t want to dwell on the counterargument. I want to talk about tactics and Ideas to operate in an environment that can go down.

So what can one do with the threat of a drastic drop in the S&P? The next step is hedging which means mostly for you to be able to use options. Options are supposed to be very risky. How does it become a tool for helping to deflect a huge drop in the index? Well, think of it as insurance, Insurance is the cheapest when you don’t yet need it. On the other hand, if you want coverage for the next 6 months that becomes very expensive as well. It’s best to throw on a hedge when you are concerned about what might be coming. Or you can add additional legs to the hedge, so to guard against a drop you buy a Put, at the same time you can sell a put at a lower strike price perhaps down to that 3200 level, so what would that mean? When you buy a Put you purchase the right but not the obligation to “Put” that stock to someone else. As the market dives further and further your Put becomes more valuable. You can just sell it to collect the alpha. That is how the Put hedges against a downturn. The problem is that a Put that goes out for months is expensive. One way to reduce the price is to “spread” a Put, by selling a Put at a much lower level. Perhaps you would jump at the chance to get the S&P at the 3200 level, not only do you get a premium by selling that Put, but if the S&P 500 hits that 3200 you get it at a discount, and the amount you got paid by selling that Put. Also, if you were so prescient as to know when the S&P 500 does take a dive you are also getting a hefty amount of alpha from buying the Put at the current level perhaps. Still, this can be expensive if you have this hedge month after month. So I would reserve them for times when it is very likely that there will be a sell-off. How about this coming July when Powell has another opportunity to raise rates. Also, we know that September and October are the worst months for the stock market. You can hedge for that as well. Options are a very powerful tool, and like anything very powerful they can not only protect you, but they can also hurt you if you aren’t careful. So please if this notion of hedging intrigues you please EDUCATE yourself. I left out a lot of details, first, it would take many pages to talk about all the different things you can do with Put options, there are also Call options. So here is what you must do, every brokerage has education on how to construct and execute options. Please study before you venture into actually putting money into this. My partner Serop Elmayan is our community’s options expert, and he will probably laugh at how little detail I shared here. I just can’t give you an exact formula for hedging, I didn’t even give you the symbol for the S&P 500 ETF to buy a Put against in the first place. I am introducing the concept to encourage you to educate yourself and not feel like a sitting duck when everyone is talking doom.

The other thing you can do is reorient yourself to pick stocks that you expect to fall. You don’t have to short a full 100 shares of stock to have a meaningful effect. This is especially true if you have several stocks that you think will falter and short them. The thinking is different and hard to reorient yourself to think this way. You have been looking for winners perhaps for years. Also, you can short a great stock that you think will fall as well is hard to do psychologically. The other very important thing is you can’t sit with a short that is going against you since theoretically, a stock can go up infinitely. It takes work to master shorting. So this leads me to talk about my trades, by which a number of them were shorts.

My Trades

I think I mentioned Digital World (DWAC) the SPAC that Truth Social is supposed to merge with. I have been shorting DWAC on and off since it was 55, it’s now around 30. I have opened and closed this position a lot of times because this type of stock could run to 100 on some rumor in a minute. So honestly, I didn’t benefit from the full 25 points, but I got some. I am looking to short it again if it reaches back to 35, I will start to get in slowly. It fell hard when the SEC came out with another issue that they are investigating the SPAC again.

I shorted Rivian (RIVN). I think a lot of the new EV companies are going to have trouble scaling their manufacturing. For one, as the chips that go into cars get more plentiful do you think Ford (F), General Motors (GM), or Tesla (TSLA) are going to allow the little guys to get those chips? No way! They and all the incumbent car manufacturers will claim that they need to overorder in case something else happens to their supply. They can claim that because it will be partly true, the other reason is to surreptitiously smother these “ankle biters”. Put aside the chips, how about the batteries? Each car manufacturer is building its own battery manufacturing complexes. Do you think they will sell batteries to Lucid Group (LCID), Canoo (GOEV), or Fisker (FSR)? Nope, the little guys will have to get it on the open market at a much higher price if they can actually get them in enough quantity. Yes, perhaps in a year or two maybe batteries and chips will be more plentiful. Except they need those components now! They are going to have to sell more shares to pay to survive until they can scale up to be profitable. Anyway, RIVN is my current short, I may go after FSR next.

I shorted BITO (BITO), an ETF that represents crypto for obvious reasons. I will go after other surrogates for crypto, though I think some will be Put options.

I am holding Devon Energy (DVN) and UCO (UCO) options that I am currently getting hurt on as Oil has retreated. I am very comfortable with the notion that oil stocks will bounce back and perhaps hit 130 by July.

I had sold all my Oil related names in my trading account (except for the above). I felt that the stocks ran up too far and needed to consolidate. I didn’t expect that they would fall this hard. So I will start buying the refiners and frackers that I had before.

I cut out a lot of stock positions and you should too

I made a concerted effort to compress my trading account with what I feel are the highest quality stocks, naturally, I gravitated to tech. I realize there are other high-quality stocks out there. I want to be in the big cap stocks So the main group is Amazon (AMZN), Alphabet (GOOGL), and Microsoft (MSFT). The next group has a new addition: Salesforce (CRM), Meta (META), Adobe (ADBE), and Intuit (INTU). I have small amounts in a smattering of names, like Snowflake (SNOW), SentinelOne (S), and Upstart (UPST), among others.

Just know that the bulk of my trading account is in the 3 titans – AMZN, GOOGL, and MSFT. In times like these, you really should concentrate your portfolio and only be on stocks that you have the utmost confidence in. Even if we do drop 3200, I believe these names will hold their value and bounce back the quickest. There are other quality names for sure like JPMorgan (JPM), or Berkshire Hathaway (BRK.B) are high-quality names. It’s important to have conviction in your investment thesis and the value of the stock. A year from now I bet the stocks we have today will be much higher. At this point, I talk about trading but really, I have drastically lowered the number of new names that I take on right now and I am mostly trading around positions. It is true that I said I will move into the Oil names, but they are the only trading vehicle I am working on. I may decide to just select the best two oil names and a refiner and sit with this position for a few months.

I want to leave you with one warning. I was surprised that a number of members of the Dual Mind Research group were using margin. I thought anyone who has read my weekly articles would know what I think of margin. So let me state this once again.

Get out of margin, please. Margin is like a drug, it feels great when your portfolio is high, but the comedown is very damaging. That 4-to-1 leverage you loved quickly works against you when the markets are so volatile to the downside. You will inevitably get a margin call. Usually, margin calls come in right at the bottom of the near-term price action. If you get sold out, right when the position is going to pop becomes extremely demoralizing. Also financially damaging. Many people get caught up trying margin when the marketing is going up (just like any drug the first couple of times) and it was great, you make a ton of alpha. Now after all this downside volatility chances are you are in the minus column and still with margin because you want to win it all back. Do you know what that sounds like? Yeah, a gambler with an addiction problem. So kick the margin habit right now. You will make it back the old-fashioned way… by making good trading decisions, know when to hold ‘em, know when to fold ‘em. Just to keep the mixed metaphor going.

Good luck everyone, Happy Father’s Day, and a Meaningful Juneteenth.