Betting on a More Volatile Market

Markets pulled back across the board last week, with the Dow Jones down 0.85%, the S&P 500 falling 0.68% and the NASDAQ tumbling 0.37%. The MCSI Emerging Markets Index also fell 2.23%.
Big gainers in your Bull Market Alert portfolio included Masimo Corporation (MASI), which added 1.85%, and Healthcare Services Group, Inc. (HCSG), which rose 1.61%. Healthcare Services Group, Inc. (HCSG) also moved back to a BUY.

Three stocks, Drew Industries Incorporated (DW), ABM Industries Incorporated (ABM) and Cirrus Logic, Inc. (CRUS), each hit a new 52-week high.

Both The TJX Companies, Inc. (TJX) and B&G Foods Inc. (BGS) fell below their 50-day moving averages and moved to a HOLD.

The U.S. stock market has performed better in the summer months than I had expected.

At the same time, last week showed that the market was fraying at the edges, with the S&P 500 pulling back and wiping out a full five weeks of gains in a single week.

Given the recent tight trading range in the market, the size of the pullback was not exactly a shock.

However, it does portend a possible change in market tone.

The “rifle-shot” approach to picking low-profile, small-cap stocks that I have been recommending during the past few months has delivered steady gains.

At the same time, during any market sell-off, investors tend to throw the baby out with the bathwater, and you can expect almost all stocks to decline.

This week’s Bull Market Alert recommendation is a pure trading play, a bet on an increase in market volatility as measured by the Volatility Index (VIX). Calculated by the Chicago Board Options Exchange (CBOE), the VIX is often referred to as the fear gauge and represents one measure of the market’s expectation for stock market volatility over the next 30-day period.

Here’s why I expect VIX to jump in the coming weeks.

First, as the chart below confirms, with the VIX closing Friday at 13.65, volatility is still at one of its lowest historical points over the past year. One of the cardinal rules of investing is that valuations, whether high or low, tend to revert to the mean. In my view, that makes any jump in the VIX almost inevitable.

Second, the market has been in its tightest trading ranges in its recent history. At times like this, markets tend to break either sharply up or down. In either case, you have a sharp increase in the volatility of the market. The VIX does tend to move hard and fast when it does change, leading to outsized gains if traders get their timing right.

Finally, the traditionally light summer season is almost over. Trading volumes in the market should pick up as traders return to their desks next week. Moreover, seasonally, September tends to be a lousy month.

So how best to profit from this expected jump in the VIX?

One, though imperfect way to play this, is through the iPath S&P 500 VIX Short-Term Futures ETN (VXX), which provides investors with exposure to the S&P 500 VIX Short-Term Futures Index Total Return. The Index reflects the implied volatility of the S&P 500 at various points along the volatility forward curve.

So buy iPath S&P 500 VIX Short-Term Futures ETN (VXX) at market today, and place your stop at $30.50.

A couple of caveats…

First, a bet on a jump in market volatility is purely a speculative position, and you should treat it as such in your trading.

Second, keep your eye out for any special alerts about this position, as I will be looking to take any gains on this position quite quickly.

Portfolio Update

iShares MSCI Emerging Markets (EEM) pulled back 2.23% over the past five trading days as Federal Reserve officials’ commentary spooked markets. International equities recorded $1.8 billion in outflows last week but fared better than U.S. funds leading up to the Fed meeting. Domestic funds made out far worse as outflows topped $4.5 billion. EEM is a BUY.

Healthcare Services Group, Inc. (HCSG) rose 1.61%. Zacks Research has an average broker rating of 1.5 on HCSG, meaning its collective take on the stock is a “Buy.” Zacks also holds an analyst target price average of $43.67. This represents a potential 10% rise from last Friday’s close. HCSG climbed above the 50-day moving average (MA) early last week to become a BUY.

Avista Corporation (AVA) fell 1.85%. Avista has an upcoming dividend payout of $0.3425. The dividend was declared back on Aug. 18, and the ex-dividend date is tomorrow. The record date for this dividend will be Sept. 1 with the payout occurring on Sept. 15. AVA is a HOLD.

ABM Industries Incorporated (ABM) gained 0.50% over the past week of trading and hit a new 52-week high. ABM will report earnings on Sept. 7 after markets close. The consensus estimate for the third-quarter fiscal year July 2016 earnings calls for earnings per share (EPS) of $0.38 on revenue of $1.31 billion. ABM is a BUY.

ProAssurance Corporation (PRA) moved 0.74% higher last week. Moodys recently updated its ratings on PRA. The credit rating agency reported that PRA has a strong track record and an excellent market position. The rating agency also cited multiple positives including “a conservative financial profile, a strong capital position, sound reserves and moderate financial leverage.” PRA is a BUY.

Masimo Corporation (MASI) added 1.85% during its first week in the portfolio. MASI recently received “CE Marking,” a mandatory conformity mark on many products sold in the European Economic Area (EEA), for its RAS-45 single-use adult/pediatric acoustic respiration sensor. Like many of Masimo’s products, which allow for external monitoring of internal body function, this device monitors breathing by just being placed on a patient’s neck. MASI is a BUY.