Post-Pandemic Gains Negated

Relentless Selling:

For many individual stocks, the post-pandemic gains have not only been negated but share prices are now lower than pre-pandemic highs. The accommodative monetary policies, Covid related stimulus, asset purchases and market liquidity are coming to an end. Now, raging inflation, impending interest rate hikes, Federal Reserve tapering, omicron ebb and flow, continued supply chain disruptions and geopolitical issues have culminated into the current market swoon. The latest market weakness has been persistent over the past few months while being exacerbated in the month of January and February to start off 2022. A third of the Nasdaq 100 stocks are off at least 30% from their highs, half of the S&P 500 has fallen 15% or more while the median biotech stock has sold off by 60%. Taking a look at a composite of high-flying growth stocks using the Ark Innovation ETF (ARKK) as a proxy, this cohort is down 60% as well.

The recent multi-month sell-off from November 2021 through mid-February was met with heavy and vicious selling. Valuations have been decimated overall, and cold water has been thrown on investor enthusiasm especially in the more speculative stocks in cloud-software, SPACs and recent IPOs. The tremendous volume of selling has inflicted damage across the board with whole swaths of the market auto-correlating into a downward spiral. Now many opportunities are presenting themselves as valuations have been greatly reduced. Being too bearish may prove ill-advised over the long-term as we’re witnessing the 2020 Covid-induced sell-off unfold all over once again. Portfolio balance is key in any environment and deploying the cash portion of one’s portfolio during periods of moderating valuations is exactly where this cash can be advantageous. Cash can be used opportunistically for snapping up heavily discounted stocks of high-quality companies during periods of indiscriminate and heavy selling.

Figure 1 – The current bear market has resulted in a third of the Nasdaq 100 stocks selling off at least 30% from their highs, with half of the S&P 500 falling 15% or more while the median biotech stock has sold off by 60%. Using the Ark Innovation ETF (ARKK) as a proxy for the high-flying growth stocks, this cohort is down 60%.

Deploying Capital:

The market sell-off has disproportionally impacted financial technology, software stocks, e-commerce apps, fading trends, sports-betting plays and stay-at-home plays. Some valuations have come down by 60-80%. PayPal (PYPL), Square (SQ), Robinhood (HOOD), Docusign (DOCU), Peloton (PTON), Beyond Meat (BYND), Zoom (ZM), Ark Innovation ETF (ARKK), Biotech ETF (XBI) and Twitter (TWTR) to name a handful of stocks in this bucket.

For any portfolio structure, especially an options-based portfolio having cash on-hand is essential. This cash position provides investors with flexibility and agility when faced with market corrections. Cash enables investors to be opportunistic and capitalize on stocks that have sold off and become de-risked. Initiating new positions or dollar cost averaging in these weak periods are great long-term drivers of portfolio appreciation. Many household names are off 20%-50% from their 52-week highs. Even the broad market indices such as Dow Jones (DIA), S&P 500 (SPY), Nasdaq (QQQ) and the Russell 2000 (IWM) are significantly off their 52-week highs. The Dow Jones, S&P 500, Nasdaq and Russell 2000 recently touched down 10%, 12.5%, 18% and 23%, respectively off their highs.

Buying opportunities have been presented and deploying some of the cash on-hand is prudent. During these correction/near correction periods in the market, putting cash to work in high-quality long equity is a great way to capitalize on the market weakness for long-term investors. Absent of any systemic risk, there’s a lot of appealing entry points for many large cap names. Don’t’ be too bearish and ignore this potential buying opportunity because it may not last for long.

Risk-Defined Options:

This multi-month period of sustained weakness has been accompanied by extreme volatility. As such, options trading has been very challenging as well. However, with the increase in overall volatility, implied volatility rank becomes advantageous for option traders as rich premiums can be collected. This type of environment reinforces why risk-defined options (i.e. put spreads, call spreads and iron condors) are critical if one chooses to leverage options as a component of an overall portfolio strategy. Risk-defined option trades allow one to leverage a minimal amount of capital while maximizing return on capital.