Having a Stop Loss Plan Protects ETF Investors

By Tom Lydon | October 23, 2008 | 5:10 PM | 0 Comments

This market has been painful to watch, for plenty of reasons. Last year, so many areas were flying high and investors were riding a wave of unprecedented returns.

 For example, the iShares FTSE/Xinhua China 25 (AMEX: FXI) ended 2007 up 54.8%. iShares MSCI Brazil (AMEX: EWZ) closed last year up a whopping 72.5%. These emerging markets impressed so many with their rocket-like growth that still left room for more.

Enter 2008, and it's a very different picture.  Some of the losses in these markets have been so swift and so stunning, that some investors don't know what to do. This is why we have a trend-following plan that kicks in. It protects us from the volatile markets and preserves any returns we may have gained.

When a fund drops below its 200-day moving average or 8% off the recent high, we sell. Investors who instituted this plan and did so when funds like FXI and EWZ began to show signs of trouble are breathing a sigh of relief now. 

But other investors may not have gotten out in time and are finding themselves in a familiar pickle: I can't sell now. What does one do then?

 We recommend the following:

Sell 1/3 of your equity holdings and focus on the most aggressive positions—those that might be down 20-30% and trading 10-15% below their 200-day moving averages.

If those holdings decline by another 5-7%, consider selling another third.

Keep an eye on the 200-day average of these positions. As the trend lines continue to decline, there will be an excellent buying opportunity in the future when the markets eventually rebound.

If you're a buy-and-hold investor, you're not bound to that idea. These are interesting times we're living in, and sometimes that calls for a reevaluation of a strategy. If it would help you to sleep better at night, consider selling one-third of your portfolio now and get back in when the markets come back.