3 Ways to Play a Market Correction

There are plenty of reasons for people to assume the bull market is over, but these speculations ignored the soundness of the US economy and earning growth. Here are three pro-active strategies to benefit from the market correction.

This article was originally published by Zacks.com.

They say the bull market is over. We hear the reasons everywhere now...

"QE tapering will only continue to send stocks tumbling!"

"Earnings have peaked and GDP is about to stall!"

"Emerging Markets are in crisis and contagion is going to wash ashore!"

"Technical gurus warn the market will unravel 40% to S&P 1100!"

And to that I say: "I wouldn't bet on it!"

These are all just wild speculations that ignore the fundamental soundness of the US economy and earnings growth. And even if there are good arguments for one or two of them, there are much better ways to play this correction right now than just selling everything or using your cash to simply buy put options or bearish ETFs.

Let me show you three better pro-active strategies today...

1. Long-term investors

This is a great time to evaluate your portfolio and kick out the dead weight. It's actually critical now because the stocks that are under-performing probably have low-quality earnings momentum. And these names will only be punished more going forward.

Gladly there are still several hundred stocks that will outperform and make new highs in the next 3 to 6 months. Focus on accumulating shares of those earnings rock-stars while they are on sale.

2. Active swing traders

Bull market corrections are also a great time to play the volatility and the fear by scooping up index and sector ETFs when they get way oversold. I made over 30% last year doing this, and I am gearing up for a repeat with even more volatility expected.

I start by using the Zacks Industry Rank and relative strength measures to pick sectors I expect to outperform. Then, if I can get the timing "close enough," I buy leveraged ETFs on those indexes and strong sectors to multiply the swing trading gains by double—and even triple. This allows me to maximize my trading capital.

And it's still not as risky as trading futures or options. Think of it this way: the S&P 500 E-mini futures offers 5 times the leverage of the SPY ETF. I think 5 times leverage is too risky for swing trading.

That's why I love the dozens of 2 times and 3 times index and sector ETFs I can use every day—especially when most of them require much less cash than the $175 per share that it would cost for SPY.

Plus, I have an arsenal of ETFs I can use to play commodities, bonds, currencies, and even other countries. The ways that active swing traders can construct diversified and non-correlated portfolios with the universe of liquid and versatile ETFs are nearly unlimited.

3) Aggressive short-term traders

But what if the selling starts to get really serious by taking out the lows at S&P 1,740 and targeting a cluster of support levels near 1,700?

That's where both investors and traders can join me in capturing profits from the big fear-driven drops.

A full correction of at least 10% would take the S&P down toward 1,650. Fortunately, for my Market Timer trading group, I have a good idea of what will trigger another 100-point drop to 1,700, and even a 150-point drop to 1,650.

When I see those triggers, I am going to buy a handful of bearish ETFs that will help me capitalize on the volatility and the panic selling. And even a trip to 1,650 wouldn't change my mind about this correction just being a normal and healthy bull market event.

Besides, even before the market gets there, I will be constantly reevaluating conditions all the way down, according to a three-pronged approach I use that blends my weekly analysis of the fundamentals, the technicals, and the behavioral aspects of markets.

That last leg of the stool could be summed up as "Are fund managers still net buyers and why?"

Bottom line

I am still looking for a great buying opportunity this quarter where I will turn around in the panic and load up with my favorite bullish ETFs, looking for new highs this year.

Kevin Cook is a Senior Stock Strategist for Zacks.com.

The information supplied above by Zacks Investment Research Inc. contains opinions based on factual research which may or may not be accurate. Neither Zacks nor Intellisphere will assume any liability for losses from investment decisions based on this information.

The information contained in this article should not be construed as investment advice or as a solicitation to buy or sell any stock. Nothing published by Physician’s Money Digest should be considered personalized investment advice. Physician’s Money Digest, its writers and editors, and Intellisphere LLC and its employees are not responsible for errors and/or omissions.