How To Profit From Stock Market Crash
While a crash is quite painful to be caught in, there indeed are some strategies to profit from a stock market crash. Presenting, in a simple easy-read manner, with my own real-life examples, four techniques to gain from stock market crash. You may already be familiar with some or all of these, but it might still be worth the read, just for the examples and the reasoning associated with each technique.
The last method mentioned here - Trading with a Little Professional Help - is pretty sure to make your brokerage account consistently greener, month after month, in bull or bear markets.
1. Short Individual Stocks
Like many, I too believed initially that the only direction that stocks could move was - up, skywards, to the space. The .com crash of early 2000's made me realize that stocks could also move towards the earth. Shorting individual stocks is a good way to profit from a downward movement. Here's an example of how I was able to achieve 33% profits by shorting a home-builder stock. By late 2006, word was getting around that the real-estate market had entered the bubble phase. Hence, I sold-short the stock of the home builder Toll Brothers (Ticker: TOL). This was in October 2006 at the price of $30. I was a bit concerned when the stock rose to $35 in early 2007, but I held steady as I firmly believed that the bubble would have to burst some day. And it did. By September of that year, TOL fell to $20 and I covered my short-sale for a profit of 33%. After this, TOL went down even further. Had I waited, I could've covered the short at an even lower price. But, it is important to be not greedy in the stock market, and a 33% profit in less than a year is pretty good anyway.
2. Short ETFs
If you are not comfortable selling individual stocks short, you could short ETFs (Exchange Traded Funds). ETFs generally represent a sector, hence a basket of stocks. Shorting an ETF maybe more advantageous than shorting individual stocks because a sector might experience a decline over time, even though a particular company in that sector might do well because of its good business practises. Thus, the stock of one company in a sector might go up, whereas the ETF representing that sector would go down if the whole sector is experiencing a slowdown.
By mid 2008, oil news articles were being splashed relentlessly on the front pages of business publications like the Wall Street Journal. I admire WSJ for their research and have been a member of WSJ Online for many years now. The membership is pretty inexpensive - the price of a cup of joe for one full week of subscription. When Crude Oil prices crossed $125 a barrel in May 2008, WSJ reported that it is being driven higher by speculation and that the prices have reached bubble levels. I took a hint and sold-short the Oil ETF United States Oil Fund (Ticker: USO). The price was $100. Oil prices climbed further to nearly $150 by July and USO climbed to around $120. I held onto my short position as I firmly believed that oil prices were cyclical and would come down eventually. Also, the economies around the world were slowing down, hence the demand for oil would also be coming down in due course. The Wall Street Journal was right, and I was handsomely rewarded when oil prices came crashing down in late summer. I covered the USO short position at $60 in October 2008. Many thanks to WSJ Online for their timely research which netted me a 40% profit in just 4 months.
You would've noticed that, to make good profits from shorting a stock or ETF, you would've to drum up the courage to act when the related sector is in a bubble phase. This is also sometimes referred to as Contrarian Trading.
3. Buy Short-ETFs or Ultra-Short-ETFs
Another way to profit from stock market crash is to buy Short-ETFs, a.k.a. Inverse-ETFs because their prices move opposite to the underlying sector or index that they track. Some examples are: Short S&P 500 ETF (Ticker: SH), Ultra-Short S&P500 ETF (Ticker: SDS), Ultra-Short Financials (Ticker: SKF) and Ultra-Short Real Estate (Ticker: SRS). In a stock market crash, the S&P 500 Index would drastically reduce in value, hence SDS which moves twices as much in the opposite direction, would see a tremendous increase in value. A word of caution regarding the Ultra-Short ETFs though: Yes, they can increase in value at twice the rate of the market crash, but when the market turns upwards, these ETFs would fall really hard too. Since it's tough to predict the market for long periods of time, you shouldn't hold onto such ETFs for long periods. You should buy and sell them in a matter of days. You can expect price appreciations of 10-30% in this short span, in the case of Ultra-Short ETFs.
4. Trading with a Little Professional Help
Even if you are a seasoned trader, you could still benefit a lot from just a little bit of professional help. You may already be familiar with Jim Cramer, the flashy host of the Mad Money Show on CNBC. Cramer has been a professional trader for most part of his life, and has made hundreds of millions of dollars for himself and his clients. Yet, many folks think that it's impossible to make money by following Cramer's stock picks, and some folks even think that the probability of success is high if you do the exact opposite of what Cramer says on TV. Described in the next section, is how to take Jim Cramer's help a bit differently, for consistent profits, irrespective of his long term performance, in bull or bear markets.