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Dear Fellow Trader:
I hate to say it, but it feels like the writing is on the wall. After a fairy tale nine-week rally, it could be coming to an end. FOMO is fading. And the Federal Reserve’s latest minutes now lead us to a jobs report and economic data that may show further erosion in the economy.
If you’re a long-term shareholder, now is not the time to start dumping stocks. You don’t want to start the year on the sidelines right away. Instead, you can consider using a variety of hedging strategies. One of the best for investors in stocks are covered calls.
Let’s dive in.
Covered Calls as a Hedge?
Covered calls can act as a hedging strategy to help stock owners manage risk in their portfolio. In this strategy, the stock owner sells call options on stocks they already own. This allows them to earn premium income from the options they sell.
When a stock owner writes a covered call, they grant someone else the right to buy their stock at a specific price (the strike price) within a certain time frame. If the stock’s price stays below the strike price, the call will likely expire worthless, and the stock owner keeps the premium as income.
This premium provides a cushion against a decline in the stock price. Essentially, it lowers the effective cost basis of the stock, offering some protection against a downturn.
When we start to see a technical top form in the market — and buying pressure slows — it’s a good opportunity to take this approach. More advanced traders may consider selling the call and then using the proceeds to purchase protective puts against the threat of a broader financial downturn.
Is a Crash Coming?
One of the biggest questions that I receive when I’m traveling or talking to people on the street is when I think the market will crash.
That’s quite a scary proposition, isn’t it? I expect that the market will look a lot like it did in 2022 and 2023, where we have a lot of wild, seasonal swings that take us down 8% at least two times this year.
However, given the sheer amount of capital that central banks are pumping into the system — and the incredible amount of borrowing down by the U.S. Treasury — I expect this market will finish the year up… not down.
That’s saying a lot. What investors and traders need to do is focus their attention on how to address negative momentum — you can read our six rules here — and understand the importance of identifying oversold conditions.
In the last two years, we’ve had the markets reach drastically oversold conditions in four periods: January 2022, June 2022, October 2022 and October 2023. And in all four cases, hedge funds were VERY net short — predicting a complete wipeout.
The problem is that hedge funds aren’t in control when there is so much algorithmic trading. Getting into these oversold territories has unleashed buying sprees that have fueled sharp reversals and lots of short covering. The result is the type of rally we just witnessed to end the year.
So — for me — an outright crash seems very improbable this year.
As liquidity rises across the globe — with central banks providing more support than ever to their systems — we will look out to 2026 before we have to start really ringing the alarm bells. By then, we might be $40 trillion in debt here, and too much money will be servicing the past.
For now, use the market to your advantage, and take the time to learn about what we need to do as traders if we start to see a sideways market in the weeks ahead. Hedging now — while volatility is still low — is a great plan.
*This is for informational and educational purposes only. There is an inherent risk in trading, so trade at your own risk.
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The performances displayed here are historical examples based on scanner signals for the time period shown. The profits and performance shown are not based on any sort of typicality as there are no published alerts associated. We make no future earnings claims, and you may lose money.