When to Use Bearish ETFs in Your Stock Portfolio - dummies

When to Use Bearish ETFs in Your Stock Portfolio

By Paul Mladjenovic

Most ETFs are bullish in nature because they invest in a portfolio of stocks that they expect to go up in due course. But some ETFs have a bearish focus. Bearish ETFs (also called short ETFs) maintain a portfolio of securities and strategies that are designed to go the opposite way of the underlying or targeted securities. This type of ETF goes up when the underlying securities go down.

Bearish ETFs employ securities such as put options (and similar derivatives) and/or employ strategies such as “going short.”

Take the S&P 500, for example. If you were bullish on that index, you might choose an ETF such as SPY. However, if you were bearish on that index and wanted to seek gains by betting that it would go down, you could choose an ETF such as SH.

You can take two approaches on bearish ETFs:

  • Hoping for a downfall: If you’re speculating on a pending market crash, a bearish ETF is a good consideration. In this approach, you’re actually seeking to make a profit based on your expectations. Those folks who aggressively went into bearish ETFs during early or mid 2008 made some spectacular profits during the tumultuous downfall during late 2008 and early 2009.

  • Hedging against a downfall: A more conservative approach is to use bearish ETFs to a more moderate extent, primarily as a form of hedging, whereby the bearish ETF acts like a form of insurance in the unwelcome event of a significant market pullback or crash. You’re not really hoping for a crash; you’re just trying to protect yourself with a modest form of diversification.

    In this context, diversification means that you have a mix of both bullish positions and, to a smaller extent, bearish positions.