Fear of higher interest rates struck with a vengeance on September 9, as the nearly 400-point decline in the Dow Jones Industrial Average demonstrated. Stocks fell hard and with purpose in response to comments from Boston Fed governor Erik Rosengren, who said he supported higher interest rates, albeit at a “gradual” pace.  The response was swift and fairly dramatic as Mr. Rosengren’s comments echoed those of others at the Fed, including the usually dovish Chair, Janet Yellen, who started the drumbeat at the Fed’s Jackson Hole, Wyoming confab a couple of weeks ago.  And at first glance, as I noted in this week’s Technical Nuggets column the damage to the market may continue in the short term. 

I noted my concern about the state of the stock market in late August, and again last week when I stated:  “As we head into the home stretch for the U.S. presidential election, and the often unpredictable months of September and October, it’s important to closely monitor our portfolios.   The global economy continues to show signs of sluggishness and the financial markets are becoming increasingly unpredictable due to potential central bank actions, such as the Federal Reserve possibly raising interest rates, while other global banks consider further easing their own rates perhaps in the not too distant future.” 

And although I am not surprised at the action in the market, I am glad that I recommended the purchase of the ProShares Ultrashort Biotech ETF (BIS) as a hedge along with buying put options on Anthem Health (ANTM) (I am updating both trades as shown below).  That said, there is no guarantee, and no evidence at this point, that we are in a new bear market or that we should go to an extreme portfolio posture such as 100% cash or 100% short.  Both of those types of postures are plausible but not recommended at this point.  It’s important to remember that this market has a history of bouncing back from similar episodes in the past.  So, while caution and vigilance are definitely warranted, there is no reason to make any sudden moves, at least not yet. 

Finally, one of our most interesting portfolio components suffered from a bout of insider selling that is of concern but may not be as significant as a casual glance analysis indicates. I detail the situation below.

Taking Inventory

During a tough market, the first step is to review any potential damage to our portfolios.  On the positive side, the BIS trade worked, with the ETF rising as the Nasdaq Biotech Index (NBI) fell on Friday.  Shares of Medidata Solutions (MDSO), Seres Therapeutics (MCRB), Opko Health (OPK), Meridian Biosciences (VIVO) and Rollins Inc. (ROL) also held their own.  The rest of our portfolio fell fairly hard as did the majority of the stocks in the market.  Over the next few days, events will dictate any major changes. 

Generally speaking, the best action to take during situations such as what we saw last Friday is to hold on to your money, monitor your portfolio and see what develops.  The odds that this will be a short term move or the start of a bear market are unknown.  So, at this point I am recommending no buying or selling of shares other than for personal emergency financial reasons.  Mostly it’s most important not to panic and to concentrate on these key factors:

Total portfolio value: This depends on the stocks in the portfolio and any hedges that may have been present.  A well hedged portfolio holds its total value better than one with no hedges or poorly constructed ones.  Our current portfolio is hedged, which should be helpful in decreasing losses, as long as the hedge behaves as expected.

Time frame:  This factor is important because a portfolio geared toward a short term trading strategy is not managed in the same way as one that has a longer term time horizon.  In this portfolio we take the longer term viewpoint. And although we use hedging techniques and sell stops to protect the current value of our stake, we are also willing to wait for the market to reveal its true nature before making potentially regrettable decisions such as selling a stock that is on the verge of a dramatic comeback because the selling had nothing to do with the company.

Company fundamentals:  I look for companies that are either at the top of their sector or are in a reliable stage of a turnaround effort.  In most cases, these companies are able to rebound from market related selloffs as the market effect tends to wear off and the individual company’s situation peels the stock away from the pack.  It can take some time for this type of action to develop, and each stock is different.

Risk tolerance:  Every investor is different. And while some are willing to be more patient, others are not.  At the end of the day, each person knows himself best. 

McKesson CEO Sells Large Stake before Market Selloff

Shares of McKesson (NYSE: MCK), the world’s leading medical supply wholesaler, took a steep drop on September 9. And although part of the selling was likely related to the market’s own decline, the news that company CEO John Hammergren sold $18.5 million worth of stock on September 6 was not helpful and is clearly a potentially troubling sign. 

I say “potentially” because Mr. Hammergren has been a serial seller of his own company’s stock, with 29 sales of shares since January 5, 2011.  A review of these transactions reveals his activity has not really been predictive of the company’s stock price, although it would be nice to see him buy some shares at some point in the future.  During the period ranging from January 1, 2011 to June 30, 2015, the stock rose from $68 to $233. The stock topped out at that time, and Mr. Hammergren, who seems to be an excellent market timer made no more sales until October 2015 when he started selling shares again.

At this point, I am willing to be patient on McKesson and view this most recent drop in the shares as a potential buying opportunity.  I don’t know of any event that changes the overall fundamental story. The company is still well positioned for the ongoing changes in the healthcare market as it has shifted its product mix, and its sales efforts away from hospitals to physician offices and pharmacies.  This should help the company maintain better revenues and cash flows as Medicare cost cuts work their way through the increasingly fragile U.S. healthcare system.

…And Keep Your Shorts On

I recommended the purchase of the ProShares Ultrashort Biotech ETF (NYSE Arca: BIS) in my 8/25/16 BTP Alert up to a limit of $36 when the stock was trading at $33.44.  BIS closed at $34.28 on September 9th and has the potential to move steadily higher if the market continues its current decline and the biotech sector goes along with it, which is the most likely scenario. I am increasingly concerned about the overall prognosis for the health care sector from a structural standpoint, and because of potentially negative election season rhetoric, especially from Mrs. Clinton, who has on two occasions now hinted at price control measures for medications.  BIS is a double-short leveraged ETF that rises or falls at twice the rate of movement in the Nasdaq Biotech Index (NBI).

I continue to recommend ProShares Ultrashort ETF up to $36 with a trailing 8% Sell Stop beneath it ($31 based on 9/9/16 closing price).