Stock Market Panic and How to Profit

There’s nothing more terrifying than hearing my 2-year-old daughter scream as soon as I leave her alone in a room.

My body reacts instantly, creating a rush of adrenaline that sets off a mild panic. Has she fallen off the couch onto our tile floors? Or is she just upset I left her alone?

That uncertainty keeps my adrenaline pumping. I calm down once I realize she was crying just because her favorite show ended.

Her cries sound the same whether there is real physical pain or just some frustration or disappointment.

The stock market operates in a similar fashion. When uncertainty rises, adrenaline pumps through investors, causing them to sell stocks and/or purchase protection, just because they don’t understand what is going on and want to protect the profits they’ve enjoyed so far.

Fortunately, that panic mode entered in late June is now starting to fade, giving us an opportunity to make some quick profits.

Since the start of the year, the S&P 500 has gone practically nowhere — it’s up a mere 3.2%. By comparison, both the French CAC 40 and the German DAX indexes have soared more than 20% since the start of the year, even after all the turmoil stirred up over Greece.

The U.S. stock market has stumbled through a series of scenarios with unclear outcomes, including dismal U.S. economic data, a Greek debacle and a volatile Chinese stock market. Investors responded with caution throughout, increasing cash holdings and adding bearish short positions, as they should.

But our investment director was recently in Greece, taking the pulse of the economy and sentiment in the euro zone — his guidance was spot on. Greece has come to terms with the European Central Bank (ECB) and begun to make payments again, dodging default. As a result, the various stock markets across Europe have started to rebound as fearful investors pile back into stocks.

We’re seeing a similar opportunity on Wall Street. Let me explain.

Skittish Investors Create Opportunity in the Stock Market

Over the past few weeks, American investors have been increasingly cautious.

According to the latest Fund Manager Survey for Bank of America Merrill Lynch, the percentage held in cash (5.5%) is at the highest level since the financial crisis. In addition, the American Association of Individual Investors (AAII) shows that there are fewer bulls now than at any time since 2009.

Through late June and early July, investors were purchasing more downside protection compared to bullish bets since the wild October market ride last year, according to the CBOE five-day average put/call ratio.

Each of these data points initially seem bearish. Traders were moving to the sidelines in expectations of a major European meltdown as Greece struggled under its debt. But the meltdown never happened. Sure, Greece has a long way to go to getting back on its feet, but the worst of the dark clouds have started to clear. And that leaves a lot of money sitting on the sidelines waiting to jump back into the market to take advantage of the signs of continued growth within the euro zone.

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