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How to Add Alpha Using Tactical ETFs

Stocks in this article: STT XLP FXG IBB TAN DBC UUP FXE

NEW YORK ( FMD Capital Management) -- Constructing a well-balanced portfolio takes time, tools and discipline in order to implement a plan that will meet your goals. My preferred investment vehicle to construct a diversified portfolio is the exchange-traded fund. I love ETFs because they are low cost, transparent, liquid and easy to trade. They allow you the ability to set automatic stop losses as a function of managing risk and have greater flexibility than a traditional mutual fund.

As I wrote several months ago, the first step in this process is selecting core holdings that will be the foundation from which you can ultimately expand. These core positions will give you broad-based exposure and directional bias in the market to keep pace with rising stock prices. However, a core position will take you only so far. Ultimately, getting exposure to specific sectors or tactical trading ideas will shape your portfolio to your specific investment preference.

Tactical positions represent a sector, industry group or special situation that you want to take advantage of. These positions often start out as short-term trades then turn into long-term investment themes. They give you a measure of overweight exposure to a certain area of the market that you feel is offering excellent potential for capital appreciation.

I typically recommend allocating anywhere between 20% and 30% of your portfolio toward tactical ETF opportunities and keeping a measure of cash on hand for new themes that may present themselves. That way you can actively shift your holdings to take advantage of new trends or capitalize on an innovative strategy when the timing is right. In addition, I always recommend pairing new trades with a sell discipline to guard against the potential of a reversal.

Now let's take a look at some of the different types of tactical ETF opportunities:


One of the easiest ways to add instant tactical exposure to your portfolio is to select a sector fund. By owning an ETF that invests only in technology or health care stocks you can get pinpoint exposure to a group of companies that are in a similar economic segment. I recently profiled how Fidelity launched 10 sector ETFs which are the cheapest in the industry when compared to larger and more well-established competitors.

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