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Use Market Volatility to Your Advantage

NEW YORK (TheStreet) -- The Ides of March have brought additional volatility in the form of increasing price fluctuations in many of the major indices we track. Despite briefly hitting a new high in the SPDR S&P 500 ETF (SPY) this month, we have seen an increase in fear brought on by slowing growth data in China and political uncertainty in Ukraine.

This fear has put a bid under safe haven assets such as gold, Treasuries, and even VIX futures. The iPath S&P 500 VIX Short-Term Futures ETN (VXX) gained more than 7% last week as traders reduced their exposure to equities and hedged their bets with options. A rising VIX typically means that we are seeing a shift out of risk assets and into a more defensive posture.

Right now investors are likely looking at their portfolios to determine if they should be reducing exposure to stocks in anticipation of a pullback, or if this is just going to be another minor speed bump in the road. Both sides of the argument are valid considering how resilient the market has been over the last 18 months and how long we have gone without a true correction.

One indicator I track is the CBOE Put/Call ratio, which can be a contrary indicator of options activity. As of Thursday, the ratio stood at 104%, which means that put options significantly outweigh call positions. Oftentimes when this ratio reaches an extreme high or low we will see a reversal as sentiment gets stretched. The last time this ratio popped over 100% was back on Oct. 9, right before stocks made a significant move higher.

The market still has some hurdles to climb in the form of global unrest, slowing economic data and a host of other unforeseen events that could pop up on the horizon. Any one of these points could throw us for a loop and send stock prices lower. The only thing that is certain is the uncertainty persists. However, there are numerous things you can be doing in the meantime to prepare your portfolio for additional volatility and capturing new opportunities.

  1. Make sure that you examine each of your existing holdings and how they held up against some of the broader benchmarks over the last several weeks. You may want to reduce exposure to underperforming positions or those with highly appreciated gains that you want to protect. Having some cash on hand to redeploy at more advantageous prices or shifting to benefit from a stronger trend can often times lead to better relative performance.
  1. If you have been underexposed to this latest rally, start picking out entry points that you want to add to positions or start new ones. Review your watch list of both core and tactical holdings to ensure they are still performing up to your expectations. You can average into new positions over time to take advantage of any dips to lower your cost basis. For new clients I am still adding exposure to low-volatility exchange-traded funds and core fixed-income themes to bring them in line with our current models.
  1. Review your stop losses and sell points to ensure that you are properly aligned with your risk tolerance. I always advise that you should have an exit point on every position in your portfolio so that you don't let a bad trade turn into a bad investment. If we do head lower from here, it could happen in a very swift manner.

At the end of the day, you should try to stay balanced and flexible with your portfolio to shift in response to changing conditions. Everyone is going to have a different outlook on the market as a function of where they sit. However, you should be willing to consider both sides of the trade and adapt to shield your portfolio from volatility or pounce on new themes as they develop.

In this recent video, I have outlined some of the key areas we are monitoring in the market as a function of our investment process and portfolio holdings.

At the time of publication, the author held no positions in any of the stocks mentioned.

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

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