Jittery-Market Defense

If you're worried that Feb. 27 will happen again, here's what to do.
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Ouch. Feb. 27, 400 points.

Ouch again, March 13, 240 more. Plenty of jitters in between.

Once so steady, the markets and the economy now seem to be more of a question than an answer.

Is this just a random blip or minicorrection as many analysts say? Or is it the start of something bigger? Are my investments safe?

Here's my approach to playing stock market defense when things get shaky.

Nobody can be sure what's going to happen. But like me, you probably believe your investments are fundamentally intact. They aren't tied to the subprime lending industry or junk bonds or China Internet stocks. You can ride out a correction.

But you can't get spring 2000 out of your mind. Then, most were thinking the same "just a pullback, a much-needed correction" thing. And it didn't turn out that way.

So this time, you want to play defense.

You want to protect your gains from the four-year market run. It isn't 2000, and we're not in a bubble. You still believe.

Click here for the video version of this story from Jennifer Openshaw.

So how do you walk that fine line between prudence and patience? I have a few ideas:

  • Bring your investments home. It always happens -- the riskiest investments in the riskiest markets feel the first pain. Advisers have been pushing us into foreign stocks, but by nature they are riskier. They're businesses you know less about in places you know less about, and much of the weak dollar play is over with.I still believe the best way to play foreign expansion is to buy U.S. companies that do a lot of business in foreign markets. The weak dollar makes products more attractive. Caterpillar (CAT) - Get Report, Procter & Gamble (PG) - Get Report, Hewlett-Packard (HPQ) - Get Report and Coke (KO) - Get Report all fit.Here's the point: You get safety and visibility while still capturing growth in places such as China, India and Brazil.
  • Sell a fraction across all holdings. Now, I know that selling stocks is harder than buying. It's like a marriage -- when things get rough, you hold on and hope they get better.So here's a strategy that pays if things improve and reduces the pain if they don't. Simply sell a fixed percentage -- say, 20% -- across all of your holdings. No exceptions. If you own 200 shares of Cisco, 400 Microsoft and 300 Exxon Mobil, simply sell 40, 80 and 60 shares of each, respectively.You'll take some chips off the table in favor of safe cash, while keeping most of your chips in the game in case things recover.
  • Sell, then buy calls. If you're a little more worried, you can cash out completely. But then what about keeping a stake if the market gets its feet again? You can buy some call options -- the right to buy shares at a future date at a future price. These calls will rise if the stock rises. If it doesn't, your loss exposure is limited to the option price paid. The result is that you're protected against a larger downturn.Here's an example: Suppose you own 200 shares of General Electric (GE) - Get Report at $34. You doubt it will happen, but you're afraid it could tank into the mid-$20s. So, instead of risking a $9 loss, you sell your shares at $34 and buy a June 45 call at $1.45. What have you gained? Well, now the most you can lose is $1.45, not $9. And if the stock resumes upward, you'll capture part of that gain. If it goes nowhere and the option expires, you can buy the stock again.
  • Reset targets. Disciplined investors set price targets. When a target is realized, sell. A bird in hand is worth -- well, you know the rest.The recent market jitters suggest pulling in your targets: If the stock you bought five years ago for $20 is at $45, maybe it's time to reduce the target from $60 to $50 or $48. Or maybe you're at the target now.Really, you should double-check all your investments. My fundamental sell rules are: (1) Sell if the downside risk exceeds the upside potential, and (2) sell if there's something else better to buy. And remember, safer might be better. Pretty basic, right? Yet, it's not followed often enough.

Individual investors are used to hard choices, and the choice between panic, prudence and patience could hardly be more challenging than now. These techniques won't make your choices for you. But they will make them easier.

Jennifer Openshaw, a passionate advocate for helping Americans improve their finances and build their personal fortunes, is CEO of

The Millionaire Zone and America Online's personal finance editor. In addition to appearing regularly on TV shows such as "Oprah" and "Good Morning America" and on CNN, Openshaw is host of ABC Radio's "Winning Advice" and serves as an adviser to some of America's top corporations. Her new book,

"The Millionaire Zone," will hit bookstores in April 2007.