Posted May 29, 2023
By Zach Scheidt
“Investment Insurance” for a Debt Ceiling Crash
Happy Memorial Day! I hope you're enjoying the long holiday weekend.
U.S. stock markets are closed today. But we may be experiencing a calm before the storm heading into what could be a very dangerous week for investors.
As you know, the U.S. is facing a debt ceiling crisis.
And if our elected officials can't put their petty differences aside and reach a compromise, America could technically default on our country's obligations — as soon as this week!
If that were to happen, it would send ripple effects through our financial system.
Retirees may not receive social security payments, and many may sell their stock positions just to get cash to cover monthly expenses.
Companies could wind up with government contracts in limbo, leading to work stoppages and lost profits.
It's hard to imagine how much damage could be done to the stock market and your retirement investments.
So today, I want to show you a way to buy an “insurance policy” to help protect your retirement savings in case the U.S. defaults.
An Insurance Policy for Falling Markets
Here at Rich Retirement Letter, we typically talk about buying stocks to grow and protect your retirement wealth.
And I still think this is a good long-term strategy, even with the near-term uncertainty investors are facing this week.
But in addition to stock shares, many of our Rich Retirement Letter members are familiar with options contracts, which can give you more flexibility with your investments.
Specifically, put option contracts tend to rise in price when stocks fall. So if you buy a put contract, you can profit from weakness in the market.
Given the risk of a significant stock pullback thanks to the debt ceiling crisis, I think it makes a lot of sense to buy one specific put contract this week.
Buying this contract is a lot like buying an insurance contract. If you buy an auto insurance policy, you get paid when something decreases the value of your car.
Of course, you don't want there to be an accident, or a hailstorm, or a flood. But if an event like this does occur, it's nice to know that your potential loss is limited.
On the other hand, if all goes well and a bad event doesn't occur, you're only out the cost of your insurance policy. It's a good trade-off!
Today, I want to recommend one specific insurance policy for you to consider for protecting your retirement account.
Buy a QQQ Put Ahead of a Debt Crisis Crash
According to my research, the market could be vulnerable to a 20% pullback if politicians are unable to raise the debt limit.
Tech stocks in particular are the most vulnerable to a pullback, because many tech stocks have lofty valuations and are trading at unreasonably high prices.
The Invesco QQQ Trust (QQQ) is a good proxy for tech stocks. This ETF follows the Nasdaq 100 index, a tech-heavy group of the largest non-financial stocks in the Nasdaq composite.
Last week, the QQQ was trading near $340 following a strong earnings report from Nvidia. So a 20% decline would leave the QQQ trading near $272.
One option for protecting your retirement account would be to purchase the QQQ June 16, $330 put contracts, which are trading near $3.15 per share. (Your price may be a bit higher or lower when the market opens tomorrow).
Please note, each option contract represents 100 shares of stock. So one contract will cost you $315.
If the market drops by 20% and QQQ falls to $272, these contracts will be worth at least $58 per share. That's a gain of $54.85 per share (or $5,485 per contract, minus fees and commissions).
Do you see how this type of "insurance policy" could come in handy?
You might want to consider buying roughly four contracts for every $100,000 you have invested in the overall market.
That way if a 20% decline causes your investments to fall by $20,000, you'll more than make up for this decline with profits from your put contract.
And depending on your purchase price, this insurance policy only costs about 1.3% of the value of the investment account you're trying to protect.
Obviously, there are nuances to this strategy. And you should know that you could lose the entire amount you spend when you buy an insurance policy like this.
So never spend money on option contracts that you can't afford to lose.
But if you want to protect your investment account from a sharp market pullback, these options contracts could help you protect the retirement wealth you worked so hard to save.