What to Do Now if You’re Late to the Stock Rally

If investing were a mixed martial arts cage match, the undisputed heavyweight champion of the world would surely be Tina Fomo.

Though she always goes with the flow and makes everyone feel special for following her, Tina—for “there is no alternative” to stocks—has a gift for violence that is rarely remarked upon. She destroys anyone who gets in her way. The smarter they are, the harder they fall.

Faith-based investors, conversely, who concluded that there was no alternative to stocks in 2023—and who acted on the fear of missing out, or FOMO, on future stock rallies—are ending the year with sharply higher portfolios. Simply put, 2023 marked a year when it paid not to think too much or too deeply.

As most everyone knows, chief among the stock market’s risks this year were that higher interest rates would spark an economic recession, that wars in Europe and the Middle East could trigger World War III, and that the narrow leadership of top technology stocks was making the stock market seem healthier than it actually was. More recently, a terrorist threat to key Middle East maritime oil-supply routes has been deemed a nonevent by Tina Fomo’s followers.

Despite those risks, the S&P 500 index is up some 25% this year. The Cboe Volatility Index, or VIX, has fallen some 42%, and historic lows in the so-called fear index could be realized. The benchmarks superficially indicate that investors aren’t concerned the stock market will decline, a conclusion reinforced by Wall Street’s market strategists, who are increasingly issuing bullish outlooks for 2024.

When all of these ponderous facts are added up, many investors who have been ensconced in the relative safety of bonds that yield 5% or so are increasingly wondering if they too should heed Tina Fomo’s call. After all, gains are facts and risks aren’t until they are, which brings us back to an insight Mike Tyson shared when he was crushing boxers in the ring: Everyone has a plan until they get punched in the mouth.

Maybe stocks really can rise to higher highs. Maybe the greatest risk is missing out. Or maybe Tina Fomo will take a dive. Volatility and time will answer those questions, and that makes options an intriguing alternative.

Stocks are trading around record-high prices, but options volatility, which is the essence of options premiums, remains low. Investors should thus consider buying options—rather than stocks—to position for future gains without major risks. Put another way, investors can buy high-price stocks for low prices in the options market. We have said this before, and do so again, as more investors share their worries with us that they have been too cautious.

Consider KKR & Co. We have long championed the global money manager as a way for investors to invest beside some of the smartest investors in private-equity markets. The stock is now trading around record highs, and it could trade higher if interest rates really do decrease and the economy doesn’t fall into a recession.

With the stock at $84.69, KKR’s February $90 call option could be bought for about $2. (Calls give the holder the right to buy a security at a set price within a set period.) If the stock is at $100 at expiration, the call is worth about $10. If the stock price is below the strike price at expiration, the money spent on the call will be lost, unless steps are taken to adjust the position to salvage some value.

The KKR strategy illustrates how investors who are worried about missing out on future stock rallies can use options to control stocks for less money than is needed to buy the actual equity. There is nothing exotic to the approach, other than a willingness to think about investing in a nonlinear fashion.

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Originally Posted December 20, 2023 – What to Do Now if You’re Late to the Stock Rally