An inside look at a bad stock play

August 3, 2011

The following is a guest post written by Marianne Paskowski, who was vice president of Reed Business Information’s Television Group. Today she manages her extended family’s portfolios from Cape Cod.The opinions expressed are her own.

So how do you make money in this horrible market? Being semi-retired, I just can’t sit on a pile of cash. But today is the ninth consecutive day that the markets are down. Last Friday was a stinker too, when we saw Gross Domestic Product was only up 1.3 percent. On Tuesday, we heard from the Commerce Department that consumer spending slipped 0.2 percent. Oh, and how can I forget, we have U.S. job data hitting this Friday.

All of those headlines spell code red for me: The country is not as healthy as many had earlier thought.

While my gold and silver trades are playing out well, and so are two Exchange Trade Funds that short the Russell 2000 and the S&P 500, I’m still waiting for that third quarter rally to happen. But today, it sure doesn’t look like the time is at hand. So I’m hoping my next big trade will be to find a way to gradually exit the shorts, when times improve.

My last trade certainly didn’t work out that way. As I tried a move designed to boost my portfolio, I found out the hard way that the market is volatile. So to learn from my mistakes, here’s what I did wrong:

Getting sick of risk-on, risk-off, I strayed out of cash, not that much, but just enough to screw myself up. I bought a financial instrument I didn’t understand, or do any homework on, until after I bought it.

It was an Exchange-Traded Note, namely iPath S&P Short Term Fund, or VXX. I thought it mirrored the Chicago Board Options Exchange, the CBOE index that measures the Volatility, or fear index (VIX). Given the volatility in the market, I thought “tada,” what a great way to put some of the cash at work.

Sometimes the VXX does mirror the VIX, but during the stinking two days I had it, I was pretty deep in the red.

I sold all of the VXX on Tuesday, across four accounts, even though it was up. After I finally read all of the fine print last evening, I got scared. Sure, I left some money on the table, but it would have been worse to stick with this thing.

This is one big mistake I learned the hard way. Gee, all of the red lights were screaming red, “Don’t buy, don’t buy.” If you look at the VXX’s Yahoo! finance page, it’s a sea of N/A’s, or information not available. And there’s nary a Web site around to check things out. Not good if you believe in doing homework, and I usually do scads of it.

The VXX message board on Yahoo! was more helpful, and some of the articles that I read, again, after the fact. That’s how I learned that the VXX actually has a clause that allows Barclays, the manager, to do a reverse 4-for-1 split if the index gets below $25. That is a very real probability given that the index is trading around $23.

And that, fellow retail traders, is not good at all. Such a split means that investors would have one-fourth of the shares they owned before the split, but at four times the price. In other words, it’s like taking 75 percent of your shares away and leaving you with less equity in what could be a sickly asset.

My brokers agreed this morning with that analysis. In retrospect, another red flag should have been when I bought the VXX last Friday, one broker warned that he was not allowed to solicit it. I argued, “I’m the one doing the soliciting, not you.”

How this dog of a trade ever got through their compliance desk still stymies me. And to think I actually thought I was one smart babe. Yeah, more like babe in the woods.

I learned the hard way via the VXX that my appetite for risk was not as high as I originally thought it was. Still licking my wounds, I’m not yet activating plan B: to buy ETF’s for international currencies, including, Australia, Switzerland and Canada. This go round, I’m taking the time to do more homework.


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