After the Debt Deal, Here's What Market Pros Are Doing

Ultimately the debt ceiling debate may have done little else than give investors a respite from all the other things bedeviling the markets, worries that returned Monday with more bad news.

Getty Images

was in the works, and strategists began shuffling out notes encouraging clients to move to safety, even if they weren't endorsing the sell-off that occurred once the debt euphoria faded.

"The fundamentals are still the fundamentals of the market," said J.J. Kinahan, managing director at TD Ameritrade. "Debt deal or no debt deal, we have some fundamental problems in the economy that we're not dealing with."

Wall Street had been expecting a big rally once the warring sides in Washington reached a debtpact.

But a dismal report from the Institute for Supply Management showing the economy on the verge of contracting—coming just days after a 1.3 percent reading on growth in gross domestic product—served as a wake-up call that there are many market headwinds remaining, and volatility likely won't be going away anytime soon.

"You're going to continue to see some volatility. That's not to say that's a bad thing," said Kinahan, who advises using optionsto take advantage of market swings. "What it allows customers to do is use volatility to start selling puts below stock levels to buy stocks at better prices.

"People may have to be a bit more patient, or they may have to be really set on where they want to get in or out. For those customers who are truly traders, this is nirvana."

The notion of a rapidly changing market providing short-term opportunities was a popular one among market professionals Monday.

"We expect that U.S. equities still have room to run over the coming three to 18 months," Hans F. Olsen, head of investment strategy for the Americas at Barclays Wealth, said in a note to clients. "Rather than sell equities, we recommend purchasing near-term protection through out-of-the-money put options."

An out-of-the-money put optionis a contract to sell a stock, with the strike, or target, price below the current level where the stock is trading.

Investors also should consider using foreign stocks, particularly in Asia, as a diversification tool, Olsen wrote. He also recommends top-rated supranational bonds issued by entities such as the European Bank for Reconstruction and Development, the Asian Development Bank, and the European Investment Bank.

The bonds "are attractive for those who are concerned about a ratings downgrade and need to maintain a high credit rating in their portfolio," he said. "In some cases, these bonds afford yield enhancement and...currency diversification."

Mary Ann Bartels, technical research analyst at Bank of America Merrill Lynch, also was out with a note advising clients not to dump stocks, but to go defensive as economic uncertainty persists.

"S&P industrials did breakdown from a six-month distribution top so expect more downside, but transports are still holding up and as long as they remain above the June low the uptrend is intact," Bartels wrote in a note. "Dow Theory buy signal is intact as long as June lows hold. We would hide in mega caps, utilities, energy, technology, gold, and Aussie dollars."

Bartels noted that the market so far this year is a long way from performing at its normal robust levels in the third year of a presidential cycle, when the Standard & Poor's 500 normally gains 14 percent.

However, weaker stomachs have been prevailing, with U.S. equity funds reporting redemptions of $43.2 billion in assets during June and July, the highest level since the October and November periods of 2008, according to TrimTabs.

"While most Wall Street strategists are still encouraging investors to buy the dips, the best-informed market participants—the top insiders who run public companies—are not opening their wallets," TrimTabs wrote in its weekly market breakdown.

In fact, the firm said, insiders bought only $1.2 billion over the past two months, while they sold $17.3 billion.

That paints a picture of a market likely to be choppy even as the debt ceiling headwind likely  has been removed, and the market at least will know that the U.S. will be paying its bills on time.

But a potential downgrade from Standard & Poor's still lurks, as Congress tries to fashion a long-term debt and deficit-reduction plan going forward. Combine that with greater uncertainty over debt and creditworthiness in Europe and it makes for an even more unsettling time ahead.

"What the Treasury is doing is similar to a household with slowly growing wage income borrowing ever larger amounts of money each year on its credit cards," Trim Tabs analysts wrote. "While the household’s income may be growing at a brisk pace, borrowing is fueling the growth. As several European countries are finding out, borrowed money has to be paid back one way or another."