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How should investors protect against volatility?

Some industry observers believe the crisis of 2008 was predictable. While many people were affected in some way, some mitigated their downside exposure more than others. In the aftermath of the last recession, the financial markets have essentially been financially engineered with quantitative easing and stock buybacks.

Of course, all of this makes sense, since the compensation package of senior executives is based on the performance of the company's stock. Unfortunately for shareholders, a capital expenditure is an outlay of cash used to acquire or upgrade a business asset, and that metric declined every quarter in 2015.

Men dressed as Donald Trump and Boris Johnson prepare to take part in a tomato fight at the Glastonbury Festival 2016 in England.
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Men dressed as Donald Trump and Boris Johnson prepare to take part in a tomato fight at the Glastonbury Festival 2016 in England.

At the same time, the Federal Reserve was discussing an increase to interest rates. They keep hinting at it, but now the Fed has a big reason to wait: Brexit.

Of course, a rate hike would increase the value of the dollar and cause deflation, since, for example, consumers would need fewer dollars to buy the same loaf of bread. All of this sounds great, although companies that cannot increase their prices don't need as many workers, a sign the economy is slowing.

In fact, the gross domestic product growth is now .05 percent, down from 1.4 percent in the fourth quarter. It is still growing, but it is decelerating, going from great to good, which is bad. It's not just your imagination; the Fed has been considering a rate hike. But given all the recent renewed uncertainty in markets, especially with Britain's June 24 vote to exit the European Union, financial strategists say a rise is looking less likely.

"Investors should also consider alternative assets that include long/short positions, a strategy where the portfolio manager buys securities he or she thinks will go up and bets against investments likely to go down."

With the prospect of buybacks and profit growth declining, investors must consider how to protect their downside. One option is a position in asset classes that do well in a slow-growth environment, such as utilities that have the ability to raise prices and pay attractive dividends. Another consideration is the long Treasury bond. Even if the Fed does raise rates, that will impact short-term rates, not long term Treasurys that reflect growth assumptions.

Investors should also consider alternative assets that include long/short positions, a strategy where the portfolio manager buys securities he or she thinks will go up and bets against investments likely to go down. There also hedged futures that use derivatives to play both sides of the market and hedge volatility.

When companies spend a large portion of their money paying dividends and buying their own shares back to manufacture earnings, at some point it shows up in profits, which on a rate of change basis have declined for three consecutive quarters. A funny thing has happened on the way to the victory parade: Corporate insiders have been dumping shares at the highest pace in four-and-a-half years.

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It must be difficult to find conviction in a game of digital musical chairs, particularly if you believe somebody keeps adding places for everyone to sit and nobody knows when that person will leave the room. We may be at the end of a business cycle, and that would not bode well for stocks.

Perhaps now is the time to speak with a financial professional and discuss your goals, risk tolerance and potential strategies to mitigate any volatility with your investments.

—By Ivory Johnson, founder of Delancey Wealth Management