These strategies can help hedge portfolios against losses or generate income

Published Tue, Apr 2 20243:29 PM EDTUpdated Tue, Apr 2 20243:55 PM EDT

Stocks' 2024 rally experienced a sharp setback on Tuesday as the major averages took a tumble, but there are strategies that offer investors some portfolio protection and income to soften the blow. At their session lows Tuesday, the major averages all dropped more than 1%. Meanwhile, energy and utilities were the only groups that rose inside the S & P 500. Even so, stocks have had a strong start to the year, with the S & P 500 climbing 10.2% in the first quarter. That's where options come into the picture, a complement to an otherwise diversified portfolio, according to Ashton Lawrence, a certified financial planner and senior wealth advisor at Mariner Wealth Advisors in Greenville, South Carolina. "While equities may be performing well, it's prudent to explore additional strategies to help mitigate equity risk and safeguard against potential downturns," he said. Some of the portfolio tactics he likes include trailing stop losses and cash secured puts. Trailing stop losses Investors who rode tech's ascent — consider that Nvidia is up more than 80% in 2024 — may be reluctant to part with those positions. However, trailing stop losses may permit them to hold on to those stocks and still protect against sharp declines. Trailing stop losses allow investors to put in a trade order to sell part of a position if it declines by a specified percentage — rather than a set dollar price — from its peak. The floor at which the sell order is triggered moves up as the underlying asset appreciates in value. Finding that floor can be tricky: You wouldn't want to have your sell order triggered on a run-of-the-mill, rocky trading day. "If it has a lot of volatility and you still think it will go up, you might want to give it some wiggle room using technical indicators," said Lawrence. He looks at a given stock's Fibonacci retracement levels to help determine where its price is likely to find support and resistance. What investors like about this strategy is that it allows them to continue participating in the stock's upside potential while it can help them resist the temptation to sell at the wrong time. "Retail investors get married to a particular stock, and they want it to continue running," Lawrence said. "You're putting a barrier in place should the stock start to retreat." Cash-secured puts For investors who want to invest some idle cash but are uncertain about when they want to buy into the market, a cash-secured put offers the prospect of income generation. Put options give investors the right to sell a stock at a specified — or "strike" — price before an expiration date. With a cash-secured put, you write the put option and then keep enough cash to purchase the stock in case the put gets exercised. "You're collecting income from writing the option contracts," Lawrence said. "In the worst case, if the underlying asset falls, you can use the cash you had on hand to buy the stock or the index at a lower price." The risk here is that the stock falls and then rises sharply above the strike price. In that case, you could miss out on the upside. However, you can also pair this strategy with a covered call, which may boost your income and offset losses. Covered calls A call option gives an investor the right to buy a stock at a given strike price before an expiration date. A covered call involves selling an investor a call option when the underlying security is a stock you already own. "Covered call options can be employed to generate income on existing stock holdings while potentially limiting upside potential," Lawrence said. On the one hand, you benefit from the premiums generated by selling the call options, but you must be ready to part with the stock — and miss out on additional returns if it takes off. Investors who are new to options strategies ought to consider working with a financial advisor who can teach them more about how these tactics may fit within their portfolio in order to meet their goals, Lawrence said.