A Closer Look At Bear Market Funds

Building a portfolio of stocks is especially difficult in a sluggish economy, with a weak U.S. dollar and volatile market swings. Choosing the best stocks for your portfolio should be coupled with the adoption of a downside protection strategy. Thinks of it like insurance for your car. Sure, you can drive a car without insurance, but the coverage a policy provides lessens the sting of an accident.

Whether you choose to move part of your portfolio into cash or hold investments that sell stocks short, the following should help investors see the market from the eyes of money management professionals who are experts at doing both. (For further reading on how your portfolio should evolve as markets turn south, check out our article Adapt To A Bear Market.)

Short Selling Against the Masses
Going against the traditional thinking of simply buying and holding stocks can put most fund managers in a minority among their peers. David Tice, the fund manager of the Prudent Bear Fund (BEARX) has embraced this contrary stance and offers investors a chance to capture positive returns when the U.S. market is falling. (To learn more, read Short Sales For Market Downturns.)

Prudent Bear Fund Mechanics
BEARX uses a combination of short selling, puts and long stock positions to protect investors from downside losses. Since the beginning of the year, the fund is up nearly 6% while the S&P 500 is down nearly 14%. As of the end of June BEARX's largest short selling stock positions were in industrial materials, financial and consumer services. Investment management firm Federated Investors (NYSE:FII) has embraced the idea enough to offer David Tice & Associates up to $142 million to purchase the BEARX fund along with its Prudent Global Income Fund (PSAFX).

Bottom Fishing Financials
Investors keen on the financial sector are eager to know where the bottom will be for large financial banking stocks. Large banks including Citigroup (NYSE:C), Bank of America (NYSE:BAC) and Wachovia (NYSE:WB) saw their stocks move upward last week despite continued write downs at the end of the second quarter. The FBR Small Cap Financial Fund (FBRSX), run by the veteran financial stock portfolio manager David Ellison, has taken a different approach by focusing on regional banks and placing more of its assets into cash. FBRSX's largest stock position, Hudson City Corp Bank (Nasdaq:HCBK), focuses on retail banking in New Jersey, New York and Connecticut. HCBK is up approximately 15% year to date. (To learn more about bottom fishing, read Finding Profit In Troubled Stocks.)

Conclusion
Inflation is a major threat to investor purchasing power, but so is having to pull money out of the market during a correction. If investors can remember to plan and protect like the pros while building their diversified portfolios, market pullbacks can be viewed as an opportunity to add investments at a discount versus closing out at a loss.

To learn more, see Bear-Proof Your Retirement Portfolio.