No One Wants Protection, and That’s Why You Need It Now

The worst possible time to buy hurricane insurance is right before a hurricane. You’ll pay much more for the insurance, or worse yet, it won’t even be available for purchase. And yet, many people don’t start thinking about buying hurricane insurance until it’s storm season and the newscasters are telling everybody to hunker down.

Not coincidentally, at around the same time that hurricane insurance is overpriced or unavailable, the prices of batteries, bottled water, and gasoline rise sharply and those necessities are in short supply. Meanwhile, profiteers who loaded up on these supplies beforehand capitalize on in-demand commodities through price gouging.

It happens year in and year out, and most people never learn the simple lesson that preplanning, preparation, and foresight can go a long way towards reversing the cycle of undersupply and panic buying. Even if you’ve never experienced a hurricane, we all got a taste of this type of situation during the onset of the coronavirus.

Don’t count on society as a whole learning this lesson and getting into the habit of planning beforehand. Instead, it’s best to get your own affairs in order and make sure that your loved ones will be taken care of when necessities are in short supply and high demand.

The best strategy is to take protective measures during times of calm and complacency, when few people are imagining the worst-case scenario. Most people don’t think about hurricane insurance during the off-season, but that’s the best time to go shopping for it because it will be cheaper and more easily available.

Courtesy: BofA Global Investment Strategy, Bloomberg

There’s a direct correlation to finance and investing here. Take a look at the SPX (S&P 500) top 100 call-to-put volume ratio chart shown above. It’s a measure of call option buying activity versus put option buying activity.

Put options are basically a form of insurance against big losses in the stock market. They’re really not fundamentally different from hurricane insurance, and they’re typically in demand when traders are concerned or fearful.

And, like hurricane insurance, people tend to buy put options at the worst possible time: while the market is already crashing. They end up paying a hefty premium for them, when instead they should have made the purchase during calmer times.

Call options, on the other hand, are often used to gamble that the stock market is going to go higher. Again, traders usually buy them at the wrong time. When the S&P 500 is high and those stocks are expensive, people tend to feel overconfident and they load up on call options, paying way too much for them.

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As the chart shows, the call-to-put volume ratio in September is the highest it’s been in the past decade. This indicates that traders are buying speculative call options and ignoring the need for protection. When this happens to such an extreme degree, it’s peak complacency and the story typically doesn’t have a happy ending.

In other words, hardly anyone wants protection now, and that’s your signal to consider taking a defensive position. When you see people scrambling to buy “FAAMG” stocks (Facebook, Amazon, Apple, Microsoft, and Google) at any price, then the price is probably too high.

Courtesy: BofA Global Research, Bloomberg

When the majority of amateur Robinhood traders are greedy, you need to stay several steps ahead of them and position yourself defensively. I assure you, there will come a time when they’ll be running for the exits and that’s not when you want to start thinking about portfolio protection.

The thing is, it’s not easy to time market corrections and crashes. If you were to buy a bunch of put option contracts, you’d need to have superb timing because like a carton of milk, those contracts will have an expiration date.

One great feature of gold and silver is that they don’t have an expiration date. They’re more like fine wine than milk: they never spoil and only get better as the years pass. Even if your timing is far from perfect, you can still own precious metals for the long term without worrying that your investment will go to zero.

Speaking of timing, it’s a gift from the market gods that gold is still sitting near the $2,000 level. It’s as if hurricane season’s right around the corner but the insurance premiums are still cheap somehow.

This, then, leaves you with two choices. You can buy gold and silver at a reasonable price while people are calm. Or, you can wait until the financial storm comes and everybody wants precious metals – if they can even get them.

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