In my last article (August 12,) I wrote “Indeed, unless we can mount a rally in the next six to eight weeks, it may be a long cold winter that follows this long hot summer before we can get back to moving forward.”

Those words may seem prophetic now but they were really nothing but common sense.  When a plant grows bushy and full, it usually means it is healthy.  When it grows straight and willowy, it usually indicates a problem of some sort.  It’s the same with markets.  

As long as all sectors are moving along — at different speeds, of course, but still moving in the same direction — then things are likely to continue in that direction.  But when some 20% of all stocks in the S&P 500 (SPY) are down 10% or more, and most others are flat to a little down or a bit up, trouble is brewing.  Yes, Apple (AAPL), Amazon (AMZN), Google (GOOG) and Netflix (NFLX) were still roaring ahead providing, because of their large market cap, an inaccurate picture of “the markets.”

As a result of this dichotomy I wrote, "We're reallocating our portfolio strategy to reflect what we believe to be the likelihood of a dull market that vacillates between heightened expectations and dashed expectations. That means lightening up on developing markets, energy, industrials, materials, utilities and even some technology firms.”  That meant pretty much everything!

I advocated buying a couple unique situations as well as "shares of ProShares UltraShort S&P 500 (SDS), which moves inverse to the S&P 500 at double the rate of movement, as well as shares of the iPath S&P 500 VIX (VXX), which is a reflection of the volatility I imagine we'll be seeing more of in the coming weeks and months.”  Via client and subscriber e-mail, we’ve since added shares of AdvisorShares Ranger Equity Bear ETF (HDGE) to this mix. 

But our best purchase decision of 2 weeks ago was not as a hedge for our long positions but as an outright short on hubris and autocracy, shares of Direxion CSI 300 China A Shares (CHAD). CHAD is an unleveraged short on the 300 largest and most liquid Chinese A Share companies. 

All of these hedges served their purpose, with VXX up more than 17% on Monday, August 24th, and CHAD up greater than 12% that day. What to do now?

I wish I could tell you that we are covering or placing trailing stops under these marvelous hedges, taking our profits, and beginning to reinvest in fine, now cheap, companies.  But I cannot.  

We are in fact using any bounces — and they will come; no market goes straight up or straight down — to sell.  We’re doing so even if it means taking small losses on the long side.  I simply don’t see a catalyst that will make this week-long crash a distant memory with the market marching inexorably higher.  

I see such a hope as unsustainable in the real world, the real world consisting of a collapsing Chinese economy (about which we have warned in numerous previous articles;) a Russia unable to sell its only “product” for more than it costs to produce it; an Iran bloated with the gift of tens of billions of dollars with which to foment terror; Brazil; a dithering Fed; Greece; and on and on.

If you are thinking of buying something on any bounce, may I suggest that the above VXX, HDGE, SDS and CHAD might be fine choices to serve as a hedge for any long positions you choose to keep.  And I do think you should keep some long positions.  For us, the washed-out Big Energy firms are now looking very attractive, for instance.

I’m not advocating selling everything.  Indeed, I have written puts in our family and some client accounts on Apple.  If it never gets put to us, we’ll enjoy the free money from those who think it will crash severely.  And if it is put to us, I’m OK owning Apple at 10 times trailing, understated, earnings. We’re also adding to our energy exposure during this selloff — Royal Dutch Shell (RDS-B) for 12 times earnings and a 5.5% yield?  I’m OK with waiting for it to recover.  

No fancy algorithms, no Fibonacci technicals, nothing complicated. Just good old-fashioned stock-picking with a very large hedged position, under which we’ll place trailing stops in what I hope will be the not too distant future. And, at this rate (not that I expect it to continue at this  rate!) a full-blown bear market of a 20% or greater decline could be on us by mid-September.

While we take a certain pride in having advised exiting most long sectors just 12 days ago and instead buying the short hedges above, the market will always make fools of those who rest on their laurels. We remain keenly focused on each day’s market action and look forward to responding to the best of our ability, come what...