This week the slow and steady market rally we have
experienced this year has slowed even more, although the uptrend is still very
much intact. One option trader is betting that the Nasdaq-100 is at a near term
top at its current levels, and sold 8000 of the QQQ 69 calls expiring on 4/26
against a stock position for $0.91. This buy-write or covered call has a
neutral to bullish bias to the market meaning that it will profit if the QQQ stays
around this level or moves higher. If QQQ is at 69 at expiration the stock
position will breakeven but the option will expire worthless, showing a profit
of $0.91. If the Nasdaq-100 declines then losses on the stock position will be offset
by the $0.91 of premium collected on the options. Lots of traders and investors
are having a hard time seeing how the market will be able to rally
significantly higher from here in the near term and are concerned about the
seasonal “sell in May and go away” trade that could pressure the market. If you
are in this camp then consider a covered call like this. This position is less
risky than a simple long stock position because it will allow you to continue
to profit if the market simply sputters and stalls here and also cushions the
downside if we do see a sell off. The other option is to buy puts, which, even
with volatility near multi-year lows, can be costly. We currently have many of
our clients in strategies like this in order to collect income as we wait for a
clearer indication of what direction the market will take next.
One of the questions I get most from clients is how to generate yield when the Fed is on hold with rates at zero. For a while many defensive clients were content receiving their 3% annual yield from Treasury bonds, but the Fed’s most recent meeting minutes shows that the Fed’s pace of bond buying may soon slow. While I do not think tapering is likely before year end (unless economic data accelerates significantly) the bond market is forward looking and already beginning to price tapering in. Smaller Fed purchases of Treasury bonds will mean that bond yields go up and bond prices go down. Bonds have been in a multi-year bull market, and we may now be on the cusp of a multi-year bear market. The most important indicator to watch is the 10-year yield, which cracked the 2.10% level this week for the first time in a year. If we continue to hold above 2.05% in June, the top is likely in for bonds and borrowing rates will be on the rise for everyone, including the US Treasury. So, how am ...
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