Skip to main content

Morning Update

Yesterday as the Dow made a new` all-time high for the third consecutive day one option trader made a bet that all-time highs will been seen in the S&P 500 by April expiration. The trade was the purchase of 50,000 April 160/161 call spreads for a cost of $0.13. This is bullish trade that risks $650,000 to make a potential $4.35 million if SPY is above 161 at April expiration. SPY is already up 8% year to date, and this trade bets that it has another 4% left to rally over the next 5 weeks.

Why might this be the case? First off, there has been a slew of data surprising to the upside lately. This morning non-farm payrolls came in at 236,000 versus 171,000 expected, and last week ISM Manufacturing came in at 54.2 versus 52.8 expected along with the Chicago PMI which came in at 56.8 versus 55.0 expected. Second, Bernanke, along with Yellen and Dudley, have been reassuring investors that the Fed will continue to keep rates low for a while yet. This means that markets can rally on good news without having to worry that the economic data is so good that the Fed might stop easing. And finally, the return of the housing market is helping retail investors feel better about their finances and giving them the courage to spend and even buy stocks.

However, this market will not continue to go straight up and a 4% move higher in the S&P 500 is about a 1 standard deviation move between now and April. There are a lot of people out there who are hesitant to buy into this market at all-time highs but who are happy to buy it on the dips. I expect each dip to be bought for the near term, which means it will be important to have positions on that you will not get shaken out of on downticks. Call spreads like this can be used to replace stock positions that have profits so that you can take risk off the table while continuing to participate in this rally if it continues.

Comments

Popular posts from this blog

Wake Me Up When September Ends

The fiscal year for the U.S. Government ends September 30th, 2017. Which is something market participants could care less about if not for, sometime near that date, Congress needs to raise the debt ceiling. Missing that deadline would result in a self-inflicted financial wound that would send shock-waves throughout global markets.  The U.S. Government has been paying off debt since the Andrew Jackson administration without missing a single payment. Raising the debt ceiling is a routine vote.

In fact, with the polarized Washington we have seen in recent years, it is happening a lot more frequently, as Congress has only once passed a budget in the past eight years. In lieu of a budget, Congress passes what is known as a continuing resolution.  A continuing resolution is a type of legislation in which Congress decides to let last year’s budget continue as this year’s budget. Nevertheless, a continuing resolution is incomplete, as it does not allow for the government to spend the money a…

I would like to bet ten tens on the tenth horse in the tenth race, please.

"I would like to bet ten tens on the tenth horse in the tenth race, please."


Last summer, on a warm cloudy day June 11, 2016 in Elmont New York, a good friend of mine (Rob) confidently walked up to the cashier at Belmont and spoke those famous words.  Ten Tens on Ten in the Tenth Race.  In fact, it had been decided it months earlier. We had been discussing hosting his bachelor party in New York, go to the Belmont Stakes, and watch a Yankees vs Tigers game and Rob convinced the group to go to New York by proudly proclaimed his prophecy.  I had almost forgotten about this bold prediction when I witnessed him at the register, but when I looked up, and saw Flintshire, the 10th horse in the race upcoming race was the favorite.  “What could possibly go wrong?”  I thought to myself (an options trader who bought a racing program attempting to handicap and gain an ‘edge’ in the previous nine races unsuccessfully).  I went to a pretzel vendor and changed 5 twenties into ten tens, wal…

Is the KCJ Foreshadowing a 2008 Repeat?

The CBOE Correlation Index (KCJ) is close to the lowest level we have seen since it was first listed in 2007. The KCJ measures the implied movement of the S&P 500 components options, compared to the implied movement of the S&P 500 index options. Simply put, the higher the number, the more likely all stocks are going to move together. Conversely, a low number will be characterized by sector rotation, and flat markets; one sector moves higher, another moves lower. 
Correlation, for lack of a better term, is correlated with volatility. Not surprisingly, 30-day S&P 500 historical volatility is near the low level of 6.5%. Currently at 33.5, KCJ is sitting close to rock bottom, lower than where it was in 2007, (but not lower than where Lindsay Lohan was in 2007). 
So far this year, the market has been able to grind higher, characterized by leadership in FANG(Facebook Apple/Amazon, Netflix, Google) and sector rotation. As the summer hit, FANG has slowed with GOOGL and AMZN hitting…