The Breakdown, the writing on the wall changed...

Thursday, February 4, 2010

New S&P Chart--The Breakdown Edition

By: Scott Redler

The market will always speak, and therefore, active traders must pay attention and listen. All the signs were there that this type of move was in the cards since the day companies started getting sold off heavily on great earnings reports and when key market stocks broke important moving averages. I am not going to rehash all the sings, as I posted them nearly every day on this blog. The biggest key was when the uptrend line was broken--that was a game changer!

On January 21, 2010 the S&P was sitting at 1,130. That was then, but this is now:

What kind of market are we in?

What Type of Market Are We In?

Feb 4th, 2010 | By sspencer | Category: General Comments, Steven Spencer (Steve's) Blogs, Trading Theory

We are in a downtrending market! What? We are in a downtrending market!! What? downtrend!!!!!! What does this mean for short term traders?

1. Short stocks if they pop to previous support levels
2. If the market trends up for two days then pray for a third day gap up so you can short the market!!
3. Trade with less size as downtrending markets tend to be more volatile
4. Be mentally prepared for the market to meltdown at any time. See traderfeed.blogspot.com on an excellent post on what to look for. http://bit.ly/945ZkT
5. If the market gaps down and there is a feeble attempt at a bounce on the Open then put your short caps on.
6. Remember that stocks go down more quickly than they go up. Take a deep breath when your shorts start working and give them some room to trade lower
7. If a stock makes a hard down move on volume wait for it to pop a little before initiating a short position
8. Don’t fade down moves. Fade up moves!!
9. Remember that in a weak market we don’t need to have a down day every single day. If we have two hard down days in a row be careful with your shorts on the third day. This isn’t September 2008. The market isn’t gonna drop 20% in a week
10. It is OK to trade on the long side in a downtrending market. We certainly trade on the short side when the market is trending up. You just need to understand that the bigger chops are gonna be on the short side. i.e. AMZN 124.50 to 114, AAPL 202 to 190, GS 171 to 158. These moves all happened intraday. Correct. They weren’t swing trades. I guess you could call them intraday swing trades

Good luck with your trading tomorrow!

Are you ready?

Ready for the Big Game?

• Derek Hernquist
• February 4th, 2010

Most of us will watch the Super Bowl this weekend, and marvel at the offensive machines run by Manning and Brees. Are they that much more talented than the rest of the population? Compared to that stud on your high school or college team, then yes. Versus the other 30 NFL QBs(plus backups), I think the answer is a definitive NO. So why does it look so easy for them? What can we learn as market speculators?

I think much of the difference lies between their ears, in the way they process information. Take a supremely talented athlete and throw him into the neighborhood Turkey Bowl, and he will dictate the flow of the game. Put him with professionals, and he'd better get a plan real quick or he's Ryan Leaf. The preparation AND repetition needed at that level becomes just as important as arm strength and foot speed...replace strength and speed with instinct and intellect, and the conversation moves to trading.

If we think our opponents in this game are less talented than we are, our career won't last long. Sure, some have no business being in the arena and are punished quickly. But once markets have weeded out those that don't have "it", even the least skilled are pretty damn sharp. Who can't play devil's advocate on virtually any bullish or bearish argument advanced by a fellow pro? At that level, it's about preparation and repetition of edge. In the immortal words of Allen Iverson, we're talking about "Practice?!"

We can't control the flow of the market, nor can we ensure that our best plans will come to fruition. What we can do is have a few formations in place, and know what we're going to do when things line up a certain way. Seriously, do you think there's a defensive formation Peyton hasn't seen yet? A market formation Art Cashin hasn't seen yet? I don't know how many times Art hits his target, but Peyton hits 60% of the time, not 100%. He's made his mark by converting some of those 60% into huge plays by recognizing an imbalance, sending his guys to the weak spots, and throwing to that spot. Think that TD came from circling his team and drawing up a play in his palm?

As stated by Dr. Brett Steenbarger, success is something that is cultivated over time, with directed effort . We can do one of two things, be born to process information a little better than our opponents, or prepare like crazy in honing our processing skills. Probably a good idea to focus on the latter, rehearsing a variety of scenarios and developing our game plan ahead of time. In the end, it's still an art, but there's no reason not to hone our prep skills into a science and let our acquired instinct take over once the game begins.

Learned something new today

I was analyzing my naked Mar $45 XLE Puts. While looking at the option chain I see that there is two ticker symbols for the $45 Mar strike price. I always assumed that they were separate because one was originally a LEAPS contract and one was the regular near-term expiration that doesn't become a ticker symbol until it's regular calendar cycle begins. So it turns out that this is correct, however, this is what I learned: the LEAPS contracts do not expire on the third Friday of that month, they expire on the last day or that month. So the LEAPS for the same month same strike price have slightly longer maturities and this is why the stay separate ticker symbols. I always wondered why your LEAPS didn't just turn in to the regular calendar cycle contracts once they became available. I thought maybe it was for capital gains reasons because LEAPS are taxed at the short-term rate even if you held it for more than a year.

So attached is a snap shot of the prices today for the two different $45 puts and what got me thinking. If you could effectively middle those spread prices, you sell the put expiring 3/31 for .36 and buy the other that expires 11 days earlier for .27 and take in a credit of .09. Your only risk is being naked for 11 days, but you could always just close both of them out on 3/20 when the first one expires. Looking at today's prices for the Feb expirations gives you an idea of what it would cost to close out with 11 days left, and today's BxA price for the $45 put is .05-.09, so you could get out with a profit. I wonder if you are even allowed to sell to open on the 3/31 expiration. In my case I know I could buy to close that short position, but I think for just this reason of possible arbitrage that you're not allowed to enter opening positions in LEAPS contracts when they are technically not longer LEAPS. Just thought it was a bit interesting, but you would probably never be able to get any significant volume through on such a trade anyway as the market maker would know what you're doing and just keep the spreads such that even if you paid the bid and ask to enter the trade you couldn't make a profit. If you see the prices posted above there is a .01 differential if you paid the bid and ask, after commish you get nothing and still have 11 days risk.

Great timing

Ouch! Couldn't have had worse timing on the SLV puts sales. Hopefully if I have to take possession there is an attractive covered call to write against it.

When you don't know what to do...

So since the complexion change in the market I have bought and sold out of SPY, making very small profits. I can't seem to find the holding power for the short trade. I am not sure where the market is going to go, it feels like there is still more downside, but I can not convince myself to take on any shorts with much conviction. It may also be the fact that I feel like I am late to the party. What if this is only a 5-6% correction and not a 10% correction. I do not want to panic out of my long positions, just because I see a little red.

I really wished I would had kept the 108 puts that I sold yesterday as they would had been good for better than a double. But like I said I can't seem to hold the short side. Tomorrow the all anticipated jobs number comes out and because of the fragile market conditions a bad number could be just the catalyst for the next push lower. But then again a good number could be the catalyst to continue up. Or it could be a non-event. Damn, I wish I had a crystal ball.

I really do not know what to do. I am kind of getting some analysis paralysis. I am also trying to figure out the best time to lift my hedges on my longs. But not knowing or having a thesis of how far down this market could really go before it starts going up again scares me. I know on the charts the next important support level is in the 1030-1040 range, but I am not willing to make any bets on it. I like the idea of selling call spreads, but I should had done that on the bounce to collect the higher premium.

So with that said, I am going to take a step back and for now I am not going to add any new positions going into the jobs number tomorrow. I will wait and see what happens. I will sit on my hands so to speak. I will just try to work through some of my positions as we have 15 days left until Feb expiration and I have a few positions that will expire.

Earnings play in STLD

STLD reports today after the bell and I want to take a position to capture some possible upside. Looking at the front month straddle the options market is pricing in about a 10% move on earnings. So here is what I am going to do. I want to buy the Mar '10 $16 calls and sell the March '10 15 puts to enter into a "risk/reversal" or "synthetic" (skipping one strike down). I chose $15 to sell as this seems to be a level that the stock may have bottomed out.

In recent weeks STLD made a run to a new 52 week high of over $20 per share. Since then it has had a 25% pull back. Analyst are forecasting $1.37 per share for earnings next year giving this one an attractive p/e of about 11.67. Now keep in mind that these estimates bet on the continuation of the recovery. I point this out as I am willing to take delivery of these shares at the $15 level.

Here is the daily chart:


Notice that I have also plotted the HV and IV on the lower studies of the chart. There is only a 3.8% difference betweeen HV and IV. Which to me kind of seems cheap considering the options market is pricing in a 10% move based on the front month ATM straddle which is trading for about $1.5. So I don't think I will have to worry about much of a volatility crush after the release of earnings.



Next we have the risk profile fof the trade: I bougth 5 Mar '10 16/15 synthetic's long (Buying the $16 calls and selling the 15 puts) for a net debit of $0.40 per synthetic.




Above I provided a bunch of price slices as to what this thing might do. Since I am not too concered with a volatility crush because one there is not that big of a difference.

Next I took the distribution of Open Interest for Feburary. Since about 1/19 Open interest has been increasing on both call side and puts side. But the ratio of calls to puts is 1.54:1. So options players are indicating a bullish bias into earnings. $17 looks to be the home of the highest open interest and my act as a gravitational pull if earnings are good.


Currently the stock is trading at $15.89 going into the close. The estimate that the street is looking for on EPS $0.17 on Rev's of $1.08 Billion.