This summer was a classic representation of a fight between the bulls and the bears. We started out with a nice rally, only to give up all of the gains and sell-off 5%. Yet, just like it has been over the last couple of years, the bulls got control of the market in the beginning of August and it has been off to the races since then.
Right now we are at an inflection point for the market. We are sitting at brand new highs of the year. The big question is are we going to form a double top at 1985-2000 and then break-down and head to 1870 (200 dma), or are we going to break out above 2000 and continue the most hated rally in history?
I bet on the latter; I see many catalysts for the market to go higher. I see a dovish Fed that does not want to raise rates ahead of schedule, and an UBER-dovish ECB that will stop at nothing when it comes to their bond-buying program.
The only negative in the market is the conflict between Ukraine and Russia. Right now, the market has baked in the conflict between Ukraine and Russia, as seen by the 5% pullback. The Middle East conflicts have not yet affected the markets. Unless any of the conflicts raise economic concerns, I do not see them pulling down the market. In fact, I think that September is setting up to be a very bullish month, but I am worried about October.
I think that investors will worry about the outcome of the U.S. midterm elections. This means that October should be a more risk-off environment than September as investors will want to wait for certainty, which will come with election results. One could argue that a Republican controlled Congress would be a positive for the market as it may make Congress more productive now that one party is in control. On the flip side, if the Republicans control Congress, investors make take that as a sign that the deadlock will be even worse, since neither President Obama nor the Republicans in Congress will feel compelled to work with each other, as we have seen over the last 6 years. Overall, I think the Q4 rally will start a bit early in September, but then go on a brief hiatus until November after the market sees more certainty.
The price action is key. One can argue a bearish case, but until I see some bearish price action, I think that the bull argument wins. We saw a perfect correction, where the S&P 500 went down to the 100 dma, and successfully bounced. This is something it has been doing for the last few years, which has led to new highs each time. We have just come off of a strong earnings quarter, where average earnings grew by more than 7%. This should subdue some valuation fears, as the broader market sits at a forward P/E of 16.5.
The next catalyst for the market will be the day after Labor Day, when new money starts to flow in. Hedge funds have significantly underperformed the market, meaning that they will need to catch up. In turn, when most fund managers come back from vacation in one week, I think we will see money flow into the financials and technology, the two recent market leaders. Following that, we have the FOMC meeting in the middle of September. This meeting will deliver many headlines as to the rate at which the Fed will raise rates. September should be a very volatile month, but if all goes as I expect, we could be looking at a nice 2-3% rally.
Posted July 30, 2014 9:09pm
After last night’s earnings report, I am assessing whether or not to buy the 20% pop in TWTR shares. After looking over the numbers, I think TWTR is a buy for a number of reasons. First, they beat on every metric: earnings, users, revenue, etc. Second, the stock is still 40% from its high, and just marginally above its opening day price. Third, when FB had reported monster numbers, it was only the beginning for the stock’s growth. People hated FB before their blowout number, and now love the name, as seen by the 100% return since that report, in just under a year.
With the short interest in TWTR, I believe that this could be just the beginning of a massive short squeeze. However, I think the prudent thing to do is to wait a few days to see how the stock trades. Should the stock show continued strength over the course of the next few days, I would be an immediate buyer. However, if the stock will suffer a pullback, I would probably hold off buying, because that would signal to me that investors are looking at this opportunity to sell and take profits rather than looking towards the future.
Below is a chart of the comparison between the charts for FB and TWTR. As you can see, both stocks were hated before their breakout quarter. But once FB had its breakout quarter, the buying intensified, as people saw that there was a big growth potential. For TWTR, a few analysts today increased their targets to the mid $60s, but many analysts still rate TWTR a “sell” or “hold”. This means that the good news and the growth potential is not close to being baked into the stock.
The options activity was quite bullish for TWTR today, after its earnings reporting. There were over $3.5 million in calls bought today, which indicates to me that institutions, overall, were speculating that TWTR would move higher.
If I were to place a bullish bet, by buying the option rather than the stock, I would not risk that much, but would have an enormous potential for the upside. Currently, the January ATM call costs $5.75. I will look to get into the January calls to give myself time in case it corrects. Also, the premium is still expensive on TWTR and shorter dated options will have more decay if the IV were to drop.
Posted June 30, 2014 10:10pm
With SPY premiums so low, one could make the argument that it is smartest to buy premium outright. That means, do not sell anything against the long calls or puts. The problem with this is that the market is just not moving. The volatility is so low that the premium is constantly eroding. But, you can take advantage of that. I believe that the market will soon have a mini correction (2-4% fall), and that the put premiums will do quite nicely. But I do not think this will happen until the middle of earnings season, so what I would do is sell weekly puts against them. If the market were to get a pullback, then I would do the same strategy but for the upside. I will outline both the bearish and bullish strategy in this post.
First is the bearish strategy. What I would look at doing is buying a September 190 put, and then every week selling the weekly 190 put. I believe that the SPY will have a pullback to the 190 level. This would represent a 3% pullback and relieve the overbought status of the market, allowing it to continue higher and hit the 200 level. The reason I suggest selling premium are for two reasons. First, it is extra income, and as long as the shorter-term option expires out-of-the-money, it will not take anything away from the profits. Secondly, and more importantly, is that the market has a path of least resistance to the upside. Therefore, I want to finance the purchase of the put to protect myself in case I am wrong. If I can collect 30-50% of the premium that I paid, this strategy would limit my loss to half of what I originally spent and therefore increase my risk/reward. It is more than possible that the market just consolidates over time and has a sideways correction. If this is the case, the premium selling will allow me to not get hurt too badly by the time decay in my long option.
Second is the bullish strategy. I think that if the market were to move higher from here, it would do it in a very slow manner, and the reason for that is because there is very little momentum. There is very little volume and little volatility to have any big moves. Therefore, the way I would play it is to buy an at-the-money put and then every week sell the $1-$2 out-of-the-money call. The reason I am not buying the OTM September call is because I will not be able to sell any premium unless the SPY rallies close to my strike. This is because SPY puts always have a fear premium baked into the puts and therefore always cost more than the calls because puts are usually in more demand and therefore the out-of-the-money strikes still cost a decent amount and can be used in a put calendar strategy.
Overall, I think the market will continue to rally over the course of the next half year, but I think it is important to recognize that there is almost no uncertainty baked into the market now which means that there is a very good probability of having some sort of a pullback really soon.
Posted May 31, 2014 8:18pm
Right now, the S&P 500 is sitting at all-time highs. I, for sure, thought that there was going to be a correction sometime in May. The way I am positioning myself is for a rally to start off June. I think that as long as the ECB does not disappoint and the Jobs Report comes in above 200k, that the market will continue higher. The reason is simply that there is no reason for it to go down.
Every reason to go down, as of now, is already known and would not result in a correction. Whether it is slow growth, Ukraine, or bonds, it does not matter. The market did not want to sell-off before and these will not be the reasons why the market sells off going into the summer. The high-flyers saw a strong bounce back and show signs of continuing the climb higher. Many people are still skeptical that the market is going to rally more, which just adds fuel to the fire. Everyone thinks the market is going to sell-off during the summer and they are positioning for it. Usually, when everyone expects one thing, the opposite happens. In turn, what I am doing is buying calls in individual stocks until the market convincingly tells me that there is going to be a sell off (for me this would be a break of the 50-day moving average on the S&P 500).
My favorite stock for a rally is Amazon. The reason is that out of all the high-flyers, Amazon has rallied the least. That may sound counter intuitive, but I think Amazon will break out above the 50-day moving average and continue up to 330 which is its prior resistance. I bought the June 21st 315 call @$6.40 yesterday to reflect that view. I will most likely take some profits at 320 and then see if it can rally up to 330. With the market at all time highs, I do not feel comfortable to be in trades more than a few days. The only reason I bought the June calls is because I think the downside is limited and I do not want the effects of time decay. I would only need a 2% move by expiration to break-even on the calls, the risk-reward is excellent in my opinion.
Posted April 29, 2014 9:45
Over the last few weeks we have seen quite a sell-off in the momentum names. However, the market did see a strong bounce over the last 2 weeks, up until Friday. I think that we are at the beginning of a two-month correction. Over the next few weeks, I think that we will see “Sell in May and Go Away”. Seasonality, a mid-year presidential cycle year points to big losses in May and June. A potentially troubling sign is that the NASDAQ has formed a bearish Head and Shoulders topping pattern. My bearish view on the market is only temporary as I think that the market will have a strong Q4 rally, due to seasonality trends.
The way I would play the correction is by buying puts in the NASDAQ and individual momentum names. The fact that the NASDAQ could not break above its 200-day moving average leads me to believe that it may test its 200-day moving average, which is around 4% lower. Another way to place a bearish bet, albeit a more conservative bet, is to sell a call spread. By selling a call spread you would need the price of the stock/index to close below both legs of the trade in order to collect all the premium.
For Long Term Investors:
I believe that the market will continue to go up over the next year or so, even though it may be a lot more choppy than it has been over the last year. It is smart to own stocks if you have a medium to long-term horizon. Something to be aware of is that the market usually has a 20% correction once every three years; we had one in 2008 and 2011, so one could say that it is possible that we have one in 2014. Therefore, I think the smartest thing to do is wait for at least a 10% correction in the S&P 500 before buying stocks for the long-term. I am bullish on the Biotechs long term. Many of the Large Cap Biotechs such as Celgene and Gilead have phenomenal earnings and seem to be very well positioned for the future. I am also bullish on Bank of America long term since I think that with the rising rate environment, BAC is best positioned to capitalize. Lastly, I am bullish on Facebook. I think that the strong earnings growth and the relative cheapness compared to other stocks in its sector lets will lead it to print $100 over the next couple years.