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Stock Options Trading Newsletter Archives

April 14, 2011: Betting on a Change in VIX

4/14/2011 3:09pm

Stock Option Trading Idea of the Week

VXX is an Exchange Trading Note (ETN) that has a highly inverse correlation to SPY. Its value is derived from values of VIX futures, and some analysts have said that a $10,000 investment in VXX would offset losses in a $100,000 portfolio of SPY. I think that is a little optimistic. I believe that it would take about $25,000 or more to cover the losses on a diversified portfolio of $100,000.

Regardless, if you think the market is headed lower, even temporarily, buying VXX might be a very good idea when VIX is trading around 16, since any world event that might cause market uncertainty would surely push VIX (and VXX) higher.

VIX is the most popular measure of option prices. It is derived from the Implied Volatility of SPY option prices. Some people call it the "fear index" because it tends to rise when the market falls, and vice versa.

Three weeks ago, VIX was near historic lows, about 16. It had not been that low for 3 ½ years. Most of the time during the past couple of years, VIX has been between 20 and 40. With the market moving higher for such a long time, investors have apparently become complacent, and VIX has fallen considerably. That is usually just the time when they get smacked with a correction.

Three weeks ago, I wrote "Today, VXX trades at about $29 while VIX is at 16. Last November, just four months ago, VIX was at 22 and VXX traded at $49. If the market has a correction, even a little one, VIX is likely to move over 20 very quickly, and anyone who owns VXX should make a very nice gain.

Of course, there is a chance that the market will continue to climb, and VIX may fall a little further. With the uncertainty that exists in the economic and political world these days, I personally believe that VIX is highly unlikely to fall much further than it already has. If I am right, VXX would be an investment that might sky-rocket in value at any time and involve very little risk. The greatest downside, at least to my way of thinking, is that you would have money tied up that might be invested more profitably somewhere else."

It is nice to see something I said about the future actually work out that way, and in only three weeks. For those of us who watch VIX every day, it is comforting to know that there is a stock bet we can make when we believe that it has moved higher (or lower) than we think it might be in the near future.

Any questions? I would love to hear from you by email (terry@terrystips.com), or if you would like to talk to our guy Seth, give him a jingle at 800-803-4595 and either ask him your question(s) or give him your thoughts.

You can see every trade made in 8 actual option portfolios conducted at Terry's Tips and learn all about the wonderful world of options by subscribing here. Why wait any longer to make this important investment in yourself?

I look forward to having you on board, and to prospering with you.

Terry

Andy's Market Report

It was a dramatic week for the market. Price action during the week of options expiration was driven by the headlines. The catastrophe in Japan dominated the news. The ongoing turmoil in Libya made a brief appearance on Friday. The fed announcement, G7 and an abundance of economic news fell below the wayside.

The Japanese earthquake and its aftermath caused the global markets to sell off during the early part of the week with broad market S&P 500 as it dropped to a low of 4.2% before it bounced to finish the week down 1.9%.

The tragedy in northeast Japan continued to unfold as the week progressed. When the earthquake and tsunami ended, a nuclear crisis began. The Fukushima Daiichi nuclear power plant was directly affected by the earthquake and its aftermath. Ongoing news of a potential meltdown kept the nuclear complex as the focal point all week. What was portrayed by the talking heads as impending "doom and gloom" manifested itself in the market's "fear gauge" VIX which surged 55% this week. Certainly not a bad thing for those of us who use premium selling in our options strategies.

Economic news was mixed at best.

The week started with a disappointing Housing Starts and Building Permits report for February. New construction dropped 22.5 percent to bring Housing Starts to their lowest level in 27 years. Building Permits dropped to their lowest level on record. One thing is certain, the housing crisis continues.

PPI and CPI came in higher than expected due to rising food and energy costs, but core prices remained stable. We all know that inflation is creeping higher even though the Fed states that it is in check. The fed monitors the core gauges and as long as they remain stable there is no reason to think that the Fed will make a major change to its monetary policy.

On the technical side of things, all of the major indices are back in a short-term neutral state after hitting short-term extremes during the middle part of the week. The mid-week bounce pushed the indices back into neutral readings with a slight short-term bullish lean as we head into next week.

The trading day that follow options expiration is historically bearish, but I am not sure we will see same historical precedent occurring Monday. If the bulls can avoid the global obstacles out of Japan or the Middle East or North Africa than we could see a decent rally to start the week. The bulls are certainly crossing their fingers.

If we do get a bounce next week it could be short-lived. For those of you who follow seasonal market tendencies, the end of March is quite bearish with only one out of the last seven trading days bullish.

Andy

Overbought/Sold Condition Report

Overbought/Oversold as of March 19, 2011

  • S&P 500 (SPY) - 36.0 (neutral)
  • Dow Jones (DIA) - 42.6 (neutral)
  • Russell 2000 (IWM) - 41.5 (neutral)
  • NASDAQ 100 (QQQQ) - 25.6 (oversold)

Testimonial of the week

Finally it looks like it is turning around. I am a recent new member and every week things kept going down until now. I was losing confidence in the system but watching the trades and the efforts that you have put into trying to smooth out and turn the portfolios around, I am impressed. Thanks for your expertise and efforts. Thanks, Jim (received 3/11)

Terry's Tips Stock Options Trading Blog

November 22, 2021

On Target Trade


Target
(TGT) reported earnings before the bell on Wednesday that beat estimates on
both revenue and profits. The company also expects its fiscal Q4 comparable
sales growth to be higher than previous forecasts. Moreover, TGT claimed the
supply chain mess has not been an issue - store shelves are full and ready for
the holiday buying onslaught.





Analysts
were mostly bullish on the report, giving TGT several target price increases
(there was one lower price). One went as high as $350, a 38% premium to
Friday’s closing price. The stock price was not rewarded, however. The shares
dropped 4.7% on Wednesday and slid further the rest of the week. However, this
was a common theme among several retailers, including Walmart (WMT). In fact,
the overall retail sector was lower for the week.





The pullback dropped the shares to just above their 50-day moving average (blue line in chart). This trade is thus a bet that TGT will regain its footing and stay above the 50-day as holiday sales numbers – that are predicted to be robust – start rolling in. The short 245 strike (red line) of our put credit spread is below the 50-day, relying on trendline support to hold through expiration.









If
you agree that TGT will stay atop its 50-day moving average line in chart),
consider the following trade that relies on the stock remaining above 245  (through expiration in six weeks.





Buy
to Open TGT 31Dec 240 put (TGT211231P240)

Sell to Open TGT
31Dec 245 put (TGT211231P245) for a credit of $1.60 (selling a vertical)





This
credit is $0.02 less than the mid-point
of the option spread when TGT was trading around $251. Unless the stock rises
quickly from here, you should be able to get close to this amount.





Your
commission on this trade will be only $1.30 per spread.  Each spread would then yield $158.70. This
trade reduces your buying power by $500 and makes your net investment $341.30
($500 – $158.70) for one spread.  If TGT
closes above $245 on December 31, both options will expire worthless and your return on the spread would
be 46% ($158.70/$341.30).


November 15, 2021

An AFRMation Trade


Affirm
Holdings (AFRM) provides a platform for point-of-sale payments for consumers
and merchants. In August, AFRM announced a partnership with Amazon.com (AMZN)
to offer flexible payment solutions to customers with AMZN purchases above $50.
AFRM reported earnings on Wednesday after the bell that missed on profits but
beat on revenue. The company also raised sales guidance.





Wall
Street apparently forgave the earnings miss, largely because it was not clear
if the discrepancy used comparable numbers. Moreover, AFRM said its AMZN
relationship as a buy-now-pay-later service was exclusive. Clearly, analysts
were looking at AFRM’s growth prospects, as the company was greeted with
several target price upgrades that reached as high as $185 (the stock closed at
$149 on Friday).





After a nasty, four-day 21% plunge heading into earnings that pulled the stock to its 50-day moving average, the stock rebounded 13.7% the day after the earnings news. Given the earnings rebound, analyst target upgrades and deal with AMZN, we are going with a bullish trade on AFRM that keys on the stock maintaining its three-month rally and staying atop its 50-day moving average (blue line in chart). The short put strike of our credit spread sits at $133 (red line in chart), just below the 50-day.









If
you agree that AFRM will continue its uptrend and stay atop its 50-day moving
average line in chart), consider the following trade that relies on the stock
remaining above $133  (through expiration
in seven weeks.





Buy
to Open AFRM 31Dec 128 put (AFRM211231P128)

Sell to Open AFRM 31Dec
133 put (AFRM211231P133) for a credit of $1.85 (selling a vertical)





This
credit is $0.05 less than the mid-point
of the option spread when AFRM was trading at $149. Unless the stock rises
quickly from here, you should be able to get close to this amount.





Your
commission on this trade will be only $1.30 per spread.  Each spread would then yield $183.70. This
trade reduces your buying power by $500 and makes your net investment $316.30
($500 – $183.70) for one spread.  If AFRM
closes above $133 on December 31, both options will expire worthless and your return on the spread would
be 58% ($183.70/$316.30).


November 10, 2021

A Me(h)T Trade


MetLife
(MET) won’t get anyone’s juices flowing. It’s frankly a rather boring insurance
and financial services company that’s been around for 158 years. But who cares …
if we can make money on a trade, right?





MET
reported earnings last week that beat estimates on the top and bottom lines.
Hardly anyone noticed. Analysts were silent. There were no stories other than a
dry listing of its key performance numbers. And the stock fell 2% the next day.
Ho hum.





But MET is up 36% for the year, which is well ahead of the S&P 500’s 25%. After a swoon in June and July, the stock has been grinding steadily higher along the dual support of its 50-day and 200-day moving averages. The key is the 50-day (blue line in chart), which has allowed just three daily closes below it during the past three months. This trendline, which is rising slightly, sits at $61.10, which is above the short strike of our put spread trade. Thus, MET would have to pierce this support to hurt this trade. And the 200-day (red line in chart) sits at $61 to provide another layer of support. The last time MET closed below the 200-day was more than a year ago.









If
you agree that MET will continue its slow ascent and stay atop its 50-day
moving average line in chart), consider the following trade that relies on the
stock remaining above $62.50  (through
expiration in six weeks.





Buy
to Open MET 17Dec 60 put (MET211217P60)

Sell to Open MET 17Dec
62.5 put (MET211217P62.5) for a credit of $0.75 (selling a vertical)





This
credit is $0.04 less than the mid-point
of the option spread when MET was trading at $64. Unless the stock rises
quickly from here, you should be able to get close to this amount.





Your
commission on this trade will be only $1.30 per spread.  Each spread would then yield $73.70. This
trade reduces your buying power by $250 and makes your net investment $176.30
($250 – $73.70) for one spread.  If MET
closes above $62.50 on December 17, both options will expire worthless and your return on the spread would
be 42% ($73.70/$176.30).


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