Testy Tuesday - Have the Markets Become Comfortably Numb?

by Phil - January 19th, 2010 8:08 am

"There is no pain you are receding
A distant ship’s smoke on the horizon.
You are only coming through in waves.
Your lips move but I can’t hear what you’re saying.
When I was a child
I caught a fleeting glimpse
Out of the corner of my eye.
I turned to look but it was gone
I cannot put my finger on it now
The child is grown,
The dream is gone.
but I have become comfortably numb." - Pink Floyd
 

I have a theory that the markets (and the American people in general) aren’t irrational, they are simply shell-shocked after suffering a very traumatic group financial experience… 

To be shell-shocked is to be "mentally confused, upset, or exhausted as a result of excessive stress" and the most common symptoms are: Fatigue, slower reaction times, indecision, disconnection from one’s surroundings, and inability to prioritize - That certainly sounds like our Congress doesn’t it?  Combat stress disorder was first diagnosed in WWI, when 10% of the troops were killed and 56% wounded - far worse than had been experienced in previous wars.  Our current financial crisis has similarly affected more people than any previous crisis with almost everyone knowing someone who is bankrupt or lost their jobs or homes and almost no one escaped the carnage of the downturn without some financial damage. 

Combat fatigue may go a long way to explaining the severe drop-off in volume that has plagued the markets since March, with participation now down to 25% of where we were last January and that leaves us open to the blatant sort of market manipulation that Karl Denninger caught last week as well as the usual nonsense we get daily from HFT programs that drive the market with such precision that we are able to tell how the day is going to go by simply checking our hourly volume targets.  Here’s a clip from CNBC where a floor trader discusses market manipulation as a fact of trading (2 mins in).  

As Nicholas Santiago points out on In The Money Stocks,   "January is usually a very high volume month, yet it has started off the New Year even lighter than the last two months of 2009.  Light volume markets are very difficult to short. Hence the old saying, ‘never short a dull market’."  Not only is the market volume light, but over 60% of the trading volume is concentrated on 5 stocks:  AIG, C, BAC, FNM and FRE!

We have often noted that high-volume (relatively) days almost always tend to be down days and PSW Members can tell you how the…

Tags: ADTRN, AMTD, BAC, C, COH, CREE, CSX, EAT, EBAY, EDU, FAST, FFIV, FHN, FRX, FULT, HBHC, HCBK, IBM, IIVI, KMP, LOGI, MMR, MS, MTB, NTRS, OHB, PETS, PGR, PH, PNFP, RJF, SBUX, SLM, STT, STX, USB, WFC, WIT, XLNX

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Bank of America Bearish Option Position Closed – Shares Rally

by Andrew Wilkinson - November 5th, 2009 4:33 pm

Today’s tickers: BAC, MCD, ADM, XRT, CVS, STT, PFE, CVS, FSYS & AEO

BAC - Bank of America Corp. – One investor banked profits today by unraveling a massive bearish credit spread established back on October 28, 2009. The trader’s decision to take profits ahead of expiration could be a bullish sign for BAC. Shares are trading up 2% near the end of the trading day to stand at $15.00. The investor originally sold approximately 130,000 calls at the November 16 strike for an average premium of 49 cents apiece, spread against the purchase of the same number of calls at the higher November 17.5 strike for 15 cents each. The trader received a net credit of 34 cents per contract on the transaction. Today, the investor left money on the table by closing out ahead of expiration. It appears he sold the upper strike calls for 4 pennies and bought back the lower strike calls for 19 cents apiece. Net profits received for unraveling the spread amount to 19 cents per contract for a total of $2.47 million. One might interpret such a decision as a bullish signal for BAC because the trader decided to walk away with 19 cents – half of the maximum profit potential of 34 cents. The investor would only have been able to retain the full 34 cents if shares traded beneath $16.00 through expiration day in November.

MCD - McDonald’s Corp. – A bullish risk reversal in the January 2010 contract significantly reduced the price paid by one investor establishing an optimistic stance on the fast-food chain. Shares of MCD are trading 1.5% higher today to $61.20 despite yesterday’s downgrade to ‘hold’ by analysts at EVA Dimensions. The investor sold 13,000 put options at the January 60 strike for an average premium of 1.91 apiece to partially offset the cost of purchasing 13,000 in-the-money calls at the same strike for 2.51 each. The net cost of the reversal amounts to 60 cents per contract.

ADM - Archer Daniels Midland Co. – Food products company, Archer Daniels Midland, jumped onto our ‘most active by options volume’ market scanner this afternoon due to bullish activity in the March 2010 contract. Shares edged 0.5% higher to $32.37 during the trading session after the firm revealed better-than-expected first-quarter profits of 77 cents per share. One investor sold out-of-the-money put options to partially finance the purchase of a bull call spread. The call spread…

Tags: ADM, AEO, BAC, CVS, FSYS, MCD, PFE, STT, XRT

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Bullish Option Play at State Street Despite Weaker Shares

by Andrew Wilkinson - May 27th, 2009 4:51 pm

Today’s tickers: STT, HPQ, AMAT, PBR, BYD, AMD, VALE & ITUB

STT– The 1% decline in State Street’s shares to $43.75 today has not deterred one investor from enacting a bullish ratio call spread in the July contract. Hoping for a nearer-term rally in the stock, the trader bought 5,000 calls at the July 44 strike price for 4.70 each and sold 10,000 calls at the higher July 50 strike for an average premium of 2.20 apiece. The spread cost the investor just 30 cents (1*4.70 – 2*2.20 = 0.30) and yields a maximum potential profit of 5.70 if shares were to climb to $50.00 by expiration. The stock need only rise about 55 cents from the current value to surpass the breakeven point for the trade at $44.30. – State Street Corp.

HPQ – Shares have remained relatively flat today and are currently at $34.45. Our attention was drawn to two trades that appear to be covered calls initiated by investors looking for bullish movement in the stock. The first of the two transactions was the work of a nearer-term HPQ-optimist who looks to have purchased shares of the underlying stock and simultaneously written about 5,000 calls at the July 38 strike price for a premium of 55 cents each. This tactic limits potential gains for the investor but in return effectively reduces the price per share to $34.20 (assuming a purchase price of $34.75) and also provides an exit strategy should the July 38 calls land in-the-money by expiration. If the underlying shares are called away at expiration the trader will have realized total gains of 11%. The other covered-call-cohort we observed on HPQ targeted the August 40 strike price and wrote about 4,500 calls for a premium of 63 cents each. This individual effectively reduced the price of the underlying shares to approximately $34.19 (assuming a purchase price of $34.82) by writing the call options. The investor will bank gains of 17% on the trade if HPQ rallies through $40.00 and the underlying shares are called away from him at expiration in August. – Hewlett-Packard Co.

AMAT– The manufacturer and marketer of integrated circuit fabrication equipment for the global semiconductor industry, has experienced a more than 3% rally in shares to $11.30. Option traders drove the call-to-put ratio up to 11.18 indicating that more than 11 call options were traded for each put option on the stock. Transactions on AMAT were decidedly…

Tags: AMAT, AMD, BYD, HPQ, ITUB, PBR, STT, VALE

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Emerging Markets ETF sees option traders locking into strong rally

by Andrew Wilkinson - May 18th, 2009 4:15 pm

Today’s tickers: EEM, VALE, CSCO, ALL, IBN, STT & XLE

EEM– Shares of the emerging markets ETF have jumped 5% today to stand at $31.58. Ignoring the current bullish movement in the underlying share price, one option trader looked to the December contract to initiate a ratio put spread in the expectation that shares may decline by expiration. The investor established the trade by purchasing 5,000 puts at the December 31 strike price for 3.71 each spread against the sale of 10,000 puts at the December 25 strike for a premium of 1.51 apiece. The net cost of the transaction amounts to 69 cents and yields a maximum potential profit of 5.31 to the trader if shares were to fall to $25.00 by expiration. – iShares MSCI Emerging Markets Index ETF

VALE– The metals and mining company has experienced a share price rally of more than 6% to $18.49 amid reports from Vale’s CEO, Roger Angelli, that the company will likely invest $10.5 billion down from the previous estimate of $14 billion due to lower costs and a weaker Brazilian real. Option traders expressed mixed sentiments in the near-term June contract where the majority of option contracts exchanged hands. One investor got long of some 18,000 puts that appear to have been purchased for about 25 cents each at the June 15 strike price. Perhaps he is long the stock and is looking to protect his position from potential erosion of the share price through the breakeven point on the trade at $14.75. The in-the-money June 18 strike price saw 9,000 calls sold for an average premium of 1.17 apiece. It is possible that investors are selling premium on the share price rally and, like the put-buying bear above, see shares giving back gains by expiration. Traders will retain the full premium enjoyed on the sale if the June 18 calls land out-of-the-money by expiration. We note the possibility that approximately 7,500 of the calls sold at the June 18 strike price are part of a covered call by an investor who bought the stock and sold the calls to effectively lower the price paid per share by 1.17. If this is the case, the trader will have the underlying shares called away from him if the calls remain in-the-money and are exercised by expiration. – Companhia Vale do Rio Doce ADS

CSCO – Networking and communications products manufacturer and tech bellwether, Cisco Systems, Inc.,…

Tags: ALL, CSCO, EEM, IBN, STT, VALE, XLE

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Stress-Free Investing In Stress-Tested Banks

by Phil - May 8th, 2009 7:08 am

Finally the official results are in!

Oddly enough, it was MUCH worse than the original indication that started this leg of our rally when we were told that every bank passed the stress test but the results were skillfully leaked in dribs and drabs interspersed with rumors that things were much worse in such a way that there is a general sense of relief that "only" $75BBn of additional capital must be raised and almost half of that by Bank of America, where $34Bn represents just 2% of their assets (although it is 40% of their current market cap). 

While that level of dillution will keep us out of BAC for now, there’s no reason to not invest in C, who "only" need $5.5Bn against their $2Tn in assets although that is still 25% of their current market cap.  For the banks that do need capital, they have until June 8th to present a plan for raising it and until November 9th to implement the plan, which must maintain the target capital ratios through December 2010 after which we can assume they will again be allowed to run wild.  The banks are all coming up with various schemes to raise cash but the ones on the left need none at all.

Rather than go into a huge explanation about each pick, I’ll just say that I’m favoring banks that I feel have room to run and have not already been overbought.   I discussed with members yesterday that it is ridiculous to assume that banks will get back to their 2007 levels as those earnings came under unique and ideal market conditions which are not likely to be repeated in the next decade so I was disgusted with Cramers BUYBUYBUY rant on the banks last night and I’m looking for a far more conservative play and we will be shorting some of the high flyers as Cramer herds his sheeple into overvalued positions.

We got out of our bullish bank plays this week and our $100K Hedged Portfolio, which was focused on financials in round 1, made huge gains and we (contrary to Cramer’s advice) took them off the table.  Now that we have FACTS, we can reinvest with more confidence.  I am not advocating jumping into all of these positions ahead of the weekend, we still want to see stability next week but we can scale in by selling puts on those banks that sell off as…

Tags: C, FAZ, FITB, KEY, MET, Philstockworld, STI, STT, USB

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