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Tuesday, September 27, 2022


GDWheee Friday – Could be a Wild Ride!

Attention ladies and gentlemen:

The stock market will soon be leaving the station, please secure all personal items, pull down the safety bar (our Disaster Hedges) and keep all body parts inside ride at all times.  Well you know you can follow all of the safety instructions and STILL get smacked in the face with a black swan (like our friend Fabio, pictured here) which is why we elected to get back to cash ahead of this report.  The markets were just too insane this week and who the heck knows if Europe will still be a Union on Monday or what the GDP number is going to be (but I do think it's a miss). 

Since our biggest weekend fear is financial panic in Europe, our cash US dollars will become more valuable in a crisis and if the market drops, all the better as we can ride back in and do some bargain hunting.  If the market takes off on good GDP and Greece is "fixed" and Spain is "fixed" and Portugal and Ireland are not really a problem (especially for MS and JPM) and the CRIMINAL charges against Goldman look beatable and and the Financial Reform Bill doesn't disrupt the market with a disorderly breakup of the big banks and the Bank of International Settlements Report continues to be ignored and the run on the Greek banks doesn't spread to other STUPID counties – well, then we can BUYBUYBUY because, if all this doesn't matter, then it's very likely that the entire planet Earth could explode but Wall Street will keep ticking higher.

Yep, I can't wait to ride this baby mindlessly higher!  After all, what can go wrong?  BIDU is ONLY $710 a share, BLK is $190, CMP is $76, GOLD is $84, BUCY is $65, FAST is $56, MMM is $90, FOSL $40, F $13.50, DECK $149, SHOO $55, TPX $35, LZB $14, CTB $22, NOG $16, CEO $176, FTI $75, CLB $150, CIB $46, BBD $19, TD $75, BCA $45, BAP $87, ITUB $22, EDU $94, WYNN $93, FFIV $72, CY $14, CREE $77, UPS $70, UNP $78… 

These were stocks I was looking at last week, when I told members I thought it was easier to construct a Sell List than our usual Buy List for this market but, if we're heading to 1,350+ on the S&P, then all these guys should be heading to all-time highs as well.  Why not?  They're stocks and that's good enough for any self respecting BuyBot, isn't it?

Of course we shorted BIDU yesterday along with OIH (on that nat gas report), and we are still accumulating EDZ and TBT (of course!) and initiated SMN again but we went long on DVN, MON, VLO and SPWRA while we celebrated our DNDN plays, something we've been playing for years now but, as recently as Monday, we still found ways to have fun as my trade ideas for Members were:

Keeping in mind that DNDN is pretty much a one trick pony and that the approval is mainly priced in and that they could go to zero, I think the prudent trade is the 2012 $20s at $25, selling the Jan $45s for $10 and buying the Jan $20 puts for $3.  That puts you in the $25 spread for net $18.  To the upside, you can roll the Jan $45s to the 2012 $55s (now $9) so $35 possible upside.  Flat you wipe out the Jan callers and you are still $15 in the money with a year to sell calls.  Dowside you have puts that will give you a profit if DNDN goes bust or if (even better) if there is panic selling on a delay. 

Here’s another interesting DNDN play.  It’s only $6.15 for the Jan $25/35 spread and you can buy 2 of those and sell 1 $55 call for $6 and that puts you in for net $3 on two $10 spreads so $14 of upside between $35 and $50 before you owe the caller a dime.  $64 is where you would start to lose money to the upside so break even is $28-$64.

Most of us are in DNDN stock at $5 of less so these are "gravy" plays as we grew confident this week we'd be getting an approval.  If you want a great read on the DNDN Odssey, check out Michael Milken's summary of all the nasty manipulation around DNDN.  A very satisfying to read now that we’re up 1,000% but, at the time, I was none too happy with Cramer and Feuerstein as they relentlessly tried to stampede investors out of the company

8:30 Update:  Oops, back to work!  The GDP for Q1 came in at 3.2%, just a little bit below expectations and quite a bit down from Q4s 5.6% pace.  Consumer spending was up a whopping 3.6% (adding 2.55 points to GDP) and Business Inventories are up 13.4% (adding 1.57 points) so I sure hope that consumer number keeps up or we'll be overfilled at the warehouse!  According to the BEA: "The increase in real GDP in the first quarter primarily reflected positive contributions from personal consumption expenditures (PCE), private inventory investment, exports, and nonresidential fixed investment that were partly offset by decreases in state and local government spending and in residential fixed investment.  Imports, which are a subtraction in the calculation of GDP, increased.  The deceleration in real GDP in the first quarter primarily reflected decelerations in private inventory investment and in exports, a downturn in residential fixed investment, and a larger decrease in state and local government spending that were partly offset by an acceleration in PCE and a deceleration in imports."

Something about this data bothers me as Real Disposable Income (income adjusted for inflation and taxes) was flat and savings only dropped from 3.9% to 3.1% so where did the consumer spending come from?  I'll have to take a closer look at this over the weekend but the markets certainly seem happy ahead of the open (8:45) but there's nothing in this report that makes me regret cashing out bull plays into yesterday's rally.  The WSJ pointed out last week that Mark Zandi had said as much as $60Bn worth of consumer spending was the result of money "saved" by 5M people who are living in their homes but have stopped making their mortgage payments – maybe he's onto something because this money seems to have just magically appeared otherwise

The housing sector does indeed look weak here, with Residential Fixed Investment decreasing 10.8%. Home Sales and Construction fell after the expiration of the government tax credit for first-time buyers but a second tax credit kicked in to help the market this spring and should help GDP in the second quarter.  Federal Government spending also helped at it increased 1.4% for the quarter.  I wish Zandi had calculated how much business spending is boosted by not paying their rents or getting rent reductions – check your local paper – you can sign a 3-year business lease and get the first 6 months for free – that's going to free up some cash too!  Oh, silly me, I forgot to put VNO at $86 and BXP at $83 on my sell list! 

Not on anyone's sell list is New Home Sales, which JUMPED 27% in March but, as Cap pointed out in Member Chat, that's up 8,000 homes from last March or 5 homes per day per state.  How many realtors is that actually going to feed?  In fact, 39,000 homes is 68% LESS than March 2004's 123,000 and 69% LESS than 127,000 in March 2005 and 63% LESS than 80,000 in 2007…  You get the idea, we are only celebrating mediocrity in both the markets, with their silly earnings comparisons, and in our GDP as we comp to a disaster.  We'll just have to see if this is a "sell on the news event."  As I said at the top, we don't care, we're back to cash!

Asia had a nice morning keying off our rally with the Hang Seng gaining 1.6%, back to 21,108 but the Shanghai needed a 50-point stick into the close just to gain 2 points for the day – that must have cost someone a LOT of money to paint that picture…  The Nikkei bounced back 132 points (1.2%) and got back over 11,000 to 11,057, pretty much just following the Dow around.  Japanese Consumer prices continue to fall for the 13th consecutive month, dropping 1.2% in March as unemployment ticked higher

Europe is flat to down this morning, just ahead of our open now and I think the plan is to bail out Greece so Greece can bail out Spain who will bail out Portugal, who can then bail out Ireland who will then rejoin the UK and take over all their banks and then un-join the UK and then go completely bankrupt (sorry Ireland!) as they are used to depressions over there (have you read Joyce?) and they have really good beer anyway, which is a nice consolation

Like last Friday, we're going to let the markets run but unlike last Friday, I'm didn't wait until the weekend to decide to get out.  We'll see if I was right…

Have a great weekend,

– Phil



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jcdens – "OR would you rather have a boss who is dummer than a screw driver, who has managed to memorize a few high level talking points with which you agree, and who is susceptable of being dupped by anyone with a half brain."
Are you talking about our current President??

JRW, SS,  The quote JRW mentioned the other day from Fry, about the initial move of the market being wrong, was true again today.  SS, using your method, we should have been in TZA at 9:45 and closed out at the end of the day.  Talk to you guys later.

Actually my point was to say – should Greece not accept the offers and conditions presented them by the IMF and EU central bank, then they would be expelled from the consortium and will be free to do what they want, as they are no longer a component of the EURO. They will, in this case bring back the drachma(?) currency, after they default., and start all over again. The Eurozone does not need Greece – they are the bastard child that never listens.

Hey DK and Phil!! I’m from Mexico and make more than 170k per year so please!! 🙂

Phil – you advised Salvum that "There are 3 articles in the Education Section that outline the set-up of a $10,000, $100,000 and $1M portflio – I suggest you read those over the weekend."
I’d like to do that to, but after an enjoyable wander through http://www.philstockworld.com/category/education/
and down a couple of layers deep, while I read a lot of interesting and educational stuff, I didn’t see those particular articles. Do I need new glasses? Ya never know, when you get to be my age….

Pharm – What do you think of APPY long-term? They had a nice drop today due to new issues.

Hi, Phil, Peter, Judah, and Fellow Stranglers:
I’m back.  Judah, I hope that you don’t mind my starting this discussion early.
Regarding hedging strategy for strangles, first of all, I wonder if we need "crazy plays" for the up side as well.  That is, buy both put verticals and call verticals.  I vaguely recall Peter seemed to have both verticals for his BIDU strangles.  Peter, what’s your experience with BIDU?
As we learned in the past few months, we can sell the long leg of the verticals to get some, if not all, of the costs back.  So, they are relatively cheap in that regard.  However, if we have both call verticals and put verticals, can we sell the long legs on both sides?  Isn’t it more likely that the market is closer to one side, and therefore, too risky to sell the leg on that side?
Secondly, I wonder if the verticals can protect a sudden up/down, say, +/- 3% within 1-2 days?  My statistical analysis shows that on average SPX goes up/down 0.7% per day with standard deviation 0.7%.  So, adding 3-standard-deviations gives us about +/- 2.8%.  Let’s use an even number +/- 3% for easy computation.  SPX is about 1200 today.  3% of 1200 is about 36.  But our crazy plays are only $10 spreads.
What are your thoughts on this subject?

Phil, Cwan, Peter et al./hedges for strangles.  Of late, I have been thinking that a good disaster hedge could make it easier for us to roll away from trouble in the same month, perhaps without having to roll 2x and without having to roll to the next month, except when absolutely necessary in the final couple of days. 
Assume a June SPX 1020/1280 strangle.  Currently, I would add a put vertical at, say 1110/1100.  But that vertical only protects me from a drop to 1010.  It is really designed as a way to benefit if June closes between 1020 and 1100, in my example.  And, as Cwan points out, we have no hedge for a sustained move upward.  What we all do is we roll.  We roll 2x, 4x, we roll out a month, we sell additional calls or puts to pay for the rolls.  And for the most part it works, but to my way of thinking, the rolling eats up our margin and limits our ability to take advantage of new opportunities when we are just running away from trouble.  In my limited experience, I have liked it better when I can roll away from trouble the same month since that frees me up to make plays the next month, unencumbered by my old strangles. 
So, what I have been wondering is whether we can develop a hedging strategy for the strangles, using the ultras like Phil’s disaster hedges, that would be sized to pay for a roll away from trouble by say, 30 or 40 SPX points.  In my example above, if the SPX moves down to, say 1050 with one to three weeks left before opex, I’d like the hedge to be able to pay for rolling away to 980 or 990.  And, if the market keeps moving down in the final week or so, then I’d roll away to the next month.  What I am trying to avoid is having to roll 2x to 980 or 990 and then perhaps 4x and then having to roll to the next month.  I am becoming more adept at rolling than I used to be, but I still don’t like tying up a lot of margin by rolling 2x and then sometimes 4x.  Similarly, a bull ultra, like TNA for the RUT, could help pay for a roll of the callers if the market were to move against us with a couple of weeks left. 
And, of course, such an ultra hedge should be able to pay for a roll in a black swan event.  I currently use TZA and EDZ for hedging, but I’m not sure I have the sizing right.  Sorry, gotta run now and I don’t know if I’ve explained this properly.  Good shabbos everybody.

Hi Cwan, judah & others,
Hedging is definitely an interesting topic.  If we want a fool proof hedge that protects down to zero or protecting for a 20% drop in the indices, it will cost us out of pocket money to buy, e.g. buying a long PUT, and there is no free lunch.  I found that using the ultras to hedge would cost the same as using the index hedge.  The cost of protection decreases as we lower the size of what we want to protect, and hence we use verticals instead of naked long options.
The crazy play is almost a perfect hedging for short strangles, especially for a 10% move on the downside in the indices, while still paying us money.  In Judah example above, the put vertical SPX June 1110/1100 is currently $1.4, while the June 1020 put is $5.2 (which was inflated because of the VIX jump today).  Let’s see how they move.  If SPX drops 1000 points (8.5%-9%) to 1087, the June 1110/1100 put vertical would be worth roughly $5.5 as it’s just ITM.  The gain on the vertical is $4.1, while the June 1020 put would have jumped to $18 (not taking into account the VIX effect as the market would be lower at that time).  Selling the vertical would get us $4.1 profit, which can be used to move the 1020 short put to roughly 985. 
If we double the number of verticals for each strangle (using up $2.8 of the $5.2 credit from the 1020 short put), we can protect down to 950.  That’s a good 20% down from the current level today.  We’d be hard pressed to find any other hedging that protects a 20% move without costing more money than the SPX vertical.
Now, let’s look at TNA, the 3x ultras.  SPX 1110 is about 7% down, which would be 21% down for TNA.  TNA is currently $63.4, so 21% down would be roughly $50.  TNA June 50 put is $2.3.  TNA June 40 put (to give a $10 spread similar to SPX) is $0.95, so the June 50/40 put vertical is $1.35, which is similar to the $1.4 cost for the SPX June 1110/1100.  However, we need TNA to drop to 40 for our hedge to pay $5.  This means TNA is a less effective hedge than SPX, i.e. we get $5 for SPX when it’s at 1100 (which is 8% down), while we need to wait for TNA at 40 (11% down on the 1x index) to get our $5.  Of course, we can use TNA 50/47 put vertical, and increase the number of contracts by 3.3x, spending more on commission. 
We can do the same calculation for having additional hedging for covered call or buy/write (Stock, plus short call and short put).  We’d find that the hedging can only protect down to 10% or at most 20%, especially without putting the additional money in.
Hedging for a melt up is more difficult, of course, as calls have inherently less value than puts, so buying a vertical doesn’t leave much room for profit on the short call.  We just need to roll and roll.  The key is that the market doesn’t usually jump 5% overnight (unless it bounces from a 10% drop on the previous day) so the need for upside hedging is less.  I’ll see if I have something else to add over the weekend.

Peter, Thanks so much for your usual cogent and well-reasoned explanation.  The genesis for my original post on the topic was a comment by Phil earlier in the week, referring to the strangles, about which he said something like, "Sounds like they could use a good disaster hedge."  Maybe the put verticals are really the best hedge, bought when the VIX is low.  Or maybe something like Phil’s mattress play would also work, where you always keep enough insurance to give you the ability to roll 3% away for every 5% drop in the SPX, so that you could roll a couple of times in the same month before having to roll out a month.  And then you day trade the mattress hedge in an effort to have it pay for itself.  The SPX doesn’t make for a good mattress play with the wide spreads, so maybe it is the DIA or SPY or IWM mattress play.  Since I daytrade IWM anyway, I’m going to give that more thought.
As for the melt-up hedge, I’ve had to roll up to safety a couple of times in the past two months, but they were only on callers that I had rolled down.  Any original callers that started 10% away have been in pretty good shape, but I have been guilty of shaving that 10% to 6 or 8% and then gotten in trouble.  It just seems that the callers at 10% away don’t typically pay enough.  I’ll think on it some more.  Thanks again.

Phil’s comment on disaster hedges for strangles was in response to something I wrote in attempting to answer someone’s question about what happened to their strangles on the "Goldman Sachs versus The Senate" down day.
I’ve also looked at the ultras as strangle hedges and like Peter reached the conclusion there’s no advantage. And if you have portfolio margin, the put verticals help with your margin usage on the put side. Not sure if you’d get the same margin credit if hedging with a different instrument altogether.
My understanding is that most of Phil’s disaster hedges pay out a significant % of their value over time, and so might not provide all the relief you seek as a strangle hedge -where you’re risk is the effect of a sudden downturn on your front-month short puts.
If I strive to avoid increasing margin usage for positions in the current front month – and one side is under attack and using the most (portfolio) margin – flipping is best (I think) to avoid increased margin usage. You move a chunk of "margin hit" to the other side.
For those who tend to day trade and you’re confident of a trend during the day, you can flip during the day to take advantage of the trend by flipping away from the side that’s under attack. You’re buying back the side where prices are increasing and selling the side where they’re decreasing. If there is a strong trend, eventually the side that’s under attack will be the one that’s hitting you for your (portfolio) margin and, again, flipping alleviates the margin usage imbalance between the two sides.
Similarly, flipping restores a delta imbalance. A strong trend will get your delta out of balance. Flipping can restore balance.

Strangles on stocks:
I’ve started doing it  awhile back with GOOG, and now BIDU, on the front-month (May). My feeling is you want to wait until after earnings to avoid increases in implied volatility leading up to earnings. Also, crazy plays on calls as well as puts, since stocks can gap up on news. I call this strategy "the fortress", since the P/L  curve looks like one (to me.)
I start pretty far from the money and monitor the theta. When theta gets lower as you get closer to expiration, you could bring the two "turrets" of the fortress closer to the money and milk some more theta from the current month.

Chaps. Thanks for you comments. That’s one of the great things about this board — many smart traders willing to share their experiences. 

Chaps… as always, great stuff. Thanks!

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