7/12/2011 8:45:06 AM
Speculation over a potential Italian bailout caused stocks to sink...
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Value Portfolio:
We are long TBT at $32.50 from June 16th. (TBT closed at $32.37 on July 11th)
We sold short one contract TLT July $98 Calls at $1.19 per share on June 16th
We sold short one contract TLT Aug $98 Calls at $1.80 per share on June 16th
We sold short one contract TLT Sep $98 Calls at $2.13 per share on June 16th
(TLT closed at $96.80 so the contracts we sold are more than on dollar out of the money but with implied volatility still considerably lower than when we sold the opton. Time value on all option contracts we sold continues to erode which means we can buy them back for less than we sold them for or, if price stays below $98.00, let them expire worthless and keep all the money).
Daily Trading Action
The major index ETFs opened significantly lower and then rallied for the first twenty-five minutes before rolling over and beginning a long day of moving lower. The first bounce began shortly after 11:00am and lasted only forty-five minutes before selling began a new. The see-saw action downward lasted until the final hour of the session when the major indexes retreated from their lows but closed with losses of more than one percent. The Dow and NASDAQ-100 have a BULLISH BIAS while the S&P-500 remains with a NEUTRAL BIAS. Both the Dow and NASDAQ-100 exited their nascent uptrend states moving back to a trading state. In fact, all the indexes we regularly report on are in trading states. The Semiconductor Index (SOX 406.73 -7.07) lost one and three quarters of one percent. The Russell-2000 (IWM 83.32 -1.81) lost more than two percent as the "risk on" trade disappeared. The Regional Bank Index (KRE 25.12 -0.60) lost most of three percent as did the Bank Index (KBE 23.34 -0.67) and the Finance Sector ETF (XLF 15.05 -0.42). Long term bonds (TLT 96.80 +1.43) added 1.5% and closed at their highs. TLT is above all moving averages we regularly report on but the BIAS of longer term bonds remains neutral. TLT moved to a trading state. NYSE trading volume was light with 829M shares traded. NASDAQ share volume was light with 1.736B shares traded.
There were no economic reports of interest released. Instead, market participants dumped stocks for the relative safety of bonds as fears over potential contagion of European sovereign debt whipped the bears into a frenzy. Fears over Greece and Portugal have moved to worries over a large economy needing a bailout, namely Italy.
The U.S. dollar rose +1.4% on European sovereign debt fears.
The yield for the 10-year note fell ten basis points to close at 2.92. The price of the near term futures contract for a barrel of oil lost -$1.05 to close at $95.15.
Implied volatility for the S&P-500 (VIX 18.39 +2.44) soared fifteen percent. Not to be outdone, the implied volatility for the NASDAQ-100 (VXN 20.22 +2.77) soared sixteen percent.
All ten economic sectors in the S&P-500 declined led by the Financial Sector Energy (-2.8%) which has moved more than four percent lower in the last two sessions.
Market internals were negative with decliners leading advancers 5:1 on both the NYSE and the NASDAQ. Down volume led up volume 11:1 on both the NYSE and the NASDAQ. The index put/call ratio was nearly unchanged rising 0.01 to close at 1.50. The equity put/call ratio rose +0.15 to close at 0.73.
Commentary:
Monday saw a significant lower open and then, after a brief opening rally that couldn't quite reach Friday's lows, the sell-off began in earnest. Implied volatility soared back up to the 200-Day Moving Averages (DMAs). The Index Put/Call ratio was essentially unchanged as it had spiked on Friday. We are mindful that the market makers regularly attempt to shake option holders out of their positions leading to increased swings during options week. We also recognize that trading volumes, although heavier than seen last Friday, were still light which is not atypical during summer trading.
The renewed fear of European sovereign debt will continue to resurface even though this theme should be well known to investors. At the end of the day, there is too much debt versus income and changes will have to be made. Adopting austerity measures comes at the price of reducing GDP and risks another global recession. These are long term systemic, not cyclical issues, and is why there are so many long term bears out there, even as U.S. equity markets have reached recent highs.
Earnings season has kicked of with Alcoa (AA 15.91 -0.47) missing its earnings estimate by two cents but raising guidance. This isn't an auspicious start but there is usually a surprise in the other direction in the same week so it is uncertain how earnings will arrive versus expectations.
We are concerned that the top may already be in now as the NASDAQ-100 had moved up to retest its recent highs while the Dow and S&P-500 didn't reach theirs. We believe that the major equity indexes will head lower and that U.S. bond prices, however dubious an investment, may head higher in the short term. We believe that, for now, the "risk on" trade has failed even with a better than expected earnings season in its nascent stage. We are now looking to position short and will be opportunistic in doing so. We anticipate equities to hold up into options expiration on Friday and will be mindful of a market move on the release on the minutes from the latest Fed meeting at 2:00pm on Tuesday. We will abandon our long position in TBT if TLT rises above its recent high of $97.74 by more than six cents.
We hope you have enjoyed this edition of the McMillan portfolio. You may send comments to mark@stockbarometer.com.
