S&P 500 Flirts With Record High
The following is an excerpt from this week’s ‘Weekly Market Letter’ from Market Edge (www.marketedge.com).
Back and forth trading left the major averages mixed this week as investors watched Congress agree to a summer break, but came to a stalemate on providing a coronavirus relief package. Equities surged to start the week after the White House said it was going to extend benefits despite delays in Congress. Rotation into cyclical industry groups saw big gains in casinos and airlines as IAC/Interactive (IAC) took a +13.77% stake in MGM Resorts (MGM) and TSA checkpoint data showed an uptick in airline passengers. The DJ Transportation Index and the DJIA were both able to hit new recovery highs. A follow up rally on Tuesday however, ran out of gas bringing an end to the S&P 500’s seven-day win streak. Big cap technology names led a rebound mid-week before the major averages traded mixed to close out the period. Economic data continued to improve with Thursday’s jobs report showing new Initial Claims falling below 1 million and continuing claims also coming in better than anticipated. Inflation data came in hotter than expected and yields nudged higher with the yield spread between the 2-year and 10-year Treasury hitting its highest level in a month. That gave a boost to Financials (XLF), but weighed on rate sensitive sectors Utilities (XLU) and REITs (XLRE). Industrials (XLI), Consumer Discretionary (XLY), Energy (XLE) and Materials (XLB) also outperformed. The rotation out of big cap tech left the Technology (XLK) and Communication Services (XLC) sectors mostly flat. Crude oil prices edged up on a bigger than expected drawdown in inventories, while precious metals backed off recent gains and gold fell hard on Tuesday after the US dollar firmed against international currencies. The S&P 500 flirted with its record high close of 3386.15 several times during the week, coming up short, but the bellwether index and NASDAQ were able to nudge higher for a third consecutive week and the Dow closed higher for a second straight week.
For the period, the DJIA added 497.54 points (+1.8%) and closed at 27931.02. The S&P 500 picked up 21.57 points (+0.6%) and settled at 3372.85. The NASDAQ nudged higher by 8.32 points (+0.1%) to 11019.30, while the small cap Russell 2000 increased 8.70 points (+0.6%) and finished at 1577.88.
Market Outlook:The technical condition of the market was little changed this week as back and forth trading helped the market work off some of its overbought condition. The technical indicators are in positive ground with momentum, as measured by the 14-day RSI, strong. The DJ Transportation Index continues to outperform, up +3.6%, which is a bullish condition and has traded higher for three consecutive weeks hitting a series of new recovery highs during the period. However, the transports are also very overbought with the 14-day RSI at 80. The last time the DJ Transportation Index was this overbought was January 2018 and the index dropped -13.8% over the next month, retracing another parabolic move in the market from November 2017 to January 2018. The small cap Russell 2000’s gains were more muted but also finished higher for a third week. The S&P 500 made a new recovery high on Wednesday but could not push to a new record high after being turned back from 3386 all week. A break above that level could see some short covering in the broader market. Internal breadth remains bullish with the NYSE Advance/Decline line, a leading indicator of market direction, hitting several new all-time highs. The NASDAQ A/D line touched a new recovery high but finished with only a gain of 64 units. New 52-week highs contracted noticeably and could be an early sign that the bulls are becoming exhausted.
Bullish sentiment is also signaling some concern. The Market Edge Sentiment Index hit -4 this week and the last time that indicator was that bearish was the last week of January, a month before the sell off. In addition, Investor’s Intelligence shows that the Percentage of Bullish Investment Advisors has been flashing a warning signal for six-straight weeks. This is a contrarian indicator that shows when advisors get too bullish, the market may be approaching a short-term top. The Bull/Bear spread, the difference between Bullish and Bearish Advisors is also the highest it has been since the last week of January.
Finally, as we look at conflicting signals from the different indicators, the market’s overbought condition is hinting that we are likely to see some consolidation over the next week or so. The S&P Short Range Oscillator (SRO) finished the week at +6.16%, which historically has forecast some back and forth trading or correction in the market. In addition, the S&P 500 is trading +10% above its 200-day moving average which is very overbought. The last time the S&P 500 was this overbought was the third week of February earlier this year. While I’d be surprised if the S&P 500 doesn’t punch a new high next week, it seems that gains beyond that are going to be limited and investors may want to take a more cautious approach over the near-term.
A chart of these indicators can be found by going to the Market Edge Home page and clicking on Market Recap, which is on the right-hand side of the page just below the Second Opinion Status numbers.
Cyclical Trend Index (CTI): The underlying premise of the CTI is that the market, as measured by the Dow Jones Industrial Average (DJIA), tends to move in cycles that often resemble sine waves. There are five identifiable cycles, each with different time durations at work in the market at all times.
Presently the CTI is Positive at +13, unchanged from the previous week. Cycles A, B, C, D and E are bullish. The CTI is projected to stay positive into September.
Momentum Index (MI): The market’s momentum is measured by comparing the strength or weakness of several broad market indexes to the DJIA. Readings of -4 and lower are regarded as bearish since it is an indication that a majority of the broader based market indexes are weaker than the DJIA on a percentage basis. Conversely, readings of +4 or higher are regarded as bullish.
The Momentum Index is Positive at +7, unchanged from the previous week. Breadth was positive at the NYSE as the Advance/Decline line added 1651 units while the number of new 52-week highs out did the new lows on all five days. Breadth was also positive at the NASDAQ as the A/D line gained 64 units while the number of new highs beat the new lows on each day. Finally, the percentage of stocks above their 50-day moving average jumped to 75.6% vs. 69.2% the previous week, while those above their 200-day moving average increased to 56.4% vs. 51.1%. Readings above 70.0% denote an overbought condition, while below 20% is bullish.
Sentiment Index (SI): Measuring the market’s Bullish or Bearish sentiment is important when attempting to determine the market’s future direction. Market Edge tracks thirteen technical indicators listed below that measure excessive bullish or bearish sentiment conditions prevalent in the market. In addition, we track money flows into and out of Equity Funds and ETFs which as of 8/12/20 shows inflows of $5.7 billion. Currently, the Sentiment Index is Negative at -4, down two notches from the previous week.
Market Posture:Based on the status of the Market Edge, market timing models, the ‘Market Posture’ is Bullish as of the week ending 5/29/2020 (DJIA – 25383.11). For a closer look at the technical indicators and studies that make up the market timing models, check out the tables located below.
| Market Timing Models | Current Reading | Prior Week | Connotation | ||||||
| Cyclical Trend Index (CTI): | 13 | 13 | Positive | ||||||
| Momentum Index: | 7 | 7 | Positive | ||||||
| Sentiment Index: | -4 | -2 | Negative | ||||||
| Strength Index – DJIA (DIA): | 24.1 | 17.2 | Negative | ||||||
| Strength Index – NASDAQ 100 (QQQ): | 25.5 | 22.4 | Negative | ||||||
| Strength Index – S&P 100 (OEX): | 29.8 | 27.7 | Negative | ||||||
| Dow Jones Industrial Average (DJIA): | 27931.02 | 27433.48 | 1.8% | ||||||
| S&P 500 Index: | , | 3372.85 | 3351.28 | 0.6% | |||||
| NASDAQ Composite Index: | 11019.30 | 11010.98 | 0.1% | ||||||
Ask Mr. Seifert
Question: What is exercise and assignment and how does this come into play when trading the Optionomics’ strategies?
Answer: When you short (sell) an option (put or call), there exist the possibility that you could be obligated to buy (short put) or sell (short call) the shares of the underlying stock on any business day. This is known as assignment.
When you are long an option (put or call), you have the right to exercise your option and either buy (long call) the underlying stock away from the owner or sell (long put) the stock to the guy that sold you the put option at the specified strike price.
Options can be exercised anytime before the expiration date. One can never tell when an assignment will take place. Options are usually exercised when they get closer to expiration. The reason is that it does not make much sense to exercise an option when there is still time value left. It is usually more profitable to sell the option instead. Over the years, only about 17% of options have been exercised. However, it does not mean that only 17% of your short options will be exercised. Many of those options that were not exercised were probably out-of-the-money to begin with and had expired worthless. In any case, at any point in time, the deeper into-the-money the short options, the more likely they will be exercised.
All of the Optionomics’ strategies involve the sale of some sort of weekly credit spread which results in you being long and short either a put or a call. This ensures that you have unlimited risk since you never will be selling naked options. Most of the spreads will either expire worthless on the expiration date resulting in no action and a 100% winner. Sometimes they will settle with a small or a full loss which may require some action on your part. This could be simply closing the spread before expiration or you may be assigned your short option and having to exercise the long option in the spread to zero out the position.
‘Traders’ And ‘Investors’ Results
| ‘Traders’ Results | 21st Century Covered Call Results | ||||||
| Performance Since Week Ending 1/04/19 | Performance Since Week Ending 11/06/17 | ||||||
| S&P 500: | 01/04/19 | 2485.74 | S&P 500: | 11/06/17 | 2591.10 | ||
| S&P 500: | 08/07/20 | 3372.85 | S&P 500: | 08/07/20 | 3372.85 | ||
| S&P 500 Points Gain/Loss: | 887.11 | S&P 500 Points Gain/Loss: | 781.75 | ||||
| S&P 500 % Gain/Loss: | 35.7% | S&P 500 % Gain/Loss: | 30.2% | ||||
| Risk Capital: | $20,000 | Risk Capital: | $100,000 | ||||
| Optionomics Traders $ P/L: | $6,970 | Optionomics Covered Call $ P/L: | $32,588 | ||||
| Optionomics Traders % P/L: | 34.9% | Optionomics Covered Call % P/L: | 32.6% | ||||
| Last Week’s Traders % P/L: | -0.3% | Last Week’s Covered Calls % P/L: | 0.3% | ||||
| Put-Call Hedge Results | The Billionaire Risk Reversal Results | ||||||
| Performance Since Week Ending 1/26/18 | Performance Since Week Ending 04/12/19 | ||||||
| S&P 500: | 01/26/18 | 2872.87 | S&P 500: | 04/12/19 | 2907.41 | ||
| S&P 500: | 08/07/20 | 3372.85 | S&P 500: | 08/07/20 | 3372.85 | ||
| S&P 500 Points Gain/Loss: | 499.98 | S&P 500 Points Gain/Loss: | 465.44 | ||||
| S&P 500 % Gain/Loss: | 17.4% | S&P 500 % Gain/Loss: | 16.0% | ||||
| Risk Capital: | $100,000 | Risk Capital: | $50,000 | ||||
| Optionomics Put-Call Hedge $ P/L: | $23,706 | Optionomics Billionaire Trade $ P/L: | $6,794 | ||||
| Optionomics Put-Call Hedge % P/L: | 23.7% | Optionomics Billionaire Trade % P/L: | 407.6% | ||||
| Last Week’s Put-Call Hedge % P/L: | 1.6% | Last Week’s Billionaire Trade % P/L: | 28.5% | ||||
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