A Dip And A Rip
CNBC has revised their Option Action show which is aired every weekday night at 5:30. They have really beefed up the Friday show to the point that we think it is one of the best option oriented shows on the air. Check it out.
The following is an excerpt from this week’s ‘Weekly Market Letter’ from Market Edge (www.marketedge.com).
The bull looked a little worse for the wear as it headed into the weekend after a wild run ended with the major averages posting mostly positive. Global markets opened sharply lower to start the week after Evergrande, China’s largest property developer, warned of a possible default on billions in debt. The DJIA dropped 971-points at Monday’s open, but investors bought the dip after fears of contagion outside China diminished. The major averages intraday finally saw their first 5% correction off recent highs since last October, ending the session down almost 2%. Cautious trading on Tuesday left the different indexes mixed as investors hoped for better news out of the FOMC Meeting Announcement on Wednesday and got it. A report that Evergrande was on track to make a debt payment, coupled with an accommodative Fed statement on Wednesday kicked off a snap-back rally in equities, ending a four-day slide in the Dow and S&P 500. The blue-chips surged 844.98-points led by strength in reopening and cyclical sectors and the major averages had mostly erased the losses to start the week. Interest rates ticked higher on the Fed’s outlook for the economy and the yield on the 10-year Treasury closed the week at 1.45%, its highest level since July, while the 30-year T-Bill yield closed at 1.97%. Rate sensitive sectors were some of the weakest market groups with REITs (XLRE) and Utilities (XLU) finishing lower, but Communication Services (XLC) was the worst performing link on weakness in shares of Facebook (FB) on worries over holiday ad sales and boycotts over content. Leading the market rebound was strength in Energy (XLE) after crude oil prices traded as high as $73 on a drop in inventory and OPEC projecting demand at prepandemic levels by early 2022. The bull was back on the run on Friday after a volatile week and the major averages closed out the week with the DJIA snapping a three-week losing streak and the S&P 500 and NASDAQ bringing an end to their two-week slide.
For the period, the DJIA gained 213.12 points (+0.6%) and closed at 34798.00. The S&P 500 added 22.49 points (+0.5%) and settled at 4455.48. The NASDAQ picked up 3.73 points (+0.0%) to close at 15047.70, while the small cap Russell 2000 increased 11.20 points (+0.5%), finishing at 2248.07.
Market Outlook: The technical condition of the market was mixed this week as the major averages were able to recoup from sharp losses early. The technical indicators finished in neutral ground for the different indexes but were improving. After falling below key moving average (MA) support levels early in the period, the major averages reversed course and headed higher. The DJIA was back above its 100-day MA, but remained below its 50-day MA, while the S&P 500 and NASDAQ were both able to close above their respective rising 50-day MA. The small cap Russell 2000 rose above its 50 and 100-day MA but remained locked in its trading range that has been in place since February. While the market was able to bounce back from Monday’s tumble, the rise in rates, as investors look ahead to the Fed’s tapering of asset purchases, will change the dynamic of which sectors should outperform. Positive momentum can be found in Energy (XLE), Consumer Discretionary (XLY), Financials (XLF) and at least for now, Technology (XLK). Rate sensitive sectors are in the process of testing support levels that need to be watched if rates tick higher.
Internal breadth was also mixed with the NYSE and NASDAQ Advance/Decline lines little changed, while new 52-week highs vs. new lows were about even. Despite the wild swings in the different indexes volume was about normal, with no indications that Monday’s selloff was a washout. Often a correction on high volume will indicate that traders may be throwing in the towel, representing a good entry for longer term investors. Sentiment remains neutral after backing off extreme levels of bullishness in the summer. This week Investors Intelligence reported the Percentage of Bullish Investment Advisors fell to 47.1%. That’s the lowest percentage of Bulls since May 2020. That is also the last time bullish retail investors were this low. After sliding to 22.4% the previous week, the American Association of Individual Investors (AAII) saw bulls improve to 29.9%, however, that remains below its historical average of 38%.
Monday’s selloff appears to be in the rearview mirror and market participants can finally put to rest that the market needed to endure a 5% correction before moving higher. Another positive point going forward is the Federal Reserve’s transparent guidance for when tapering of assets is likely to begin. However, the stock market needs to climb a wall of worry and this week’s rise in interest rates could be the next bump in the road. Yields on Treasuries peaked earlier in the year in March which weighed on growth stocks, overweighted big cap technology stocks and the FAANG names. This week’s uptick in rates pushed the 10-year rate above resistance of 1.37% and could lead to an increase to 1.75%. With the Federal Reserve projecting expansion in the economy, we’re likely to once again see that rotation out of growth stocks and into cyclical industries which could lead to the major averages making a run back to new highs if rates don’t rise too fast.
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.
Currently, the CTI is Positive at +10, down two notches from the previous week. Cycles B, C, D and E are bullish, while Cycle A is bearish. The CTI is projected to remain in a positive configuration into the fall.
Momentum Index (MI): The markets 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 +4, up two notches from the previous week. Breadth was positive at the NYSE as the Advance/Decline line gained 481 units while the number of new 52-week highs out did the new lows on three of the five sessions. Breadth was mixed at the NASDAQ as the A/D line added 884 units while the number of new lows beat the new highs on three days. Finally, the percentage of stocks above their 50-day moving average rose to 47.8% vs. 47.1% the previous week, while those above their 200-day moving average eased to 59.6% vs. 59.7%. Readings above 70.0% denote an overbought condition, while below 20% is bullish.
Sentiment Index (SI): Measuring the markets Bullish or Bearish sentiment is important when attempting to determine the marketís 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 9/22/21 shows outflows of $6.7 billion. Currently, the Sentiment Index is Neutral at +2, unchanged 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 7/30/2021 (DJIA 34935.47).
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 any time 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 limited 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.
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