Stocks Rally on Strong Earnings
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).
Worries that supply chain issues and rising costs might impact Q3 earnings sent stocks sharply lower to start the week, but those fears were pushed to the wayside by mid-week. Blowout earnings from the big banks, a lower-than-expected September PPI and a jobs report that saw Initial Jobless Claims hit a pandemic low below 300k jump started a rally that carried the major averages to their highest levels in a month and above key resistance. The DJIA, S&P 500 and NASDAQ all struggled to hold support early in the week at their respective 100-day moving average (MA) but the rally pushed the indexes back above their 50-day MA and left the Dow Jones and S&P 500 about 1% below record highs and the NASDAQ about 3%. Strong earnings and raised guidance from Morgan Stanley (MS), Bank of America (BAC), Taiwan Semiconductor Manufacturing (TSM), UnitedHealth Group (UNH) and others on Thursday sparked a broad-based rally that saw every sector trade higher led by 2% gains in Materials (XLB) and Technology (XLK) and a +3.08% surge in the Philadelphia Semiconductor Index. The DJIA’s 534.75 point (+1.56%) spike was its best one-day point gain since 7/20/21 with only two components red. A record earnings report from Goldman Sachs (GS) and a jump in shares of Moderna (MRNA) after the FDA voted to approve its covid booster shot saw the rally continue on Friday. For the period, the gains were led by strength in Materials (XLB), REITs (XLRE) and Consumer Discretionary (XLY), which surged more than +3.5%, followed by Technology (XLK) and Industrials (XLI) with only the Communication Services (XLC) sector finishing lower weighed down by losses in Facebook (FB), AT&T (T) and Verizon (VZ). Led by the DJ Transportation Index, the major averages were higher for a second straight week and finished the period with their best weekly performance since June.
For the period, the DJIA gained 548.51 points (+1.6%) and settled at 35294.76. The S&P 500 added 80.03 points (+1.8%) and closed at 4471.37. The NASDAQ jumped 317.80 points (+2.2%) to close at 14897.34, while the small cap Russell 2000 snapped a three-week losing streak gaining 32.56 points (+1.5%), finishing at 2265.65.
Market Outlook: The technical condition of the market improved this week as the major averages were able to rally through key resistance areas and close the period higher for a second consecutive week. The technical indicators are in positive territory with MACD, a short-term trend gauge, crossing into bullish ground and Momentum, as measured by the 14-day RSI also bullish. As the period ended, the major averages were trading back above their respective 50-day moving average (MA) including the small cap Russell 2000 and DJ Transportation Index. The DJ Transportation Index outperformed the broader market, soaring +3.8%, which is also a plus going forward. The Russell snapped a three-week losing streak, but remains in its trading range that has been in place since February. Negative divergence, which had been showing up in the charts and hinting that the market could see more weakness, was aborted with this week’s positive action. Sector-wise, Consumer Discretionary (XLY), Energy (XLE) and Financials (XLF) are trading at new highs, while Technology (XLK), Industrials (XLI), Materials (XLB) and REITS (XLRE) were all trading back above their 50-day MA showing broad participation in the market’s move.
Underlying internal breadth also improved this week with the NYSE and NASDAQ Advance/Decline lines, which are leading indicators of market direction, moved higher and new 52-weeks are beginning to expand on the indexes, another plus. Investor Sentiment is currently neutral, and the professionals may have been caught off-guard by the markets surge higher. The National Association of Active Investment Managers (NAAIM) showed hedge funds were 93% invested back in September and that moved lower again last week, easing to 64.5% invested. That indicates money is on the sidelines that needs to go back into equities and can push prices higher.
Equities bounced back this week and strong momentum could push the major averages to new highs. Earnings are coming in up about 27%, and signs that inflation could be easing while economic growth remains strong, should help the stock market absorb higher yields as the Federal Reserve’s tapering of asset purchases begins later in the year. In addition, the market will soon be heading into what is a seasonally strong period for stocks that could see the gains extend into year-end. Next week is one of the busiest periods for earnings and all eyes will focus on big cap technology. Not everyone is on board that the tech companies will be able to dodge supply issues and if earnings or guidance disappoint, we could see volatility shake out investors. However, at this stage, buying in the cyclicals and reopening stocks should be able to limit downside if any of the big cap heavyweights come up short.
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 +4, down six notches from the previous week. Cycles A, C, D and E are bullish, while Cycle B is bearish. The CTI is projected to remain in a positive configuration into year-end.
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 +6, up eight notches from the previous week. Breadth was positive at the NYSE as the Advance/Decline line gained 2783 units while the number of new 52-week highs exceeded the number of new lows on all five sessions. Breadth was also positive at the NASDAQ as the A/D line added 1389 units while the number of new highs out did the new lows on three days. Finally, the percentage of stocks above their 50-day moving average jumped to 53.8% vs. 43.3% the previous week, while those above their 200-day moving average increased to 60.7% vs. 57.6%. 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 markets future direction. Market Edge tracks thirteen technical indicators listed below that measure excessive bullish or bearish sentiment conditions prevalent in the market. The Sentiment Index is Neutral at +1, down a notch from the previous week. In addition, we track money flows into and out of Equity Funds and ETFs which as of 10/13/21 shows inflows of $1.7 billion.
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 ‘The Three O’clock Ting’ and how do I handle it?
If you have ever been short an option (put or call) you have probably experienced what we call ‘The Three O’clock Ting’ which happens on expiration day if your option is trading in the money. Since all of the Optionomics strategies involve the selling of one form or another of a credit spread, you are going to run into this situation from time to time.
When you are short one option, you can be assigned the underlying stock which means that if you are short a put, you could end up being long 100 shares of the underlying at the close on expiration day. If you are short one call, you could end up being short 100 shares of the underlying. If your short option is either in or near to being in the money, your friendly broker will usually either call you or send you an e-mail to see what you want to do. This usually happens around 3:00 on expiration day which is usually Friday. The following is an example of an e-mail you may receive if you sold a CVX 90 – 92 call credit spread and the stock is trading above $90.
Your CVX short – $90 call option expires today. If CVX closes above $90, you’ll likely be assigned to sell 100 shares of CVX for $90 per share leaving you short 100 shares of stock.
or
Your CVX long – $92 call option expires today. It will exercise automatically if CVX closes above $92 leaving you long 100 shares of stock at $92. If you can’t buy 100 shares of CVX, we’ll sell your option about an hour before market close
If this happens, here are your options:
- If your short option is out of the money and you think it will expire worthless, don’t do anything. Pocket the doe and move on.
- If the option is in the money and looks like you will be assigned, you can buy back the short option and that would be the end of it. You will either have a small profit if the option is trading below where you sold it or a small loss if the option is trading above where you sold it.
- If you have sufficient funds in your account, the broker should leave things alone and let you get assigned. You will end up on Monday morning with either a long (short put) or short (short call) position of 100 shares of the underlying stock.
- If you don’t have sufficient funds in your account to cover an assignment, your broker will cover the short part of your credit spread at around 3:00 at the market price which is usually a bad deal. Here is why.
Remember, the reason you are short the option in the first place is to take advantage of the inherent time decay (theta) of the option’s premium which occurs as it approaches expiration. You would be surprised how much premium can be remaining in an option with only one hour remaining until expiration. Assuming the underlying stock’s price remains the same through the close, that premium should be yours, not the market maker. The only way to keep this remaining part of the premium is to be able to wait it out which you can do if you have sufficient funds in your account to cover the assignment. This way you can close the position closer to 4:00 and bag the doe which can add up over time.
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