The Volatility Trader
105 W. Monument Street
Baltimore, MD 21201
Tuesday, October 24, 2006
Email – #207
This e-mail contains three parts, so buckle up!
1. Update On Current Positions
2. Fed Watch
3. NEW TRADE
1. Update On Current Positions
The S&P 500 is having trouble gaining ground today. So we’ll keep the SPY November $138 puts (SFB WH) open, and move the stop up to 138.01. This means, close the position if the SPY closes above $138.01.
Elsewhere, the Volatility Index (VIX) is up slightly today. I’m looking for a breakaway gap within the next few days.
2. Fed Watch
The Federal Reserve bankers meet again this Friday to discuss monetary policy. Shouldn’t be any surprises here, with the market expecting no change in interest rates.
While leaving the Fed rate steady at 5.25% won’t affect the market, the comments released with the meeting will. And this is partially why I’m erring on the side of caution right now.
For example, if the bankers make any “inflation” related comments and don’t allude to easing in the first or second quarter of 2007, the market could react negatively. This news combined with a negative new homes sales report on the same day might be the nail in the coffin of this rally.
In addition to the Fed statement, if the third quarter advance GDP report (also released on Friday) finds economic growth below 2.2%, coupled with growth in the core PCE price index greater than 0.2% (indicating inflation), the market will tank.
At this point, if all of the above do come to fruition, Friday or Monday could catch the rampaging bulls by surprise – and could be a day for the record books. Caution is key.
3. NEW TRADE
It’s always important to be positioned for whatever the market might throw at you. So to hedge our risk of a continued breakout, buy the Alcoa November $25 calls (AA KE) for no more than $2.85.
Set your stop for this trade if underlying shares close below $26.35.
Thanks to overly-optimistic third quarter earnings guidance on the part of the Alcoa executives, the company recently missed estimates. (However, as you can see from the chart below, aluminum prices have spiked and now trading close to a 52-week high). That sets the stage for a sharp rebound in Alcoa.
To back this up, take a look at the Alcoa chart itself. The stock is testing the descending resistance of the recent downtrend. Should the Dow trade higher, Alcoa should “breakaway” and begin to move upwards.
Exit is everything,
Mark Whistler
Current Portfoli
Stock or Option: Alcoa Nov 2006 $25 calls (AA-KE)
Current Price: NEW
Action to Take: Buy calls for $2.85 or better. Sell if AA closes below $26.35.
Stock or Option: CBOE Volatility Index Nov 2006 10 calls (VIX-KB)
Current Price: $2.05
Action to Take: Hold calls. Sell if the VIX closes below 10.
Stock or Option: SPDR Nov $138 puts (SFB-WH)
Current Price: $1.60
Action to Take: Hold puts. Move sell stop to a close above $138.01 for SPY.
Stock or Option: TXU Corp (NYSE:TXU)
Current Price: $64.19
Action to Take: Hold SHORT. Buy stop is above $67.50
Stock or Option: TXU Corp Jan 2007 $55 puts (TXF-MK)
Current Price: $0.60
Action to Take: Hold puts. Sell puts if TXU closes above $67.50.
