Email – #409
Following very good news from overseas this weekend, the stock markets are looking up right now.
This makes a pleasant change from the last holiday weekend – Martin Luther King Day – when we opened the next day down more than 500 points.
That said, the market’s overall psychology is still quite fragile. All is not well just yet and we need to be aware of the possibility that the indexes will retest their lows. That’s exactly why we are mainly in two-year LEAPS.
Speaking of figuring out where the indexes will head next, that’s the bread and butter of my technical analysis expert, Jim Stanton. I caught up with Jim this weekend and he tells me that the market must still overcome short-term resistance targets before an upside move can take place.
The most obvious evidence is on the S&P 500. The index has had a tough time moving past a resistance level of 1,370 over the past few sessions and it’s a critical point that we must cross and stay over.
A Low-Cost Strategy To Capitalize On A Selloff
This weekend, I also spent some time trying to come up with a low-cost put strategy that would give us the opportunity to profit if the market turned back down. While it’s good in theory, the problem here is that put premiums are very high right now. This reduces our chances for profits even if the market goes lower (unless we have a full-scale crash).
In order to solve this issue of high expense, we will have to look to another strategy – one that is quite effective, but also needs some explanation.
Simply put, if we fail to rally past the 1,370 level and stay there decisively, then I will make the recommendation to go short the PowerShares QQQQ (Nasdaq: QQQQ), the ETF for the Nasdaq index. This is a cheaper play than the corresponding S&P trade.
Run With The Bears
We’re going to do this using a BEAR SPREAD.
This technique will cost us less to execute and give us a very good upside in the event the market does not cooperate. Here’s how it works…
With a bear spread, you buy a higher strike option (A). In this case, let’s say the QQQQ $45 puts.
Against this position, you sell a lower price option (B). Let’s say the $37 puts.
The premium you receive from selling the lower strike option would offset some of the expense of buying the higher price option. The most you could lose would be limited to the cost of the spread (A minus B).
The upside to the trade would be the difference between the two strikes, less your purchase cost. A spread like this would reduce our cost of ownership by 50% to 75% versus owning the put outright.
You can read more about how to execute bear spreads in our free e-letter – the Smart Profits Report. Check it out here: http://smartprofitsreport.com/Archives/2006/20060713.html
I’m telling you this now so you can be prepared by contacting your broker and getting permission to engage in a spread trade (some brokers will require extra paperwork). If you have questions about spreads or for requirements to set up your account for spreads, contact Pillar One partner Greg Long at GunnAllen Financial at 800-329-1984. He offers 400 Report members extremely competitive commission rates.
So if you don’t already have permission to do spread trades, get in touch with your broker and be ready for a new pick this week.
Karim
Current Portfoli
Company / Option: Pfizer Jan. 2010 $25 calls
Option Symbol: WPE AE
Current Price: $1.80
Comments: Hold
Company / Option: Bank of America Jan. 2010 $55 calls
Option Symbol: WBA AK
Current Price: $2.55
Comments: Hold
Company / Option: Fifth Third Bancorp Jan. 2010 $30 calls
Option Symbol: YJF AF
Current Price: $3.40
Comments: Hold
Company / Option: Viropharma Jan. 09 $12.50 calls
Option Symbol: ZCG AV
Current Price: $1.80
Comments: Hold
Company / Option: American Eagle Outfitters Jan. 2009 $30 calls
Option Symbol: VXX AF
Current Price: $1.05
Comments: Hold
Company / Option: Sun Microsystems Jan. 2009 $5 calls
Option Symbol: XOG AA
Current Price: $0.42
Comments: Hold
Company / Option: Mylan Labs Jan. 2010 $20 calls
Option Symbol: WYQ AD
Current Price: $1.30
Comments: Hold
Company / Option: Cirrus Logic Jan. 2009 $10 calls
Option Symbol: VUR AB
Current Price: $0.15
Comments: Hold
Company / Option: Coeur D’Alene Jan. 2009 $2.50
Option Symbol: ZYB AZ
Current Price: $2.30
Comments: Hold
Company / Option: Microsoft – bull spread
Jan. 2009 $32.50 call(bought)
Jan. 2009 $40 call (sold)
Option Symbol: VMF AZ
Option Symbol: VMF AH
Current Price: $1.85
Current Price: $0.37
Comments: Hold
Company / Option: Tenet Healthcare – bull spread
Jan. 2010 $5 call (bought)
Jan. 2009 $7.50 call (sold)
Option Symbol: YTX AA
Option Symbol: ONZ AU
Current Price: $1.25
Current Price: $0.30
Comments: Hold