Overbought Conditions and Iraq Weigh In On Stocks…

After the Dow Jones Industrial Average (chart) and the S&P 500 (chart) set all time highs last Monday, the conflict in Iraq and overbought conditions spun a modest pullback in the key indices. Although some are attributing the selling pressure to the unexpected defeat of the House majority leader Eric Cantor (R., VA).  For the week, the Dow Jones Industrial Average (chart) lost 148.54 points, the tech ladened Nasdaq (chart) -10.75 points, the S&P 500 (chart) -13.28 points and the small-cap Russell 2000 (chart) closed slightly lower on the week. What has been eye popping to me is how complacent and tranquill market participants have been. Over the past several months and especially the past couple weeks, investor sentiment has been extremely bullish which in turn has sent the VIX to multi-year lows. The VIX, also know as the fear gaugeis used as an indicator of investor sentiment. Recently the value of the VIX (chart) hit a trough low of 10.73, its lowest level since 2006. Out of all of the market events that are going on, this indicator has me concerned more than any other. As much as I have been bullish on the overall markets, when sentiment gets this comfortable and the VIX trades this low, historically markets set up for a pullback or even a correction of sorts.

This set-up is just what both the bears and the bulls have been waiting on. I personally have been tempted to short this market considering the historic record breaking run up stocks have had. But I have learned a long time ago is you don’t want to step in front of the Federal Reserve or a freight train either, which is what this market has been. So my preference is to be patient, wait for whatever pullback(s) or correction we may get, and then begin to scale in on certain long positions. I will refer to the technical set-ups of indexes and certain equities to assist me in establishing entry points. Click here to see what I look at pertaining to technical analysis. Now whether you are a technical trader or fundamental investor, the fact remains that markets remain awash with liquidity thanks to the Fed, and there really is no where else to get the alpha that hedge funds and institutional investor alike need for their performance mandates. So knowing that these institutions really dictate the ebbs and flows of the markets, my bets will continue to align with theirs and over the past few years whenever we do experience an increase in market volatility and market pullbacks, a buy signal usually ensues. Please remember it is always wise to at least consult with a certified and trusted financial advisor(s) before you compose any investment strategy or make any investment decisions. Good luck to all.

Happy Father’s Day 🙂

~George

Correction Chatter Abound…

Here come the pundits! Over the past couple of weeks the conversations of a significant market correction have spiked along with market volatility.  From billionaire investor David Tepper’s comment that “the markets appear to be dangerous” at last week’s annual SALT conference to Dennis Gartman of the renowned “Gartman Letter” stating we are in a correction as we speak. There is certainly no shortage of opinions flooding the airwaves. Now granted, recently stocks have been in somewhat of a downward trajectory especially the so called “momo” (which stands for momentum) stocks and the more riskier small-cap asset class. In fact, the small-cap Russell 2000 (chart) has been sold off more so than any other index losing around 10% from its high in early March. This while the Dow Jones Industrial Average (chart)  recently made an all time high at 16,735.51. I think it’s safe to say there has been a rotation going on, a rotation out of riskier assets into the bellwether blue chip stocks.

So what about this apparent correction that is about to happen? Some pundits are calling for as much as a 20% correction at any time. I am not so sure about that. Seemingly, when the markets do become vulnerable and volatile regardless of why, the bears begin to come out of hibernation. Yes, this bull market does appear to be a bit long in the tooth, but in my opinion one factor that still stands in the way of a severe market correction, you guessed it, the Federal Reserve. Even though the Fed has begun to taper its bond and asset purchases, they have also indicated that should the “facts on the ground shift” hence, our economy heads into a recession or should the markets experience a severe sell-off, that it would be prepared to make adjustments to its policies, in other words, another form(s) or an extended version of stimulus would most likely occur. So how can anyone bet against these markets when you continue to have the Federal Reserve as the floor to any potential significant selloff? This does not mean that volatility will not increase or that we couldn’t see pullbacks or even quasi-corrections and should this be the case, I have got to believe the bulls would step right in and deploy their capital right along with the Fed.

So if you are currently bearish on equities or you are buying into the chatter of an imminent market correction and have gone short, you may want to consider covering your positions in the event of a 5 or 10% retracement or for that matter, a breakout from the current levels. Personally, I will look to add to certain positions should we see the correction many are talking about. Of course, it is always best practice to consult a professional financial advisor(s) before developing a market strategy or making changes to your portfolio. Good luck to all.

Memorial Day weekend is coming up and the markets will be closed on Monday May 26th. Both Paula and I wish everyone a safe and healthy Memorial Day and we want to thank and are grateful to all of the veterans and their families who gave the ultimate sacrifice serving our beloved country. We also want to thank the brave men and women who are currently serving our country and protecting our freedoms.

Sincerely,

~George & Paula

A Ho Hum Q1…

It doesn’t seem like it, but for the first quarter of the year the four major averages were essentially flat. For the quarter, the Dow Jones Industrial Average (chart) closed basically unchanged, the tech heavy Nasdaq (chart) finished up just over 1% percent, the S&P 500 (chart) +2.2% and the small-cap Russell 2000 (chart) closed out Q1 slightly up. Quite an uneventful quarter at least from a P&L standpoint especially considering China’s economic slow down and the Ukraine crisis that unfolded in the quarter. There was a period in late January in which we saw a sharp 5% decline only to be met with unconditional support, followed by a rally which led the markets back to almost unchanged on the year.

As I always do at the end of each quarter, I look at the technical conditions of the aforementioned indexes and how they are shaping up going into a new quarter. There are plenty of market technicians out there that use a variety of techniques and indicators to identify trends and where the markets may be headed. My preference is to keep things as simple as possible when conducting technical analysis. As you may know by now, two of my favorite technical indicators are the  Relative Strength Index also know as the RSI and the moving averages. Part of the reason why I prefer these two reliable indicators over most is it is now seemingly more than ever computerized trading models are emphasizing the RSI and the 20-day, 50-day, 100 and 200-day moving averages in their models. These indicators also have been a long time favorite of institutional investors. So it’s no wonder that when the Relative Strength Index (RSI) is indicating an overbought or oversold condition in an index or equity, more times than not, the asset finds support and changes direction. The same can be said for the moving averages, whenever a stock or index bumps up against or comes down to its moving average, typically the stock or index finds support or resistance.

Let’s break this down in more detail starting with the (RSI), The RSI is designed to demonstrate whether or not an index or equity is overbought or oversold, depending on certain value levels. According to the RSI principle, the 70 value level or greater, is an overbought condition and the 30 value and below is an oversold condition. Looking at the aforementioned indices now, there is no indication of an overbought or over sold condition. However, both the Nasdaq (chart) and the small-cap Russell 2000 (chart) are trading and have closed below their 50-day moving averages. These two indices have been leading the markets higher and now comparatively speaking, they have begun to lag, a potential short term ominous sign. Now it has only been a couple of days that both of these indexes have been trading below this support line so we will have to wait and see if this turns into a longer term trend.

That said, we will not have to wait much longer. This Friday’s jobs report will shed light as to the health of the labor market and don’t look now but Q1 earnings reporting season is on deck. Without a doubt, Q1 earnings reporting season will be placed under a microscope to see if corporate America and the markets deserve their current valuations. Personally, I think a rather healthy pullback may be in the cards for equities and if so, most likely, the trend of unconditional support will come back into the markets as well.

Good luck to all. 🙂

~George

Stocks and Indexes Continue to Set Records!

The month of October proved to be yet another record setter with a number of stocks from a variety of sectors hitting all time highs and the S&P 500 (chart) setting a new record high of 1775.22 on Wednesday. The Dow Jones Industrial Average (chart), the Nasdaq (chart) and the small-cap Russell 2000 (chart) all hit 52 week highs as well on Wednesday. This seemingly unstoppable bull run is unprecedented with gains of over 20% on most of the key indices year to date. I think it is fair to say a pause is overdue and would most likely be very healthy for the overall market.

In last month’s opening blog, I discussed how selling options premium can be beneficial in times of increased volatility, and in particular the “covered call” strategy. Today I would like to cover “selling puts” as a way to create options premium income. Unlike the “covered call” strategy where you must own the underlying security in order to “write or sell” a covered call, selling a put does not require you to own the security. However, by selling a put, you are potentially obligated to purchase the security should it close below the strike price you chose on its expiration day.

Let’s look at an example of selling a put on a given stock and like last month I will use Facebook (NasdaqGS: FB) as the example. Facebook is currently trading around $50 dollars a share. In looking at the options chain on Facebook and its current pricing, the December $48 puts are bidding around $2.00 dollars per contract. If an investor were to sell 10 December $48 dollar puts on Facebook for $2.00 per contract, that investor would bring in $2,000 dollars in premium less transactions costs. If Facebook closes above $48.00 dollars a share on expiration Friday in December, the investor would keep the entire premium he collected. However, by selling the 10 put option contracts, the investor has the obligation to purchase 1000 shares of Facebook should Facebook close below $48.00 per share on expiration Friday in December. It’s important to note that before considering and implementing a “selling put” strategy you must be willing to own the stock at the strike price you sold the puts on and in this Facebook example, that would be $48.00. However, your cost basis would not be $48.00 because you received $2.00 in premium when you sold the puts, therefore, your cost basis would be $46.00 per share less transactions costs.

Please also note this is not a recommendation to sell puts on Facebook or any other asset or index. This is merely another example of how an investor can capitalize on selling options premium. In closing and as I always suggest, please consult with a certified financial planner(s) before making any investment decisions.

Have a great weekend 🙂

~George

Is risk back off?

On the last trading day of May, the Dow Jones Industrial Average (chart) sold off by 208.96 points, the Nasdaq (chart) -35.38, the S&P 500 (chart) -23.67 and the small-cap Russell 2000 (chart) finished the day lower by 10.28 points. Is this a possible prelude for the month of June? After the six-month+ run that stocks have been on, one has to wonder if these markets are poised to correct?

As I wrote in mid-May, I expected volatility to begin to increase, and sure enough the VIX (chart) also known as the fear gauge spiked 27.5% over the past two weeks. Ever since the Fed began mapping out an exit strategy, the market chatter has steadily increased as to how stocks and bonds would react. Furthermore, since its May policy meeting, the Fed has had a difficult time communicating its position as to how it will move forward. I know that some type of jaw boning needs to occur in order to prepare the markets for the beginning of monetary easing. However, a policy statement at the beginning of May indicated that the Fed’s next move could either be up or down? Confusing isn’t it? So it’s no wonder some sort of fear has begun to creep into these markets.

That said, this has become such an unprecedented market environment, I don’t know what to think right now. Isn’t the job market, corporate earnings, and top-line growth supposed to drive stocks? What I and many on the street are concerned with is the day the Fed decides to begin its wind down, how will equities react? Next week I will be paying close attention to the plethora of economic reports that will be issued which includes the PMI and ISM manufacturing indexes, the Beige Book and of course the all important Jobs report which will be issued on Friday before the market open, just to name a few. If the economy can begin to demonstrate meaningful strength, then any type of pullback or correction will most likely be met with wide support. However, if economic numbers stay weak, then we could very well be in for a lot more volatility this summer. Good luck to all.

Have a great weekend 🙂

~George

En route to 20%? Wait a minute…

As stocks and key indices continue to break records, the four major averages are now approaching 20% gains year to date. So far this year, the Dow Jones Industrial Average (chart) is up a whopping 15.37%, the Nasdaq (chart) +13.81%, the S&P 500 (chart) +14.55% and the small-cap Russell 2000 (chart) is up year-to-date 14.81%. But hold the phone! A report issued after the close on Friday just might be what the bears have been looking for and what could be a catalyst to a pause or pullback to these red hot markets.

On Friday after the close, an article came out in the Wall Street Journal citing that the Federal Reserve has begun to map out a strategy for winding down its $85 billion-a-month bond buying program. This super aggressive part of the ongoing stimulus program has played an enormous role in the lift in equities and the economy over the past year or so. Although the article cited a variety of options that the Fed is outlining, there are some Fed officials calling for the wind-down to begin as early as this summer. I will be very interested to see how the markets react to the report this upcoming trading week. I do not think anyone expects that the Fed will be overly aggressive with any adjustment it makes, but nonetheless, stocks have been a huge beneficiary of this extraordinary component of the stimulus program. I wouldn’t be surprised if the markets will take this latest cue and begin to exhibit an increase in volatiltiy. Besides, and as everybody knows, equities have been long overdue for a pause at the very least, and even more so a healthy pullback.

As I look to the internals of the market, this unprecedented run stocks have had so far this year has been on lighter volume, but this also has been the case since the bull market began back in 2009. Whatever the case is, without question these markets have been and are over extended to say the least. Let’s see if the Fed’s latest statement shakes the trees out a bit. I am considering initiating a short bias theme in certain indexes but will have the utmost discipline in protecting any positions by have very tight stops. Seemingly, almost everyone who has attempted a short strategy this year most likely endured a great amount of grief, however, at some point and time the bears should have their day in the sun. I am not suggesting that anyone should short this market or any market for that matter, short selling markets of any kind involves a significant degree of risk and is not for the feint of heart. That said, and as always, make sure to consult with a certified financial advisor of your choice when considering any investment strategy. Have a great week 🙂

~George

Stimulus to continue…

Stocks finished the week modestly lower despite the Federal Reserve extending its commitment to keep interest rates near zero. For the week, the Dow Jones Industrial Average (chart) closed lower by 20.12 points, the Nasdaq (chart) -6.71 points, the S&P 500 (chart) -4.49 points and the small-cap Russell 2000 (chart) was one of the sole indexes that managed to eke out a gain finishing the week up 1.48 points.

On Wednesday the central bank enhanced its accommodative policies by now tying the near zero interest rate environment to the unemployment rate vowing that interest rates will not increase until the unemployment rate in our country moves down to 6.5%. I think this creative move surprised most economists for never before has interest rates been directly tied to the unemployment rate. However, the market reaction was less than impressive to latest addition that the Fed made to its policy. My beleif is that until we get some sort of deal out of Washington on the fiscal cliff, not too much will be able to move the needle on these markets. That said, once we have clarity on the fiscal cliff dilemma, I will continue respect the power of the central bank and its ability to remain a significant force in our economy and our markets. In the meantime I will pay close attention to how the market action looks vis-a’vis the technicals on the key indices, and will be ready to deploy a long bias strategy once the coast is clear, Good luck to all.

Have a great weekend 🙂

~George