Timid Tuesday: Is it Safe?

 |  Includes: DIA, QID, QQQ, SPY
by: Philip Davis

QQQQ WEEKLYIs it safe?
Is what safe?
Is it safe?
I don’t know what you mean. I can’t tell you something’s safe or not, unless I know specifically what you’re talking about.
Is it safe?
Tell me what the "it" refers to.
Is it safe?
Yes, it’s safe, it’s very safe, it’s so safe you wouldn’t believe it.
Is it safe?
No. It’s not safe, it’s… very dangerous, be careful.

One could only wish we could torture the MSM pundits the way the evil dentist tortured Dustin Hoffman in Marathon Man - these guys cannot give us a straight answer and, frankly, we’re not even sure what the question is anymore. Is it safe to buy bonds? Is it safe to buy stocks? Is our currency safe? Are commodities safe?

All this uncertainty is certainly boosting gold and, although I am no fan of gold speculation, we did take a gold hedge in last Tuesday’s Alert to Members and on Wednesday our market hedge was a 500% hedge on the Russell that goes 100% in the money right about 730. Monday’s upside Alert play was a 1,000% payoff on FAS that’s already all in the money – it’s a crazy market when your longs and your shorts work at the same time!

That’s the sort of thing that gave us the confidence to restart the "$10,000 to $50,000 by Jan 21st" virtual portfolio as we were halfway to goal at $26,000 when we cashed out in early October. We didn’t like the market then for directional plays and we still don’t but now we’re taking the opportunity to practice our short-term trading techniques in this choppy market. As you can see from David Fry’s Nasdaq chart above, we’re in a critical zone and the chips are literally flying every which way – our job is just to reach in and grab a few.

Yesterday we focused on the DIA (always a favorite) $112 calls, which opened at .94 and we took 20 at the open and stopped out with a quick .10 loss ($200) just 10 minutes later as the Dow failed to hold 11,000. We took a re-load with 30 at .75 at 11:12, stuck out the dip to .70 and cashed back out at $1.05, for a very nice $900 gain on our second attempt. We need to average $500 a day to get to our goal by Jan 21st, so we’re off to a fine start already!

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The key to day-trading options is paying close attention to your channels. In more certain market conditions, we would have rode out the initial drop and doubled down at .75 for a .80 average entry on 40 contracts but 11,000 was a key breakdown and we couldn’t be sure the S&P 500 would hold 1,177 so it wasn’t worth taking the chance.


As you can see from David’s S&P chart, we did get our hold at 1,177 and between looking stronger at the 1,180 line and our anticipation of the day’s POMO by the Fed, we were brave enough to test our buy premise for the 2nd time. We’re also getting used to these sell-offs into the close and we know to take the money and run sooner, rather than later. I called an end to this trade at 3:29 in Member Chat as we have no reason to be greedy on a 40% day’s gain.

That left us with a bearish play on one of our high flyers and a bullish play on the Financials as we need something to the upside, just in case but I can assure you our hearts are not in the bull side just yet because no one can answer the question – "Is it safe?"

That’s why we have 1,000% plays to the upside hedging 500% plays to the downside – we don’t know what’s going to happen but we sure do think something is going to happen pretty soon! So, we construct plays that give us great pay-offs in either direction which enables us to use just a little bit of our sideline cash on trades that can give us a 5x and 10x payoff. We don’t really care what the market does and, in fact, when it does nothing – as it has been for a week – we can win on both sides! This is what hedging is all about – striking a balance that allows us to take advantage of opportunities in either direction or no direction at all.

There is risk, of course, and the risk we take on these spreads is usually being forced to own the underlying stock or ETF at a discount (see "How to Buy Stocks for a 15-20% Discount"). This is just fine as long as you only play things you really do want to own at the assignment price so always keep that in mind – we expect to have the losing side put to us and we are pleasantly surprised if it isn’t but, if it is, we are happy to be long-term owners in, for example, QID.

Speaking of QID, it is the Nasdaq we’ll be looking to short if the Dow and the S&P 500 break down as they certainly have the most to lose next to the Russell, who we are already short on. We already have longer-term QID spreads, also in the 500% range, that we were using at the top to guard against a move back to $50 on the Qs. The Qs are always fun to play with as they have weekly options and we love our weekly option plays! Oil is another short play on our radar but we were hoping for a more bullish surge last night to give us a better entry than $86. Now the dollar is back to 81.40 and oil can’t even hold $85 – pathetic!

That’s not stopping gold as it is perceived as "safe" by millions of global investors who are liquidating their Euros. $130Bn floated to Ireland Monday morning didn’t even keep the EU markets up through lunch-time as they dropped about 2% on the day, closing at the lows. This morning, after gapping up (bouncing) half a point at the open, the EU markets are now down about half a point during lunch. As Martin Weiss points out:

The authorities had hoped that Irish bond yields would come down sharply, helping to avert a disastrous, additional interest burden for the government. Instead, bond investors have dumped Irish bonds with both hands, driving their prices down and yields up. Exactly seven days ago, on the morning after the big bailout announcement, the yield on Ireland’s benchmark 10-year government bond was near 8 percent. Now, it has surged by more than a full percentage point to 9.17 percent. That extra interest cost alone threatens to eat up a big chunk of the bailout money.

That doesn’t sound "safe" at all, does it? As I said to Members in my Weekend Post, where we examined the Dollar chart – "I’m not a TA guy, but dollar bears should be very concerned if we break up here as conditions are ripe for a big run." At the height of the last Greek debt crisis — on February 8, 2010, to be exact — the cost of insuring a €10 million 5-year Greek government bond reached a peak of €420,855. But last week, the cost on the exact same instrument had surged above €1,000,000! Who is going to keep their money in Europe under those conditions? Notorious bond pimp, Mohamed El Erian was on CNBC this morning, calling for action before his investments turn sour! Europe isn’t "safe", California isn’t "safe", giving money to Timmy certainly isn’t "safe" and borderlines irrational. Asia may not be "safe" either so where is a man with $1Tn under management supposed to go? I’ll be the first one to chip in to send El Erian and Bill Gross to another planet so they can wreck their economies for a change – who’s with me?

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Of course the boys from Pimpco are already trapped in their own little hell with pretty much every nation on Earth defaulting on debt. What, you say? Who is defaulting on debt? Pretty much everybody says I and so says the Market Oracle, who have a nice article with "eight-by-ten colour glossy photographs with circles and arrows and a paragraph on the back of each one explaining what each one was to be used as evidence" that makes the very good point that inflation, quantitative easing or whatever you want to call it is simply a default on debt only it’s the kind of default where you pretend to pay back the debt but you pay it back with worthless bits of paper that in no way, shape or form resembles the value of the paper you were lent. That’s default folks!

How is it better to have a global policy of "extend and pretend" that amounts to nothing more than a multi-trillion Dollar massive default against bondholders (as their debts get canceled for monopoly money) than to just honestly restructure global debt so we can all see where we actually stand and reorganize (because that’s what bankruptcies are supposed to help us do) in order to move forward more responsibly in the future. It is not "safe" to pretend that the global markets are functioning correctly and to keep taking new investors capital in this global Ponzi scheme that is, in fact, collapsing right now!

What’s beginning to unravel, even in this "brilliant" scheme is that investors are starting to wise up and are reluctant to put more money into money-printing nations like the US, the EU and Japan. Even China had a failed bond auction last week and Spain is having them weekly with the last auction not filling at 5% and we’re already up to 5.25 with 5.5% likely on the next offering. At 6%, the wheels begin to come off the El Autobus and then all bets will be off in the EU.

The US has "solved" the problem of waning interest in our TBills by selling them to the Fed and I encourage anyone who has debts to try this at home. Simply take out your checkbook and give your spouse some deposit slips. Let them go upstairs so you don’t feel like it’s all being done in the same room. Then have your spouse put down whatever number you need as a deposit, which you can then immediately write checks against. If anyone wants to know where your wife got the money – she can say – well my husband clearly made an entry in his checkbook that we had the money and that’s the money I’m using to give him! See, who can argue with that kind of logic?

This is how we pay off our current debts and I think bondholders are simply happy to get anything out of a country that admits it owes $15Tn (1/4 of global GDP) but probably owes closer to $60Tn (entire global GDP) in the form of unfunded liabilities. The funniest thing about this (and you have to laugh) is to see Conservative pundits get on TV and talk about how we need to cut $100Bn worth of discretionary spending to "fix" this (while continuing to spend $1Tn on the military and $1Tn on tax cuts for the top 1% each year). There is no fixing this and even a Republican said you can’t fool all of the people all of the time.

This house of cards is teetering folks – please be careful out there!