Strategic Mindset: We're overall market neutral - all quiet on the western front - but it's too quiet. Volatility is plumbing new lows not seen since July 20011 and the invisible hand of the Fed seems to be lifting this market gently skyward. Even Bernanke's 'no QEIII for you' comments in front of Congress didn't spook the market liquidity drunks and the party continues. Until it doesn't. It will end - not a matter of if but when. We have identified a potential target based on our overall Strategic Mindset.
Target: United States Oil ETF (USO) currently trading at $40.48
Commit Criteria: At the beginning of February the Washington Post reported that SECDEF (Secretary of Defense) Leon Panetta believed that Israel would strike Iran potentially as early as "April, May, or June". Nearly 2 weeks later the head of the Russian General Staff, General Nikolay Makarov, echoed Panetta's strategic mindset by saying, "Iran is a sore spot," and "I think a decision will be made by the summer."
I have several heavy friends ('heavy' is a navy term for high ranking officers) deployed as Commanding Officers of fighter squadrons on the Tip of the Spear in the NAG (Northern Arabian Gulf) who confirm that tensions are much higher than reported. The intel gathering we've done on this trade has been significant and even if Obama "bribes" Netanyahu to keep cool until after the elections, we still have the approaching summer travel months were oil tends to spike and oil CEOs are dragged in front of Congress by "leaders" who don't understand the words "supply and demand."
6 Month and 20 Day Charts:
Our 6 month radar reflects the steady rise in oil as tensions in the middle east rose and Europe considered … I said considered … sanctions (more obviously … saying "Stop! Or we'll yell Stop! again" doesn't seem to grab a guys attention who is focused on hastening the arrival of the 12th Imam).
But after the immediate threats cooled, USO has found support in the mid 30s, seen another spike based on some saber rattling and other supply issues, and is now on the 20 day chart is channeling in a pennant formation. We believe USO is poised to a breakout to the upside.
Tactic: Bullish Double Vertical Debit Spread
Tactical Employment:
- Buy to Open 15 Jun 33 Puts
- Sell to open 15 Jun 36 Puts
- Buy to Open 15 Jun 43 Calls
- Sell to Open 15 Jun 46 Calls
- For a net debit of $.17 per contract
- Maximum risk = $4,755 (just under 5% of Primary Model Portfolio risk rule of engagement)
- Maximum reward = $4,24
Tactical Analysis:
Theta (time decay) is working in our favor initially with the bull put spread but the more time that goes buy theta starts turning negative and eating into our bull call spread.
Midcourse Guidance:
This is a highly bullish trade that oil will spike between now and June due to world events, or at least historically rise on the summer seasonal travel cycle. We like the 'thrust to weight' ratio of this trade, it's nearly 1 to 1. Risking $4,755 to potential make $4,245
But like in combat and trading … nothing goes as planned.
Eject Level: We have strict risk management rules of engagement so we can live to fight another day if things go south on us. We would eject from this trade if USO started heading south as 'world peace breaks out' and people decide not to drive this summer (SOLD! On both accounts). We'll keep a close eye on this afterburner trade since it's a double edged sword - when it goes right it rocks, when it doesn't, well…it doesn't.
As always at TGO we close the trade if the commit criteria change.
Our bullish double vertical on Las Vegas Sands (LVS) last week returned over 700% in one week.
Profitability Target: The trade objective is to allow the spread to achieve max profit but we'd be looking to take profits in the model portfolio on any spike or significant movement. We would not hold that bull call spread to expiry, unless it went through the roof.
Exit Tactic: Simply reverse the trades.
TGO Bottom Line: Oil is here with us to stay no matter how many Chevy Volts the president wants to shove down our throats (production has been halted BTW … good times ... ) or how many solar companies get sweetheart deals from us - the U.S. Taxpayer - that eventually implode leaving us on the hook and deeper in debt. And with the anti-drilling mentality and killing of projects like the Keystone Pipeline by this administration, black gold is here to stay and will continue to be volatile as international and domestic issues dominate the headlines.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. We are looking to enter this trade this morning at a .22 debit in our virtual paper trading account.
