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Of all of the EU countries, Spain is currently one of the most troubled. Its main stock index, the IBEX 35, is in a strong downtrend (see the two year chart below).

(click to enlarge)

The main chart shows that there is a strong downtrend in place with the 50-day SMA firmly underneath the 200-day SMA. The slow stochastic shows that the IBEX 35 index is oversold. This may mean that you may wish to wait for a bounce upward before you short it. It may mean that you want to average into a short position so that you do not miss the entire, perhaps dramatic, move downward. In other words, there is no law that says a temporary bounce must occur. The economic uncertainty in Spain and in the EU in general is very high. Spain is already troubled by how to pay for the 19 billion euro bailout of Bankia, which Spain nationalized recently as the first part of its rescue.

Bankia still has many more bad debts. It could require even further funds in the future. The Bank of Spain has estimated that the country's banks are sitting on 180 billion euros in tenuous assets due mostly to the real estate bubble there. The Spanish banks have been hiding real estate losses for years now, hoping for an economic upswing. That is clearly not coming soon. In fact, Christine Lagarde has suggested that the EU may experience a "lost decade". It is time for Spain to pay the piper. The rating agencies have been downgrading Spanish banks aggressively in acknowledgement of this. For example, Moody's downgraded 16 Spanish banks in mid-May. Many other agencies have been doing the same thing.

The latest poll information indicates that the Greek anti-austerity parties, headed by Syriza, have regained the lead in the polls in Greece (pro Greece leaving the euro). SocGen estimates that the DJ Euro Stoxx 50 could lose at best 23% and at worst 45% of its value on a Greek exit from the euro. This latter possibility is looking ever more likely. This is without even considering the problems of Spain, Italy, Ireland, Portugal, etc. Spain already has 24.44% official unemployment. Actual unemployment is much higher as the official figures do not include aliens. There are a lot of aliens in Spain.

The Spanish government estimates that this year's austerity budget tightening alone will reduce the Spanish GDP by 2.6%. If you consider that a Greek event or a major problem in one of the other PIIGS could trigger a deep recession in Spain. You have to wonder just how much worse the unemployment situation would get in that case. If you consider that Spain may adopt some new austerity measures to satisfy the Troika, you have to wonder how bad things could get. Virtually all of these eventualities should result in Spanish stocks going lower. This means shorting these stocks makes sense.

Shorting the IBEX 35 index seems like a good idea. If you did this, you could short the index in euros. If the index went down, you would profit. If the euro went down at the same time, you would have to pay even less to buy the stocks back. You could profit two ways. Unfortunately, I was not able to identify an easy way to do this.

An alternative method of shorting these approximate stocks would be to short a prominent US traded ETF, the iShares MSCI Spain Index Fund (NYSEARCA:EWP). The chart of this is much the same as the above IBEX 35 chart. This should allow you to profit from Spain's further problems. Yes, it would have been nice to get into this trade a lot sooner. However, the data above should tell you that the trade likely still has "legs". I tried to short EWP in one of my accounts, but the trade was rejected because the stock was not available for shorting. You will have to approach this using the put options available. If you are able to find a way to short EWP, this might work better. I leave this to you.

There are major bond sales scheduled for both July and the end of the year. To me this means that buying either July 2012 puts or Jan. 2013 puts makes the most sense. Since volatility costs are high currently, you may wish to eliminate some of the expense of these options by buying put spreads. Then the you get back some of the volatility and time costs from the put option that you sell. A July 22/19 put spread might be appropriate. Since EWP is currently oversold, you may wish to average into this trade.

Good Luck Trading.

Source: Win 2 Ways: Short Spanish Stocks