XLF: Financial Barometer

Despite the universal ban on financials, it is possible go short and buy puts on the Financial Select Spyder (XLF). On Traders Asylum we’ve been following this ETF closely, as a thermometer of the market and a reflection of the market’s faith in the financial sector’s overall health.

This past Friday, after the SEC’s shorting ban and the announcement of the Treasury’s bailout plan, XLF surged from a low of $18.24 on Thursday to an open of $24.00. However, the surge wasn’t sustainable, and the ETF has been facing significant headwinds ever since. 

Today, we suggested XLF $20 [XLF VT] , $18 [XLF VR] and $15 [XJZ VO] puts and GLD $100 calls. On the XLF puts we were rewarded with 10-30% gains, most of those in the last 30 minutes of trading. GLD $100 calls were even more active, returning a 60% for the day.

Given the sharp acceleration in the decline in the market into the close, we expect to see additional gains in both  positions through the week.  I believe we will see XLF revisit recent lows of $18. Given the strength of the $15 ETF calls [XJZ VO], the market seems willing to consider an even sharper fall. 

My interpretation of the XLF’s performance today is that the market has lost faith in the Treasury or Fed’s ability to find a solution to the problem of billions of dollars of toxic debt sitting on bank balance sheets (Financial Select SPDR). Previous fixes have proven to be merely short term solutions and July’s less drastic restriction on shorting merely led to air pockets in the prices of stocks like FNM and FRE, probably accelerating their decline after the ban was lifted.

Can any of us blame professional and retail investors alike for acting on a well-earned skepticism, and choosing instead to buy gold up another 5% yesterday alone or sit in cash? 

Nouriel Roubini, NYU Professor of Economics, had warned  that worse is to come, and as hedge funds are battered by mass redemptions, they will need to unload positions, accelerating the decline. 

At this point, protection of capital is paramount. GLD provides an easy and attractive way for trading investors to participate in the metal’s gains without trading riskier futures or buying illiquid bullion. 

In short, yesterday the market voted on the Treasury’s plan, and the verdict, per the performance of the XLF (down a significant -8.18% to $20.60 after hours), is a big Bronx cheer. 

Disclosure: the author has puts in XLF, calls on GLD and owns gold bullion as well.

Comments

[CLH:]

Short term you may be right, but long term I will stick with financials. Gold is a flash in the pan.

2008 Sep 23 07:08 AM

[GMiki1:]

The short term may turn into the long term in a flash. Go gold.

2008 Sep 23 11:07 AM

[JBP:]

The last 7-8 years have been a long flash in the pan. Much more to go CLH. You better dump your DZZ for a small profit now (if it's true that you truly timed the market perfectly and bought DZZ at golds high).

2008 Sep 23 11:12 PM