Options Trader Wednesday Outlook: Buffett Bashes Bulls

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Includes: BRK.A, COF, DIA, DUG, HPQ, RIO, RTH, SPY, SRS
by: Philip Davis

S&P 500 Chart by David Fry

Well, you can’t say I didn’t tell you so…

Yesterday’s post was all about what total nonsense the move up was and, per usual, the whole thing was taken away in the futures, where retail investors have no chance to profit from it. Of course, this market isn’t being run for your benefit and if you wait for Cramer to tell you what to do, then you are pretty screwed (and more so if you listen to him). Yesterday our boy Jim fell off the wagon and declared victory for the Bulls, saying: "The bears must be stunned and confused, flummoxed even," and made fun of those of us who worry about "facts" and "fundamentals" as we trade. "Every argument the bears had for selling," Cramer said, "has been totally rebuffed by this great market."

As the more rational David Fry points out in his "Spin City" post:

So we got a healthy bounce today but it didn’t undo Friday and Monday’s collective damage. We were a little short-term oversold and a bounce shouldn’t surprise even though economic and company news wasn’t great. But, the “better than expected” spin was in for retailers which frankly was laughable. And, golly, banks reported losses on credit cards were slowing (maybe because Chucky’s not shopping?) which was seen as a positive. Homebuilders disappointed (oops, scratch that)… a “worse than expected” report was spun positively because more single family homes were built. I wonder about that since there are too many of them, aren’t there? But that’s the way things are these days.

What a stark contrast between a sane and insane take on yesterday’s action. In Monday’s post we targeted a drop to Dow 9,100, S&P 980, Nasdaq 1,950, NYSE 6,400 and Russell 550 and in my 9:48 Alert to Members yesterday I set the bounce targets at Dow 9,200, S&P 986, Nas 1,946, NYSE 6,400 and RUT 555, but noting they were rough numbers that I was eyeballing on the fly, following our 5% rule. Those levels were beat across the board but on such low volume that I called an audible and we stayed bearish, taking aggressive short positions like the DIA Aug $93 puts at $1.50 which, unfortunately, didn’t make our double down target of $1 but should do well this morning. We also took short shots at Capital One (NYSE:COF), HPQ (backspread), Rio Tinto (RTP) (looking very good this morning!), SRS (our old friend), RTH and a bull play on DUG, which is an ultra-short on oil so still bearish.

At 12:38 I said to Members: "Just like plate spinning, they have so many balls in the air and if just one of them falls (dollar pops, oil falls, copper drops, Yen rises, China falls, news turns sour, companies lower guidance, banks fail…) the whole act can collapse all at once…. " but the plate spinning was so masterful that we didn’t want to overdo it and I said to Members at 3:02: "So far, we haven’t done much of a breakout over our bounce levels but we are over and you have to respect the move today - even if you don’t believe in it." and my 3:26 Alert to Members called for a neutral stance on our DIA covers as we were already very bearish with our new picks (and we really don’t have any longs that aren’t massively covered already).

It looks like we’ll be back to testing our breakdown levels this morning and it’s at least another 1.5% if we get through those and then we’ll see what kind of bounce we get from there. The futures really got hit hard this morning and I said to members in morning chat: "Lots of fun and games overnight. Still holding our breakdowns so far but the suckers aren’t buying what GS was selling yesterday and don’t forget you get to a point where GS gives up and exits the game. Look for signs they are turning negative like one of their major shareholders (Buffett) dissing the market or GS downgrading a Dow/commodity component like AA…. "

Indeed Goldman (NYSE:GS) did downgrade AA (of course I knew that already) and of course Buffett did write an Op-Ed column in the NY Times in which the Oracle of Omaha said:

Enormous dosages of monetary medicine continue to be administered and, before long, we will need to deal with their side effects. For now, most of those effects are invisible and could indeed remain latent for a long time. Still, their threat may be as ominous as that posed by the financial crisis itself. With government expenditures now running 185 percent of receipts, truly major changes in both taxes and outlays will be required. A revived economy can’t come close to bridging that sort of gap.

To understand this threat, we need to look at where we stand historically. If we leave aside the war-impacted years of 1942 to 1946, the largest annual deficit the United States has incurred since 1920 was 6 percent of gross domestic product. This fiscal year, though, the deficit will rise to about 13 percent of G.D.P., more than twice the non-wartime record. In dollars, that equates to a staggering $1.8 trillion. Fiscally, we are in uncharted territory… Unchecked carbon emissions will likely cause icebergs to melt. Unchecked greenback emissions will certainly cause the purchasing power of currency to melt. The dollar’s destiny lies with Congress.

Neither Buffett nor I are predicting gloom and doom for the economy. We are just pointing out that it’s a little early to be shooting for a market "recovery," especially when you consider that the levels chartists are targeting for recovery are based on getting back to levels that were based on TOTALLY FALSE EARNINGS! The financials should never have been worth 25% of the S&P, because 75% of their earnings were stolen from future quarters and based on totally false accounting assumptions. The land held by homebuilders was never worth 100% more than it is now - that was a bubble - and Exxon Mobil (NYSE:XOM) never had $5Tn in reserves as that was another bubble, and the gold miners weren’t really going to get $2,000 an ounce for gold (without massive inflation) nor were the copper miners going to sustain $400 copper, simply because it’s not economical to use it at that price.

GM couldn’t sell cars without losing $20,000 per vehicle and AIG (NYSE:AIG) wasn’t making any money at all, they were just booking 100% profits for writing policies they thought they would never have to pay but (funny story) it turns out they were wrong and they have now lost 13,000% of those profits with a potential of 1,000,000% more liablities on the books. Believing the market is going to race back to anywhere near those kinds of valuations is just as dumb as believing that 2001 was a good year to get a bargain on a sock puppet that sold pet food because "it was bound to come back." IT’S OVER - DEAL WITH IT!

The Dow was NEVER worth 14,000 and the S&P was NEVER worth 1,500 and (yes, I’m going to say it) the Shanghai composite was NEVER worth 6,000. So please, pundits, stop targeting these numbers. Yahoo (YHOO) was once $300 a share and we’ve accepted that it’s not likely to get back there; what is this fixation with getting back to market highs that have proven to be based on a total falsehood, on earnings that were not only reversed but were clawed back to erase half of this decade’s earnings? It is a market that has cost the US government $11Tn to bail out so far. Do we even want S&P 1,500 if it costs the US government $1Tn per 100 point gain per year? That’s the question Warren and I are asking - at some point, you need to step back and figure out what it is we are trying to accomplish here. 'The bubble popped, long live the new bubble' may not be the right attitude for the second decade of the century.

Just in case you miss the news today, a series of car bombings killed 75 (so far) and injured 300 in Baghdad (remember that place? - we’re still there) and it’s been a long time since there’s been a "terror premium" on the markets, so let’s keep tabs on that as Ramadan approaches, as that seems to be bombing season and we should probably stick with at least 55% bearish covers into each close for the duration. The Nikkei dropped right back to the 4% line we discussed at 10,200 but this time finishing at the low of the day. The Hang Seng dropped 350 points (1.7%) and also finished near the day’s low and, more significantly, under 20,000 for the first time since July 23rd. The Shanghai Composite was much worse, falling 4.3% with another slew of companies halted at their "limit down" levels of 10%. That JPM analyst from yesterday must be ashamed of herself. Quick - what was her name? See, you don’t remember and she doesn’t care how many billions of dollars she tricked investors out of yesterday because her massive bonus check is in the mail!

"Unless you’re a day-trader, why would you want to hold stocks in view of lingering uncertainties over Chinese stock markets?" said Yuanta Securities head of sales trading Riga Saito. "Yesterday’s trade volume in Shanghai was a low 123.23 billion yuan (US$18.03 billion), a drastic reduction from July 29’s record high of 302.82 billion yuan. This shows investors are still very cautious, afraid they’ll lose money if they buy at these levels," said Guosen Securities analyst Tang Xiaosheng. Take note, US traders - this is good advice!!!

Europe is off about a point ahead of the US open, which also looks to be down about a point. All we’re going to be doing today is taking our short profits and watching our levels to see what holds. There’s no sense in being greedy in this market, so we are not looking to ride things down if the market is going to hand us huge one-day gains. There is always tomorrow to trade and, chances are, we’ll learn something between now and then!

Be careful out there.

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