A 40% net short in a single asset class is a rare event for me. So I vowed to cut it back on the next down day for risk control purposes only.
The S&P 500 SPDR's (NYSEARCA:SPY) May 2016 $212-$217 in-the-money vertical bear put spread had the most profit to take, given that it was the furthest out-of-the-money with the shortest expiration date.
If I blow up my performance betting the ranch on a single asset class, I am too old to get my job back at Morgan Stanley. Besides, they probably wouldn't have me anyway.
I never believed yesterday's frantic 220-point rally in the Dow for two seconds. No volume, no news, and no cross-asset-class confirmation meant it was not to be believed.
It was just another opportunity for the high-frequency traders to pick the pockets of hedge funds by squeezing them out of their shorts, which they have been doing on a weekly basis all year.
That conviction allowed me to hang on to my aggressive 40% net short position.
Better yet, we are poised to make as much as another 10% profit by the end of next week without remaining positions. To remind you of why we are short the S&P 500 in a major way, let me refresh your memories:
It's all about the strong dollar. A robust buck diminishes the foreign earnings of the big American multinationals, major components of the S&P 500. I think it is much more likely that stocks grind down in coming weeks to first retest the unchanged on 2016 level at $2,043, and then the 200-day moving average at $2,012.
Share prices are anything but inspirational here. Price/earnings multiples are at all-time highs at 19X. The calendar is hugely negative. Soggy and heavily financially engineered Q1 earnings reports came and went. Huge hedge fund shorts have been covered with large losses, and no one is in a rush to jump back into the short side.
Oh, and the bumping up against granite-like two-year resistance at $210 that will take months to break through in the best case.
Did I mention that US equity mutual funds have been net sellers of stock since 2014?
This position is also a hedge against what I call "The Dreaded Flat Line of Death" scenario. This is where the market doesn't move at all over a prolonged period of time and no one makes any money at all - except us.
To see how to enter this trade in your online platform, please look at the order ticket below, from OptionsHouse.
The best execution can be had by placing your bid for the entire spread in the middle market and waiting for the market to come to you. The difference between the bid and the offer on these deep in-the-money spread trades can be enormous. Don't execute the legs individually or you will end up losing much of your profit. Spread pricing can be very volatile on expiration months farther out.
Here are the specific trades you need to execute this position:
- Sell 22 May 2016 $217 puts at $9.27
- Buy to cover short 22 May 2016 $212 puts at $4.44
- Net Cost: $4.83
Profit: $4.83 - $4.40 = $0.43
(22 X 100 X $0.43) = $946 or 8.90% profit in 23 trading days.
The Downside Protection That Worked
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.