Its taken me almost all weekend to catch up with the markets. So much to read with the all the action. A truly ugly week in the markets. Down the pan all the way for all the indices. The fuss was generated outside the US until the end of the week. China was in the penalty box at the beginning of the week, followed by Saudi Arabia / Iran, and then North Korea. Icing was provided by Fed talking heads with wishes for faster interest rate increases. Then a thoroughly spiffing non-farms employment report on Friday, closing the interest rate loop nicely. Negativity is overwhelming at the moment e.g. Dam breaking analogies, market resets, the bear market is here etc.. What's a poor option trader to do? Buggered if I know.
In the US employment numbers came in strong across the board, while the services PMI indicates continued expansion, which is important since this amounts for ~70% of US GDP. The manufacturing PMI is showing increasing weakness, and construction put in a poor showing this past month. Auto sales were also low. A mixed bag, but consistent with a slowly growing economy. Earnings season is kicking off next week with Alcoa on Monday. It's not looking good with Factset estimating a 5.2% decrease in EPS and 3% decrease in sales for the SPX companies. Energy and materials are in the doghouse once again. However, bottom-up estimates of the 12 month forward EPS indicates an increase of ~7% is expected, in strong contrast to the media perception that earnings will not grow this year. Outside of recession years, these forward estimates have been accurate to < 10%. We could do with some earnings surprises over the next couple of weeks to beat down the negativity.
The noise from China started with the Caixin manufacturing PMI coming in below par, despite the "official" manufacturing PMI the week before indicating a slow stabilization of the situation. The non-manufacturing PMI increased, but that appears to have been lost. The China stock markets took center stage with a couple of 7% drops, and the newly introduced circuit breakers being blamed. No more circuit breakers after Thursday's debacle. I suggest you read Jeff Miller's excellent summary of the impact of China's stock markets on the US before breaking out in a cold sweat. Meanwhile over in Europe, economically speaking, things are looking up with manufacturing, service and retail PMIs all increasing.
The week's US economic indicators: Ritholtz.
A big picture view of the markets: Fear and Greed Trader.
Credit Spread Positions
ESH16: A terrible week with the future declining from ~2040 to finish up the week at 1913. Ouch indeed. Still a way off the August low of 1860 or so, but we may indeed re-test these lows before the markets right themselves. The future is now heavily oversold on RSI(5) and the Stochastic, and has been since the middle of last week, but that didn't stop it continuing to slide. It's impossible to see if the slide will halt this coming week. Valuations are now quite reasonable for the majority of SPX companies; at some point bottom fishing will start. I had hoped this would happen on Friday as the China market stabilized, but to no avail; I suspect the positive NFP report played to anxieties of rapid interest rate increases that had been stoked earlier in the week. The oversold condition will eventually lead to a bounce, and I think it's reasonable to expect that to happen early next week, unless we get further deterioration in the China markets. In terms of breadth, SPX is at levels approaching the August and November lows (SPXA200R, McClellan Osc. Summation Index, New highs - New Lows). If we get a bounce, I will be looking to sell some futures for increased downside protection until it is clear the markets have stabilized. I don't think it is a good time to open new put credit spreads, but it may prove opportune for call credit spreads, but only if it is clear more downside is coming. I got caught out with call spreads on the last up move from the bottom in November. That was an expensive lesson. I would expect the 2000 level is be an initial resistance level for a bounce. Given the magtnidue of the recent drop it will likely take a couple of months to recover back to the previous trading range, if we make it that far. SPX may now be finding a new lower trading range between 1860 and 2000 in which to consolidate. I don't see a protracted bear market coming out of the recent volatility. Economic indicators and recession signals are just not there. However, a protracted correction is not out of the question. I think the key issue is now whether the markets gain confidence that earnings will increase over the course of 2016.
NQH16: The same story here as for ESH16. Deeply oversold and ready for a bounce. Breadth is also now consistent with previous lows. A retest of the August low is another 5% or so away.
AAPL: This is a sorry looking chart. The negativity surrounding AAPL at the moment is simply overwhelming. The market has priced the stock as if the company has no growth opportunity for the foreseeable future. I note that this negativity is coming from supply channel rumors, and these have proved unreliable in the past. This lack of reliability does not seem to matter at the moment. At this point AAPL may be finding support at 95, which is almost at the gob-smacking low from August. I've included a longer term chart for AAPL to show that 95 has strong support; this does not imply that it can't go lower, but even with further market weakness it may hold it up for while. If we get a melt-down, 75 is the next strong support level. But with the PE currently at 10.5 its a good question of how low it could go. It's difficult to see another 25% downside unless 4Q earnings and forward guidance fall apart. The stock could not be more oversold so it's due for a bounce. Last week news that the App store is doing US$20B of business in 2015 didn't get a reaction. CRUS and QRVO did come up with warnings for Q4, which whacked AAPL. Some good discussion on the lack of clarity with respect to AAPL's situation in these announcements: bottom line is that it is not clear if these warnings portend bad news for AAPL, but that's not the mainstream view. I am holding off any position in AAPL right now until we get clarity from earnings. If a good story emerges for 2016, the stock will be on a moonshot.
SWKS: And so we come to SWKS, which I had great hopes for last week. Well my hopes were for nothing as SWKS succumbed to the wall of negativity surrounding AAPL, and being leveraged to the China market didn't help. At 66.89 it's below the 70 support level and is staring at 60 as the next stopping point. Strongly oversold. It had a better day than most on Friday perhaps suggesting it is close to a bottom, but with this stock nothing is simple and clear. This is a story to shake your head at. The revenue and earnings growth of this company have been strong for the past several years, and most encouraging is the increase in margins over the past few quarters. Despite the uncertainty around the Chinese economy, SWKS' business has not reflected any downside as yet (similar to AAPL). I don't really like to get into stock specifics here since I'm concentrating on option strategies, but I couldn't help but look up the last few years financials for SWKS. The market is pricing this stock as it is falling off a cliff, but the growth story up to the present is impressive. Go figure. It's in the same boat with AAPL and GILD.
GOOGL: So let's leave the currently unloved stocks behind and move to a recent darling - Alphabet. It started the week relatively well, finding support at 750, but It had a rough and of the week, dropping about 5% overall to finish up at 731. Quite a beating but a little less than the SPX endured. It's is now strongly oversold at about the same level as the August lows, and ready for a bounce. On the negative side, it has an unfilled gap between 720 and 700, and the market does like the gaps to be filled. So I can't really figure out what will happen next week. I have an open spread, which I will have to recover unless we get above 735 by the end of the week. Fingers crossed, but that's not really an investing strategy to recommend.
LNKD: Of all the stocks I have been trading this year, LNKD has proved the most reliable, providing you stay away from earnings announcements. It is now decreasing but appears to be following a orderly down channel, which is surprising given previous volatility of the stock during the August downturn. It's not as strongly oversold as the other stocks we've discussed but it's getting close. This suggests to me that the 210 support level may be a floor for next week: at least that's my hope. It will also fill a couple of recent upward gaps, which may be enough to give it support. If that doesn't last then it's down to 200 and perhaps to 190, where support is stronger.
GILD: I'm still thinking about GILD. It's now getting close to 95, the low from the Oct. health care rant from Mrs. Clinton etc.. It's not terribly oversold. This is tempting for a short-term trade particularly since premiums are good even down to 85 for a 2 week expiration. This looks like a safe trade for a put spread; if I don't get the nerve up I'll wait until we get the earnings report for clarity.
This week I had the misfortune of a couple of positions closing ITM: SWKS at the EW2 spread. However, at the beginning of the week I had the presence of mind to short the futures, and I added to the short position several times during the week. The net result is that the short futures have hedged away the losses I took. What a relief! However, not all is sunshine and roses since I have open positions for GOOGL, ES and NQ2 which are now ITM for 01/15 expiration. I am hoping for a bounce to close these positions OTM, but failing that I will look to roll these positions down and out. I will probably turn them into Iron condors with an additional call spread to make the roll easier. I rolled the ES 1850/1900 down and out a couple of weeks and turned it into an iron condor to stay profitable with 1850 and 2080 short strikes. If we get some stability on Monday I will close the call spread on this just in case we get a strong bounce.
I opened several iron condors last week to take advantage of the increased volatility. If we get a bounce and volatility drops quickly these positions may be able to be closed for 30% of available profit, which would be great. However, if this doesn't happen I will roll them down using delta=0.1 as a guide for short strikes and long term support levels from the weekly charts, trying to stay at the same expiration. I don't want too much capital tied up for a long period of time since I will have to use capital to rescue the 01/15 spreads as it is. My plan for next week is all a bit tentative since I have no idea what the market will do. The profit for this month to date looks too good. It won't last but I hope to stay in double digits, or as close as possible. It will be an interesting week come what may. Happy trading!
Manufacturing PMI (Dec) 51.2 vs 51.1 expected, 51.3 previous
ADP Nonfarm Employment Change 257K vs 192K expected, 211K previous
Trade Balance -42.37B vs -44.00B expected, -44.58B previous
Markit Composite PMI (Dec) 54.0 vs 53.5
Services PMI (Dec) 54.3 vs 55.1 expected, 53.7 previous
Initial Jobless Claims 277K vs 275K expected, 287K previous
Bloomberg Consumer Confidence 44.2 vs 43.6
Nonfarm Payrolls 292K vs 200K expected, 252K previous
Michigan Consumer Sentiment (Jan) 93.0 vs 92.6
ISM Manufacturing PMI (Dec) 48.2 vs 49.0 expected, 48.6 previous
ISM Non-Manufacturing PMI (Dec) 55.3 vs 56.0 expected, 55.9 previous
Average Hourly Earnings 0.0% vs 0.2% expected 0.2% previous
Caixin Services PMI 50.2 vs 52.3 expected, 51.2 previous
Manufacturing PMI 53.2 vs 53.1 expected, 53.1 previous
German Manufacturing PMI 53.2 vs 53.0 expected, 53.0 previous
Markit Composite PMI 54.3 vs 54.0 expected, 54.0 previous
Services PMI 54.2 vs 53.9 expected 53.9 previous
German Services PMI 56.0 vs 55.4 expected, 55.4 previous
Retail PMI 49.0 vs 48.5
Manufacturing PMI 51.9 vs 52.7 expected, 52.5 previous
Retail Sales -0.3% vs 0.2% expected, -0.2% previous
German Industrial Production -0.3% vs 0.5% expected 0.5% previous
All volatility EFTs lost money in 2015. No matter the long/short strategy. It appears to be due to the extremely large volatility spikes that occurred during the year. http://www.investing.com/analysis/every-single-vix-etp-(long-and-short)-lost-money-in-2015-378541
Brief background on Monday's mini-panic following the 7% circuit breaker episode in China. http://www.investing.com/analysis/china-bears-spooked,-but-broad-em-data-not-bad-378636
The latest Markit Global Manufacturing PMI came in at 50.9, down from 51.2 the previous month. Emerging markets (Russia, China, India, Indonesia, Brazil) continue to struggle with PMIs < 50. Investment and B2B are weak while consumer goods continue to be growth drivers. Developed nations are doing better despite recent weakness in the UK and US. Japan and particularly the EU are showing improved PMI. For the EU all countries reported >50 PMI, including Greece. https://www.markiteconomics.com/Survey//PressRelease.mvc/cd6dcae194c34f2c826648ebf22552e7
A dissapointing US Manufacturing PMI decreasing to 51.2 from 52.8. new order growth weakened. The US$ is hurting exports and domestic sales, which have to compete with cheaper imports. The slow energy sector is lowering demand for industrial machinery. Some hints that consumer spending is also slowing. https://www.markiteconomics.com/Survey//PressRelease.mvc/605428421d254da0b671f129d96276d3
Individual investors stock allocations are still below per-correction levels, but remain above long-term average of 60% for the past 33 months. Cash levels have dropped slightly, bond/bond fund allocations increased. https://seekingalpha.com/article/3789376-december-aaii-asset-allocation-survey-fixed-income-allocations-reach-11-month-high
A breakdown of the components of the latest ISM manufacturing PMI report. Generally speaking, not good news. https://seekingalpha.com/article/3789526-ism-manufacturing-report-declines-again
Some information on the Q ratio as a market timing tool. https://seekingalpha.com/article/3788766-market-crash-overdue-says-spitznagel?li_source=LI&li_medium=liftigniter-widget
Lots of reasons the markets are going to tank in 2016. Lots opinion, short on backup. We'll see. https://seekingalpha.com/article/3787356-the-top-10-reasons-why-the-stock-market-will-tank-in-2016?li_source=LI&li_medium=liftigniter-widget
The bear articles are showing up in force. A bad start to the year brings it all out. https://seekingalpha.com/article/3787846-2016-its-going-to-get-worse?li_source=LI&li_medium=liftigniter-widget
A summary of the causes of volatility in the stock markets in 2015. http://www.investing.com/analysis/the-year-in-vix-and-volatility-(2015)-378790
Recession signals based on unemployment numbers: no signal at the present time. https://seekingalpha.com/article/3799836-the-unemployment-rate-is-not-signalling-a-recession-update-january-8-2016
Fear and Greed Trader on the week's events: superb analysis, as always. Some useful nuggets this week. 1. China's stock market is not a useful barometer of the China economy. 2. Oil price reduction is not likely to cause a recession. It is oil price increases that are more likely to cause a recession. 3. The Tobin Q measure of valuation, a now popular metric that has been used to point to excessive market valuation, has dipped below 1 for the first time since 2013. By this measure stocks are now undervalued. 4. A PE of 17 to 18 may not be unreasonable given the current inflation and interest rate situation. 5. Using his own indicators, the SPX now appears to be oversold. 6. The past 5 times the high yield market has had a down year, the following year has been positive. The correlation with SPX performance is strong. Out of these 5 times, 4 times resulted in a yearly increase for the SPX. https://seekingalpha.com/article/3800206-the-s-and-p-500-drops-6-percent-this-week-irrationality-isnt-always-associated-with-exuberance-and-euphoria
Jeff Miller looks at the current China-induced panic. A must read to get the straight story on the impact that the China markets REALLY have on the US. Much ado about nothing, but perception is everything in the short term. https://seekingalpha.com/article/3797706-china-and-your-portfolio-what-now
Although the headline could fbe rom a hysteric, the article examines the relationship of the US markets and China. The authors suggest that until China yuan devaluation, and the spread between on and offshore valuation, clams down, we are in for a bumpy ride. US prices are starting to look good for equity pickers. Also since a large number of stocks are already in bear markets, how much further is there to go? Carpe Diem! Also in here the idea that EPS increases have been driven by buybacks. Urban Carmel dealt with this recently and very effectively. This is a common fallacy since it does not account for stock re-issuance, of which there has been plenty. Also some discussion of poor market breadth, without the mention that at its current state it is not unlike what has occurred following recent corrections. https://seekingalpha.com/article/3800816-its-a-bear-market-already
So far the correction does does not indicate panic is setting in. As such it is a "minor concern" However, should the market blow through more support levels, pains is likely to occur, and a large reset will have been accomplished. Who knows which way it will go? https://seekingalpha.com/article/3800826-the-great-reset-has-it-begun
The correction has room to run. This author thinks China stocks are a better bet than US equities at the present time. The author seems to think that volatility has not spiked sufficiently. Large cap SPX stocks are taking some heat, and the author thinks they should drop more. I wonder why investors have been willing to bid them up. Perhaps their growth is real? https://seekingalpha.com/article/3799156-is-the-stock-market-decline-just-getting-started?li_source=LI&li_medium=liftigniter-widget
Latest AAII survey results. Bearish sentiment jumped while bullish and neutral sentiment dropped. Interestingly survey comments indicated China and mid-East concerns together with US political uncertainty as the most important issues. Earnings and interest rates came in substantially below these. https://seekingalpha.com/article/3799876-aaii-sentiment-survey-pessimism-rebounds-strongly
Jeff Miller's weekly review: the equity risk premium is now ~4%. Bad news has been priced into equities. My favorite part this week is this quote:
Gatis Roze explains the importance of emphasizing your process and looking past losses. The entire article is interesting, including some good lessons. I liked this short summary:
Allow yourself to accept the fact that even an exceptional investor with a great trading system will incur losses. Protect your self-confidence by understanding that the past cannot be changed. Stay focused, be proactive and look ahead so that you are able to approach the next trade in an unbiased manner. Did you get that? The same thing that makes a great marriage is what makes a great investor - a short memory.https://seekingalpha.com/article/3800536-weighing-the-week-ahead-time-to-buy-the-dip
This is the full article by Gatis Roze: http://stockcharts.com/articles/journal/2016/01/how-i-deal-with-trading-losses.html
Urban Carmel's round-up of the current economic picture. Bottom line: steady growth, inflation beginning to pick up. http://fat-pitch.blogspot.tw/2016/01/january-macro-update-equity-weakness.html
Scott Brannis with reasons to be cheerful: 1. Yields on all kinds of risk assets are high i.e. prices are relatively low. 2. Equity risk premium is unusually high - poor earnings expectations are being priced into stocks. 3. Household financial obligations are at their lowest in 30 years incl. mortgage and consumer debt. 4. Household net worth is at an all time high. 5. Employment growth is as strong as it was pre-great recession. 6. PE ratios of 17-18 imply expectations of 1-2% GDP growth, but in fact GDP has been growing at 2-2.5% for the past 5 years. 7. Gold prices and TIPS prices have been decreasing since 2011. This is probably a sign of increasing investor confidence following the PIIGS scare. Consumer confidence has been returning over the same time period. Bad news has been priced in. https://seekingalpha.com/article/3795386-reasons-to-avoid-despair
T. Boone Pickens thinks oil will be heading back up soon. He remarks that the supply-demand imbalance is 1 million barrels a day. He states the Saudi-Iran standoff is a turning point. to $70/barrel. http://www.cnbc.com/2016/01/06/boone-pickens-to-cramer-oil-is-close-to-bottoming.html