May jobs data reported the narrowest net U.S. job losses in almost a year (345,000). From a market perspective this is interpreted to be good news, except to the 787,000 workers that lost jobs in May! Those of us from middle class backgrounds and/or work for living understand that no matter what is happening with the stock market, if you are out of job and can’t pay bills, it still is a recession! The economy has shed six million jobs since the start of 2008, making the current decline the worst decrease in a half-century. Unemployment has doubled since the start of the downturn, with 14.5 million people looking for jobs in May. Some analysts are expecting the jobless rate to approach, and maybe even surpass, 10% by year-end. Forecasters expect high unemployment to possibly last into 2012. The Fed is suggesting that the economy might start recovering late this year, but will employers risk adding headcount prior to evidence that demand for their products and services has rebounded? Is it realistic to expect consumer demand to drive economic growth considering the budgetary pressures facing American households? The stock market is a leading economic indicator, which means we should expect businesses to start hiring, leading to net job growth within the next six to nine months. We will see! The question on the minds of a lot of folks is whether the recent stock market rally from the March low could simply be a Dow Theory Secondary Reaction, an intermediate-term correction that interrupts and moves in an opposite direction against the long term Bear Market, and gives a false signal suggesting that a Bull Market has started. SPY Iron Condor We are looking at doing a SPY Iron Condor. SPY is the ticker symbol for the SPDR Trust. SPDR is an exchange-traded fund (EFT) that holds all of the S&P 500 Index stocks. This EFT seeks to correspond generally to the price and yield performance, before fees and expenses, of the S&P 500 Index. Compared to the other major index-related ETFs, depending on the market mood, generally the SPY has relatively high volume, low volatility, and good credit spreads. Let’s define our short term trading time frame as 30 to 45 days. Options that expire on the July expiration date comply with our investing time frame. Selecting the July option series provides the flexibility of adjusting our positions prior to the July expiration day or rolling out to the August option series. Trade Setup Since we decided to initiate a July expiration SPY Iron Condor trade, the next step is to figure out which strike prices will let us collect the most option premium AND minimize the risk of losing money.
Previous resistance levels are:
SPY Daily Chart Trade We want an Iron Condor to generate a minimum .55 net credit on each leg. And as we all know, the legs are the bear call spread (short lower strike, long higher strike), and bull put spread (short higher strike, long lower strike). AND we prefer the short strikes to fit our statistical probability profile (80% chance all the options will expire worthless and we get to keep most of the sold premium)!
Order Table
Premium Credit $1.22
Risk Analysis The SPY has been trading in a relatively tight range the past few weeks. Typically, the price breakout from a tight trading range (whether to the upside or downside) is very aggressive. Daily trading volume has been relatively light compared to the 292,876,000 three month average daily volume. Volume remains below both its 50- and 200- day moving averages. Since the beginning of April, volume has been below average every single day. This suggests the institutional big money has not been evident in the recent market rally. Everyone appears to be waiting on the big boys to play their hand and push the market higher or back down to recent lows. For us the benefit of this long sideways move is the premium is eroding from our sold options (money we hope to be able to keep)! We are clearly in a short to intermediate term up trending market environment. The SPY Put/Call ratio is 1.43 (considered very bullish). Volatility indices are declining, that is bullish as well. All the main stock market indexes are now trading above their 200-day moving averages, an indicator of long-term up trend. At this point the most probable risk is the $100 strike price on our sold call might be threatened and we would need to decide whether to maintain our position or execute a trade adjustment. But the SPY has been struggling mightily to stay above 950. Without more institutional participation there does not appear to be sufficient demand at the current level to sustain the early June breakout. Exit Plan As with initiating the trade, the decision process for exiting our SPY Iron Condor position will be simple.
We initiate the SPY Condor as one order with four legs (four trades). Exiting this trade prior to expiration we will probably “leg out” of the trade by first unwinding either the bear call spread or the bull put spread; and close out the other side of the spread as a separate trade. The timing of closing out each side of the Iron Condor is dependent on following our Exit Rules described above. Final comment Let us not get too hung up on trying to predict where the market will be in the future. The market is like a very good looking woman, they do what they want, when they want, no matter what anybody else thinks, and they can get away with it! How many of the “experts” predicted from March 9 through last Friday, the Dow industrials would soar 34%, and rank second only to the Dow's 94% run-up in the two months following its early July 1932 bottoming? Maybe these are the same “experts” that warned us of the impending October 2008 to March 2009 stock market crash? The point is that it should not matter what the market does because we have a ready exit and are planning our next move! Gregory Clay
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