Last weekend we had a "Wild Weekly Wrap-Up," this week was just rotten.
We lost 800 points in 5 days but we actually lost them all on Monday, got back some on Tuesday and then proceeded to lose it again Wednesday through Friday, finishing with lower lows on Friday than we had on Monday, which was one of the worst day's in market history.
Friday looked like we were going to take some back and the chart on the left was from Bespoke's site with data just before the Congressional vote. After the bailout bill was passed, virtually all of these daily numbers turned red, giving us horrific performance in both the weekly and monthly columns. Financials, which were holding up the best, fell 9% off their highs and finished the week down 9%, just a hair over Monday's finish at the 10% rule.
Do we have further to lose? Looking at the updated Dow weightings, we can see that the top 10 components now make up over 50% of the weighting so it's going to be all about the performance of IBM, CVX, XOM, PG, JNJ, MMM, MCD, WMT, UTX, KO. Fortunately, none of them are financials and PG, JNJ, MCD, MMM, WMT and KO are considered "safety stocks" for a recession but IBM has been awful this week, although they should find buyers around $100. XOM and CVX are a big concern if oil keeps falling (and we hope it does). It was the financials who murdered the Dow on Friday with C dropping 18%, BAC, down 5%, JPM down 8%, AXP down 4% and GE down 2.5%. The other big loser was HD, down 4% but the rest of the index did not do that badly considering…
One frightening statistic is that 29% of the financial sector is still above the 50-day moving average, compared to just 11% of the S&P, while NONE of the Dow components can make that claim. 3% of all tech companies are above the 50 dma, no energy companies or telcom companies at all can make that claim. As noted above, Consumer Staples are the stars with 1/3 of the sector above the 50 dma but that is down from 80% in August. Of course, when we say below, that may not do justice to it, as looking at the Nasdaq can show you how incredibly ugly having a 3% success rate can be!
In last week's wrap up I said: "My biggest fear is that they fire this huge gun and nothing happens – confidence is not restored and the sell-off continues." Well, they did and nothing did and this is downright scary but hopefully the action we saw on Friday was the continued unwinding of positions by funds, who have been liquidating all week and took Friday's opportunity to "sell into the intitial excitement." If not, we'll not pretty early on next week that it's time to stock up on beans, bullion and bullets as things start to unravel around us!
Monday Morning we were more optimistic about the bailout but I still titled the post "Monday Mourning (get it?) – Too Little, Too Late" Despite evidence of bailouts galore by world banks, we were concerned with the overwhelmingly poor economic data and the only play I liked in the morning was the Oct $20 C's, as it looked like they were getting the WB deal. Those calls went from $2 on Monday to $4 on Wednesday and Thursday before plunging back to just $1 on Friday's sell-off, underscoring the still day-trade nature of this market. The longer 2010 $22.50s went from $3.50 to $5.25 but are now back at $3.25 for the brave investor to try again. With those sorts of wild swings on the long end, I sure like the 2010s better than messing around with Octobers as, at least with the 2010's you have 14 months to recover!
Tuesday morning we knew it was going to be a good day but I warned ahead of the market "do not be easily led into temptation" as there was still PLENTY to worry about. I set our breakout level at 10,800 on the Dow and our quick, speculative play on the QQQQ $38s at $1.69 was still there in the morning and they finished the day at $2.25 but that was the last long play that worked all week. I also mentioned the MSFT 2011 $22.50s at $7.38 as a hedged play, selling the Nov $27s, which opened at $1.30 and those are both flat since that pick.
My take on the "rally" that morning was "Keep in mind that governments are doing everything they possibly can to prop up the markets. As I said a couple of weeks ago, this is very much like the government throwing sandbags behind the totally inadequate levees in New Orleans ahead of hurricane Katrina – it may look like they are doing something but if the storm hits us, all these efforts will quickly wash away like sandcastles in the tide."
By Wednesday morning I was very upset about the changes we were hearing on the bailout bill and I titled that morning post "Hedging for Disaster" where I had lost so much faith in the ability of our government to "solve" our problems that I decided to focus on the ultra-short ETFs as ideas for virtual portfolio protection. Unfortunately, the premiums were very high so the performance wasn't fantastic but these were the plays we looked at as disaster insurance on Wednesday morning:
- SKF Jan $100s at $19, last sold at $26.80 on Friday.
- DXD Apr $55s at $14.20 are very thinly traded with a bid of $17.50 and an ask of $22.50 so I no longer like these as they are too hard to get in and out of. Of course these were meant to be longs to be covered and the Oct $69s we looked at selling already $4.10, a pretty good 2-week return for a caller that is $14 out of the money to the leap but, of course, we sell on the same rule we stop out a short position – when the caller retraces 20% of their gain so the sale target would be a trailing .40.
- SDS is more actively traded and the March $77s were good movers, going from $9.95 Wednesday to $14.60 on Friday's last sale. With the ETF at $77.11, the current $77 calls could be sold as a cover for $6.05, a no-brainer if you got in at $9.95 as this is always going to be a useful cover to have.
I set our danger levels for the week at 10,650 on the Dow, 7,400 on the NYSE and 1,135 on the S&P and we lost them on Thursday and again just before the big crash on Friday so they will be important to watch on the upside. We never headed back up over 10,800 to take the Russell calls but I now like them a lot as a speculative recovery play if we can hold a floor at 1,100 on the S&P. The RUT March $570s (RUWCN) are $90.95 and were $150 last week. Establishing this position allows you to sell Oct $650s, which are already $15 for a 17% return in two weeks and the long is $80 in the money to the caller. When volatility is this high, selling premiums is something you should aim to do in any position but you don't want to fully cover this play unless we are breaking down as the Russell can fly back up with little effort. If they get back over $650 and hold it, that would be great.
The Russell dropped an amazing 10% since Wednesday's open but it wasn't unexpected as my closing comment on Wednesday morning was: "These are the consequences being faced after just 2 days’ "delay" of signing the bailout package. Congress many think Paulson and Bernanke and Warren Buffett are kidding when they say we are about to go over an economic cliff but I think there is certainly enough evidence to merit serious concern. In part, we have a crisis of confidence and – even if it were true that we could "muddle through" without a bailout, if just 1/3 of the investors believe that we can’t and pull out of the markets, what good will it do the remaining optimists?"
That 1/3 pulled out with a vengeance over the next 2 days and it seems a lot of it was fund selling as positions were unwound in bulk and the markets dropped hard and fast. As I noted on Thursday morning's post, my complaint about the Wednesday rally as I said to members in that afternoon: ""Advance/Decline is still nasty today. Most of the greens are Banks and consumer goods. Tech is a sea of red, Materials including oil is wreck, all the Conglomerates are red. Consumer Goods are mixed but Services look awful. Utilities are mixed, kind of flat overall. Healthcare is also mixed. On the whole, it sure does not look like a sustainable rally but we’re all waiting for the government to drop money on us and that’s what it’s all about." Those are signals we need to keep an eye on to see if a move is real or not. Just as I noted above that the Dow was NOT as weak as it seemed on Friday, things were much worse than they seemed on Wednesday.
We looked at the FXE Jan $140s but they never hit our $2.55 target with the last trade I see going off at $3.12. These calls on the Euro remain a great way to play a dollar crash and are good hedges for European investors who are putting money into US companies but have concerns about the conversion rates. The only other play I discussed Thursday morning was "the same ETF hedges we looked at yesterday coupled with the positive financial plays (we had looked at in member chat) – just in case this crazy scheme actually works" as we did expect some sort of short-term rally into the bill but, medium-term, the outlook was still bearish.
By Thursday night I was good and bearish and we looked at was to set up option trades with a minimum of risk. Simple strategies to generate 10% or better returns that are generally market neutral. Our GLD play is a very good hedge against hyper-inflation as it pays well but also gives you a chance to participate in gold's upside if things really hit the fan and I strongly encourage members to review that strategy along with Optrader's advice on how to lower your break-even point without increasing your risk on existing trades and take a look at Option Sage's new site, where he has a whole section on "Safe Stock Market Strategies" and "Rock Solid Income Trades" available at great discounts to members. If the markets are going to keep trading down or even flat, it's all about asset preservation and just trying to generate a return that keeps us ahead of inflation while we wait for things to improve…
Friday morning I said "my advice to buyers is to hold off until after the vote" and, while we did find lots of day-trading opportunities into the vote, no one missed anything by not paying those ridiculous premiums and right after that vote the market threw a gigantic yard sale, with pretty much everything tossed onto the lawn. I noted in the post that the commercial paper situation was rapidly approaching critical mass and, as we expected Monday, the bailout was starting to look like too little, too late. My comment was: "I can’t see riding positions into the weekend if we get a big rally without some serious downside hedging as our worst-case scenario remains that the bailout is passed and ends up getting a big, global "so what" from investors as $700Bn is starting to look like a drop in the market bucket if unemployment keeps rising at these rates and housing keeps falling at these rates. Paulson’s original plan was to catch history’s largest falling knife (a term used to describe calling the bottom by making a large purchase of a rapidly falling asset) by spending $700Bn very rapidly on housing assets. The package he’s being given takes a slightly more measured approach but if housing prices decline another 20% before the bailout takes effect, another $1.5Tn would be needed to shore up the losses."
Sadly, that's pretty much how it played out. We rode right up to my 10,800 target, touched it at 1:05 and then dropped like a rock, even as Congress was passing the long-awaited bill. During the "rally," at 12:11 I had pointed out to members: "Scary difference between DXD $63 calls at $4.55 and DXD $63 puts at $2.42, that’s a 2:1 sentiment that we are going down at the moment…." Just before the vote, at 12:56 I said: "It seems to me that they are going to approve it, market is up even though deadline has passed so I imagine funds have done their counts and are satisfied so be careful of anything on the put side but have your finger ready on some cover, just in case and, as I said, if we don’t break 11,000, it’s still shakey and if we can’t hold 10,800 I have grave doubts about Monday." Despite that I had no idea that we would fall off such a cliff right after the vote although we hit my 10:37 buy target on the DXD Nov $56 calls right at 1:06 and they flew right from $10 to close at $13.95, making very good protective covers. As I explained on Wednesday's strategy post, allocating 30% to short plays like that can offset harsh losses on the long side, something that is essential in this very choppy market.
As the voting came to a close I warned at 1:18: "After the vote – selling into the intial excitement comes to mind, looking for covers at around 11,000 unless we punch through it." Just 8 minutes later, as the voting closed, we already had a problem and I said: "The "sell on the news" crowd strikes first. Let’s see if we hold 10,700 and 1,140 but this already is a very disappointing lack of buyers." By 1:28 it was already "Damn this market sucks!" and 5 minutes later: "We just blew through 10,650 with little resistance and S&P has little support, this is just awful…" It all went downhill fast from there – on the whole, a very depressing way to end the week.
I don't know what the follow-through to that tragedy will be on Monday. I'm heading to the New York "Value Investors Conference" on Sunday and I'll be trying to get the pulse of the fund managers I'll be seeing there so expect a report Sunday evening but Friday was a huge disappointment and if this bailout bill fails to turn sentiment, we have got BIG trouble!
