Sell In June?

So if you see a gap open up today on the Jobs Report, this from Jason Goepfert suggests you should short with both hands.

Over the past decade, when the S&P was up 1% or more the day before the payroll report and then gapped up the next morning (the morning of the jobs report) by any amount, buying the close on the day of the payroll report and holding for three days resulted in only two winning trades out of 15 attempts and an average return of -1.0%.

The last nine trades dating back to 2000 were all losers. If the S&P closed by up 1.3% or more on Thursday and then gapped up Friday morning, it was 0 for 10 over the next three days.

Now I would suggest shorting any up gap following a size up day probably at least gives you good odds of a fill (although as my brother-in-law informs me, there’s probably a guy who tried that in 1982 and is still waiting, lol).

Volatility of course got smacked ahead of the uncertainty of the number (that’s intended to be sarcastic). But with today a Friday, and with news due out, the VIX will get pounded even further on anything but a precipitous market drop. And if it does gap up, the VIX immediately gets oversold on the “10% below the 10 Day SMA” Rule. So food for thought.

So given the Doom and Gloom and visions of Dick Fuld running helmet in hand to the Fed Discount Window will simultaneously buying back stock with shareholder money, you would think XLF volatility would have shot up.

You would have thought incorrectly.

Strange. I mean with a 30 volatility and a low dollar priced ETF, not much dollar move in the options can produce a decent pop in volatility. But this is little more than noise.

Can’t explain it.

Here’s another related observation, via Bill at VIX and More.

LEH buying back stock. Mer upgrades LEH. “Who’s got your back, baby”.

Just glancing at the options board here, and …whoa……they have dollar wide strikes. That makes perfect sense in a tame volatility stock with a 30 full. And I guess that could have described LEH at some point. 125 volatility in the near month and 2.5 pt, or even 5 pt. wide works fine.

So what to do?

The backspread idea intrigues me. Unfortunately the prices don’t. Ideally I would want to sell one nearby put vs. buying twice as many OTM puts. Big volatility skew however, so you would need to widen your strikes considerably to set that up. You can try it in the calls, but IF LEH goes higher, volatility could get utterly slammed and blow up the trade.

Which kind of all explains the major skew on the board.

Calendars are generally a short in this sort of action. You get some long gamma to trade and you get some short vega for the inevitable volatility smash. Again though, the “board” knows all this, and the volatility spread is just massive (50-60 points in the Oct-June, 20-30 in the Oct-July).

So what about directional? You can pick a side and bet fairly cheaply, or buy OTM put and call verticals in combo and bet that we go anywhere but here.

Probably my favorite option idea of all. Not sure where we see LEH settle, but I doubt it’s low 30’s for very long.

Thanks to A Certain Bounder over on TheStreet, hard to listen to someone recommend DEEEEEEP calls and take them seriously. But as Don Fishback reminds me, there’s nothing inherently wrong with Deeps.

At any rate, what’s interesting is how the notion of DEEP in-the-money calls ties into investing for retirement…….. This morning, the company (CXO) wrote about a very interesting study that basically came to the conclusion that when you’re young, you should invest with leverage, and as you approach retirement, you should reduce your leverage.

……..One of the paper’s more interesting conclusions is in the section that talks about how “margin rates may be prohibitively high for small investors”. In that section, they note that there are reasonably priced alternatives, one of which is deep-in-the-money, long-range calls. Deep-in-the-money, long-dated diversified index call options have an even lower borrowing cost than leveraged diversified funds, such as Proshare Ultra S&P 500 ETF (SSO), That is, you may be better off buying these calls and investing the unused balance into a money market fund than either buying a leveraged fund or buying a non-leveraged fund and using margin leverage yourself.

Basically, that’s exactly how someone should look at a DEEP. It is an alternative to buying stock that ties up less capital and essentially has an embedded put that stops you out at the strike price. That cost of capital advantage and the embedded put cost some money, so that’s the real tradeoff.

Just know that if you use that spare capital to buy more deeps, or stocks, or whatever, you have now created your own leverage. Which carries it’s own risk/reward characteristics.

Lenny of course discombobulates everything. He wails against margin and treats DEEEPS as some sort of magical discovery. Yet he really just uses them as some sort of marketing gimmick. I shouldn’t even call it leverage, since he doesn’t have any capital limitations. And he doesn’t take advantage of the put aspect by the nature of his “cut winner, double losers” mantra.

Just some thoughts on LEH, and their CEO, Mighty Dick Fuld. But first, a disclaimer.

LEH puts are prescribed to treat Dick Fuld Disorder (DFD).

If you take any medicines that have nitrates in them (like nitroglycerin for chest pain)—every day or even once in a while—you should NOT buy LEH.

Discuss your general health status with your doctor to ensure that you are healthy enough to engage in LEH trading. If you experience chest pain, nausea, or any other discomforts during market hours, seek immediate medical help.

Although sitting with a profit on long LEH position for more than 4 hours may occur rarely with all Dick Fuld treatments, to avoid long-term losses, it is important to seek immediate medical help. And buy long gamma, even at insane prices.

In rare instances, men going long LEH reported a sudden increase in profits and decrease or loss of vision. It is not possible to determine whether these events are related directly to your LEH position, or to other factors. If you experience sudden decrease or loss of vision, stop yourself out, and call a doctor right away.

Sudden decrease or loss of hearing has been rarely reported in people taking Dick Fuld inhibitors, including LEH puts. It is not possible to determine whether these events are related directly to Dick Fuld or to other factors. If you experience sudden decrease or loss of hearing, stop trading LEH and contact a doctor right away.

Remember to protect yourself and your partner from Dick Fuld.

The most common side effects of Dick Fuld Disorder are headache, facial flushing, upset stomach and loss of all your capital . Less commonly, bluish vision, blurred vision, or sensitivity to light may briefly occur.

OK, seriously, we have a major volatility explosion. I have no position, but the big mistake in something like this is always to just short those pumped puts. You may win at the end of the day, but that does not make it the “correct” trade. Option volatility explosions tend to resolve in actual stock volatility explosions. Occasionally you get a Bear situation, where the stock continues on to wallpaper status. But more often than not the stock just moves incredibly violently and resolves in the opposite direction.

Whatever way this goes, naked put shorting is the last position you want on. Calendar spread sales and/or backspreads where you get long extra contracts make more sense imho.

So thinking of trading USO options?

Lots and lots of quirks in this pup, starting with the ETF itself that doesn’t perfectly track Texas Tea. Or specifically, West Texas Intermediate, as this chart shows. Greg and Roger know this better, but the general gist is that USO owns futures, not physical oil (unlike GLD and SLV). USO seeks to capture the magnitude move in oil, but can (and does) deviate when they roll futures.

You can borrow USO, but that will actually cost you money. Rates vary, based on your clearing firm, but the board suggest about a 4-5% annual rate right now. Subject to change at any time.

Remember an easily “borrowable” stock actual can pay you a short stock rebate if you short it, and option’s price accordinly. So thus put-call parity looks bizarro when you hit up USO. Rest assured though, it is correct. Valuation programs likely won’t account for the negative carrying cost, and will tell you puts trade fat. They don’t; the “forward” price of USO is actually below the stock. Which makes no sense intuitively when you consider oil futures now trade higher the further you go out in time (which they tell me is called contango). But this USO options pricing is purely a function of cost of carry.

Oh, and did I mention outer month volatility remains right near 52 week highs, and equal to the nearer month’s? Ordinarily that strongly suggests you want to sell calendars and trade against the long gamma that gives you. But there are so many moving parts here, tough to compare this to a regular stock.

What am I doing?

Short small (delta) vs. long metals and long energy stocks here and there. No particular volatility exposure, as I admit I have a hard time forming an opinion on that aspect of the trade.