For the bulls, October was a spectacular month as the market surged higher from its August/September selloffs, and the S&P 500 is now within 2.5% of its all-time high. Also, according to FactSet, 76% of S&P 500 companies that reported results this quarter have beaten earnings targets, and Jobless Claims data continues to beat expectations.
For the bears, Friday’s late-afternoon selloff gave hope that the market may stall after its strong advance. Aiding the bear camp this week was U.S. GDP, which grew at a low 1.5% annualized pace in Q3. Also, several consumer-related data points disappointed, including Consumer Confidence and Consumer Sentiment, and earnings from retailers have been a weak spot during earnings season.
The Chicago Board of Options Exchange Volatility Index (VIX) closed the week at 15.07, marginally higher than the previous week. In general, it was a quiet week for put buying across the major indexes. That said, on Thursday and Friday, my scanner began to pick up on strangle buying in many leading stocks. When a trader buys a strangle, he’s buying out-of-the-money puts and calls at the same time, betting that volatility/price of options are too cheap and looking for a big move to the downside or upside.
Events for the Week to Come
Approximately one-third of S&P 500 companies will report earnings this week, including Tesla Motors on Tuesday, Facebook on Wednesday and Walt Disney on Thursday. The October Jobs Report is due on Friday—the report has again become a potentially big event because the Federal Reserve hinted that a rate hike may come before year-end. I expect trading to be relatively slow in the stock and options world headed into the report.
What Traders are Saying
We initiated a new position in KKR on Friday after weeks of suspicious bullish option activity, and a surge of such activity on Thursday. I’ve recently been avoiding stocks with broken charts regardless of their bullish order flow, as beaten-down stock rallies have been extremely brief in 2015.
That said, when I evaluated the KKR call, the premium was so incredibly cheap, that the risk/reward was too good to pass up. Paying $1.10 for calls $0.85 out-of-the-money with seven months until expiration is an incredibly cheap opportunity—1,000 shares of KKR at 17.15 would be a capital outlay of $17,150, while a purchase of 10 June 18 Calls for $1.10 would cost just $1,100.
I buy and hold stocks just like most investors. However, the opportunity to pay 93.5% less for a similar upside opportunity via calls for the next 229 days (when our calls expire) is a perfect illustration of the power of options, and a risk I was willing to take.
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