For the bulls, it was considered a positive week as the previous week's huge gains held, likely aided by continued merger and acquisition activity led by the massive merger of Pfizer and Allergan, U.S. GDP for the third quarter was revised to a gain of 2.1% from 1.5%, and the market was able to withstand both another potential flare-up in global political issues and a meltdown in emerging markets.
For the bears, while the market was unchanged, it was a frustrating week. Early in the week, tensions flared after Turkey shot down a Russian warplane, and on Friday the Chinese Shanghai composite dropped 5.5%--yet the S&P 500 was virtually unchanged. Also, Fed funds futures are pricing in a 72% likelihood of a rate hike in December, and commodities continue to point to a slowing global economy.
The Chicago Board of Options Exchange Volatility Index (VIX) closed the week at 15.12. This level seemed reasonable as the decay of the holiday week hurt the VIX, but the issues between Russia and Turkey also prevented puts from being hit too hard. I expect volatility to be in this general range into year-end, unless another unforeseen event takes the market down.
Events for the Week to Come
The upcoming week will be packed with economic data, as well as a European Central Bank meeting at which the ECB is expected to expand its easing program, an OPEC meeting on Friday, and Friday's release of the November jobs data.
Heading into the jobs data release, after a blockbuster report last month, the market is pricing in an approximately 72% chance of a rate hike in December, and Friday's number will go a long way toward firming up the odds. I expect the early part of the week will be quiet as traders return from holiday travels, and as the week progresses, there's potential for volatility in the commodity, currency and equity markets.
What Traders are Saying
The drama surrounding Valeant Pharmaceuticals (VRX) continues to be the talk of the trading world. Hedge fund titan Bill Ackman recently said, "The biggest regret I have with Valeant is that we're not in a position to buy more." A couple of days later, it appears he did buy more through options.
Instead of buying VRX stock, Ackman executed a form of a bull risk reversal. Here are his two trades with January and February expirations:
* Bought VRX 95/165 Bull Call Spreads and sold the 90 Puts
* Bought VRX 70/100 Bull Call Spreads and sold the 70 Puts
Ackman's positions will begin to really profit if VRX trades above 70 and then again 95, and his ideal spot is 165 as both of his bull call spreads would yield full profits and the puts he sold would expire worthless. Essentially, Ackman has bought the equivalent of over $1 billion dollars' worth of upside exposure, and only paid about $75 million for the positions. That said, if VRX were to fall significantly, he could be forced to buy more stock at 90 and at 70.
This is just another example of how traders like Ackman, Carl Icahn and Warren Buffett use options to gain market leverage.
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