Nothing New From the Fed
25th June 2008
The FED told us they were concerned with both the economy and inflation. Well guess what? So is everyone else. The reaction to these comments was subdued at the start. Option bid/ask spreads did not widen even close to the extent that they usually do after Uncle Ben speaks.
Eventually as the day finished out volatility increased in the stock market. The DJIA shot up over 100 points, but eventually settled in just about unchanged. The Nasdaq continued to distance itself from the rest of the pack by posting a gain of almost 1.5%. The problem from a contrarian point of view is that the volume was lower than the previous day.
There certainly has not been any news that would indicate that the economy is has started heading in the right direction. The Nasdaq is holding up better than the DJIA and the SP500 because it includes a lot of technology stocks, and no financial stocks. Besides that, money managers have to put their money somewhere and they, like me, want no part of the financials.
For those of you who like to hedge your bets, It turns out that one of the best plays for 2008 would have been to be long the QQQQ and short the DIA. Even better would have been to be long the XLE and short the XLF, but we’re not looking for perfection here. Option players could have put on a funky straddle with Calls on the QQQQ and Puts on the DIA. Of course this is easy to see in hindsight, so I for one would not take this approach. I preferred bearish spreads on the DJX. That proved to be worth the effort. The question now is will they continue to work?
So how would you play it if you agreed with me that there may not be a lot of downside left, yet you do not think this market is ready for a turn around. As we have said a few times already this year, the Bear Call Spread is your safest bet. An example of this would be to Sell the July DJX 123 call and buy the July DJX 125 to cover yourself. With resistance on the DJIA at 12,250 the probability of success is pretty good…and the DJIA does not have to drop another point for you to keep your credit.
JD