Options Market Recap, February 20, 2009

Market Drops Amidst Growing Resignation!

Another tough week on Wall Street as the broad market lost -6.9% last week and is now down a staggering -14.7% Year to Date. It is scary to think of extrapolating those losses across the rest of the year particularly since we have not yet even closed the month of February! We should probably be thankful it was a holiday shortened week, as that may have been one of the few factors limiting the weekly loss. There are just not many positives out there to counteract the continuing mantra of a deteriorating economy, housing woes, and a financial sector in shambles. We sense a growing resignation amongst investors that this recession will indeed be severe and long lasting. Investor fear has moderated, only to have been replaced with the resignation that it will be a long time before conditions improve in the economy and stock market despite the best intentions of government efforts over financial sector reform and massive spending programs.

Nationalization Fears Harvest Market Attention!

Last week started off poorly with Global economic and financial fears taking their toll on US markets on Tuesday. A manufacturing survey was also released that showed a significantly greater decline than what was expected. On the government front, Obama announced his plan for Homeowner Affordability to provide stability to at risk homeowners, assist in refinancing, and to support lower mortgage rates indirectly through Fannie Mae and Freddie Mac assurance. The government efforts are positive, but in reality the reach of this initiative is miniscule in light of the overall mortgage debt at risk. On the housing front, a dismal report was released showing housing starts at their lowest levels ever recorded. Unfortunately, a housing bottom just does not seem near. But last week, the really big news concerned the financial sector, as fears over bank nationalization grew astronomically. Overall the financial sector plunged another 15.9% from already depressed levels. Bank of America and Citigroup took the hardest hits. The administration came out late Friday to reassure Wall Street in its belief that the private sector should run the banking system, and that nationalization is not goal or preferred option. Despite their best efforts, the government was not able to reverse the downward momentum in financial stocks.

Option Tips For Investors?

Do we have option tips for investors? We expect the market to swing between a trading range of 750 and 875 over the near term. We also expect volatility (VIX) to trade between 35 and 55 over the next month. With that in mind, we may look to write a call on the VIX at 55 and write a VIX put at 35 if we can get in at good prices. This strategy allows us to pick up income as long as the index trades within this range, the most likely scenario. We may also look to write options on the market index. Writing puts are always more risky in volatile markets, so we would look for a put around an exercise price of 750 which corresponds to the November 2008 lows. But given the risk, these investments should only be made if the price is right and expiration is the current month or next. For a market index call, we would look for one to write in the 900 range. Investors can probably be a little more aggressive on writing call options, as this market is far more bearish than bullish right now. This is still a short term traders market, and can be quite rewarding for option investors that can handle the risk. The financial sector remains very volatile right now, and that will continue to present short term trading opportunities. There have to be call options on Bank of America stock that investors can buy that are more than worth the risk! Now is a good time to buy as the cost of entry is low and the reward potential high. We are now 75% cash, but will continue to look for short term trading opportunities.

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