Weekly Options Recap

Market Pulls Back!

Last week was tough for the stock market with the S&P 500 declining 5%, dropping the Year To Date return back in negative territory. The market pullback is not all that surprising after experiencing two months of unusually large gains. The reality is the market just got a little ahead of itself. As we have said before, we think it is healthy for the market to take a breather over the near term, 30% plus gains are just too much over a two month period in a declining economy. Yes, the economy is still in decline, although that rate of decline has slowed. Retail sales came in lower than expected last week, a big disappointment for the market. Consumer spending will likely continued to be challenged with unemployment fears and overriding concerns regarding economic health. Industrial production is still declining, although recent reports suggest the pace of that decline is slowing. Reports next week will provide more light on Housing, but a recovery in this sector just does not seem near. All in all, this is still a declining economy, although the positive is that the pace of that decline is slowing. That is good news, but we also suspect that economic recovery will be modest and slow when it does come. First quarter earnings season is almost over, and while most companies have treaded water, results show just how deep the economic impact has been.

Option Tips For Investors!

We expect the market (S&P) to swing between a trading range of 850 and 950 over the near term in what may remain choppy trading. We also expect volatility (VIX) to trade between 28 and 38 over the next month, mostly in the low 30 range. The volatility or fear gauge has been trending down which is a good sign for investors. However, there is still downside risk given the fragile economy and uncertain corporate outlook, although that risk has been decreasing. The biggest downside risks that we see center on unemployment and corporate earnings. We expect unemployment to rise throughout this year, but if it gets above 10% and market expectations, that could bring fear back to consumers and investors. Quarterly earnings to date have held up for the most part relative to low expectations. But if future earnings do not make up lost ground, the stock market could suffer. Despite the risk, we are still optimistic for the stock market. One options trade would be to write a spread position on the volatility index (VIX). We currently like the following spread position with VIXRY and VIXFH, both of which expire in June and have a net premium around $2.00. We also like the put option on the market index (SPXRE) that expires in June and currently trades around $14.00, but would caution there is significant risk with this trade if the market falls.

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