A new investment theme has emerged over the past couple of weeks: U.S. inflation. Last week, the Bureau of Labor Statistics announced that the consumer price index jumped by 0.4% in May, the biggest rise since February 2013 and the fourth-straight monthly gain. Investors sold longer-dated bonds and bought short-term Treasurys and TIPS – Treasury Inflation-Protected Securities – as the combination of Fed dovishness and economic growth signaled that inflation is likely to eat up coupon payments. This will be bearish for U.S.-centric stocks, too, such as financials and those in the Russell 2000 index of small-cap stocks.

Inflation should be good for our credit put spread on gold, even though the precious metal is down in early trading today. The dollar is down, too, which is marginally bad for our long-term calls on UUP, but they’ve been hit so hard and have so much time until expiration, that they remain more likely to go up than down. We’re in the GLD/ UUP play for the long haul, given the September expirations, and I still think we’ll make out on the pair despite the way the market has whipsawed us thus far.

Over the weekend, Greece made progress in negotiations with its creditors. That led to a big rally in European stocks this morning, which has carried over into the U.S. We have bearish positions in Gilead (GILD) and Boeing (BA) that were looking good a week ago, but are underwater now. I still think the market is overbought and that these positions remain good bets – the stocks would still have to close on July 17 above where they are now for us to lose money. However, we currently have five open positions, and with a sixth entered today, we’re getting stretched – I’ll look at taking some risk off the board on Thursday, if not before, but I remain confident that things will be looking better for us the longer we wait.

Investment Thesis

The Russell 2000 has been outperforming the S&P 500 thus far in June, gaining 3.18% through Friday’s close, compared to the S&P 500’s gains of 0.18% over that same time. But part of the Russell’s attractiveness has been the strong dollar, since its small-cap components generate a much higher percentage of their sales domestically, while the S&P 500 firms benefit from a weaker dollar. In early trading today, the Russell was breaking out higher again, and I think the entire index looks overbought.

 

 As you can see in the chart above, the iShares Russell 2000 ETF (IWM) has broken out above its upper Bollinger band, and it looks heavily overbought in terms of the Williams %R indicator. The ETF formed a near-doji at Friday’s close, and although it has broken higher in early trading today, I wouldn’t be surprised to see it close lower.

Fundamentally, there’s no good reason for the Russell stocks to be performing so well here, and it looks like irrational exuberance to me. The S&P 500, also overbought, is a better comparative bet, going forward, and although we’re heavily leveraged to the downside already, I think it would be a mistake to not buy IWM‘s July puts here. By Thursday, we’ll have to make some tough choices, but we should be in better position to make them, and puts on IWM should help get us there.

The Play

We’ll buy (buy-to-open) IWM’s $126-strike July puts.

Sample Ticket:


Position Size and Risk: As of 11:45am ET, IWM‘s $126-strike July puts had a bid/ask of $1.11/$1.12, with more than 41,000 contracts in open interest, and more than 4,500 having already traded today. These are highly liquid options. We’ll buy 17 contracts, which will keep our total risked under $2,000 so long as the ask doesn’t reach $1.18 prior to our entry.

Objective: Our objective for this play is to capture gains as the broad market comes down off of its all-time highs, with small caps leading the downturn. We scored numerous winners in late May and early June, and the only thing that’s changed since then is a spot of Fed dovishness – the fundamental picture remains the same. In the case of small caps, though, the fundamental outlook has actually worsened, since the dollar’s strength has been seriously called into question, and a strong dollar is bullish for U.S. small caps.

Price Target: We’ll capture 30% profits on this play if they make themselves available before we check back in on Thursday. Assuming around $1.10, let’s look to sell if the bid rises to $1.45.

Open Plays

BA $150/145 July credit call spread

 

Entry price and date: $1.45 credit on 5/26/15

Position Size: 5 contracts per leg

Total Risked: $1,775

Current bid/ask: $1.90/$2.05 (11:45am ET)

Target: $0.71 ask (for 20% gains)

Boeing (BA) had a poor showing at the Paris Air Show last week, but general market exuberance has sent its share price above $145, and turned this winner into a loser – for the time being. We’ll make money on this play if BA is at $146.44 or less on July 17 when the options expire, and that remains a good bet, despite BA‘s strength as of late. Patience is rewarded on credit spreads.

 

 

 

UUP $25-strike September calls

Entry price and date: $0.58 on 6/8/15

Position Size: 32 contracts

Total Risked: $1,856

Current bid/ask: $0.28/$0.30 (11:45am ET)

Target: $0.70 bid (for 20% gains)

The PowerShares DB US Dollar Bullish ETF (UUP) measures the U.S. dollar against a basket of foreign currencies. We entered these September calls the day after a strong May jobs report saw what looked like profit-taking, but the dollar has yet to recover, and last week’s Fed dovishness hurt, too. Nevertheless, the Fed remains on track for a September rate hike, and there are even murmurs that a positive resolution to the Greek crisis could lead the euro to resume its downtrend against the greenback because many traders have been sitting on the sidelines, waiting to Grexhale. These options expire the same week the Fed should hike rates, and that’s why I continue to like holding them, at this point – they’re losing time value slowly, so they’re more likely to gain than lose from here.

 

 

GILD $125/120 July credit call spread

Entry price and date: $1.51 credit on 6/11/15

Position Size: 5 contracts per leg

Total Risked: $1,745

Current bid/ask: $2.01/$2.28 (11:45am ET)

Target: $0.81 ask (for 20% gains)

China rejected Gilead’s (GILD) patent for its $80,000-plus Hepatitis C treatment, but shares of GILD have continued higher nonetheless. We make money with GILD at $121.50 or less on July 17, and despite how things have trended lately, I continue to think that looks like a likely outcome. We’re short on this credit spread, so time is on our side. We currently have six open positions, including today’s new one, and thus I’ll be looking to take some risk off the board by Thursday, if not earlier. I could see a sharp reversal in GILD between now and then, given how overbought the stock has been for quite some time.

 

GLD $110/115 September credit put spread

Entry price and date: $1.94 credit on 6/15/15

Position Size: 6 contracts per leg

Total Risked: $1,836

Current bid/ask: $2.03/$2.17 (11:45am ET)

Target: Hold until expiration for 64% gains.

Gold Trust Shares (GLD) were at $113.80 when I recommended this bull put spread on June 15, but after breaking out above $115, GLD pulled back today, on optimism for a Greek resolution. Time value is on our side with this play, which will make money if GLD closes September 18 at $113.07 or higher. We’re hedged with our UUP September calls, and it seems highly unlikely that neither UUP nor GLD will see bullish action between now and then, and much more likely that both could.

 

 

DOW $52.50/55 July debit call spread

Entry price and date: $1.17 on 6/19/15

Position Size: 17 contracts per leg

Total Risked: $1,989

Current bid/ask: $1.02/$1.10 (11:45am ET)

Target: Hold until expiration for 64% gains.

We entered this bullish play on Dow Chemical (DOW) on Thursday to gain some upside and long time value exposure. Since then DOW has performed well, and this remains a good play to hedge our overall options portfolio.

 

Previous Winners

PM $80/$82.50 September debit put spread

Entry price and date: $0.97 on 5/18/15

Position Size: 20 contracts per leg

Total Risked: $1,940

Closed: Sold at $1.19 on 6/5/05 (10:43am ET)

Profit/ Loss: +22.7% ($440 profit)

 

 

MCD $95/$100 June debit put spread

Entry price and date: $2.15 on 5/21/15

Position Size: 9 contracts per leg.

Total Risked: $1,935

Closed: Sold at $2.60 or higher on 5/28.

Profit/ Loss: +20.9% ($405 profit)

 

QQQ $113/110 June credit call spread

Entry price and date: $1.36 credit on 5/28/15

Position Size: 12 contracts per leg

Total Risked: $1,968

Closed: Covered at $0.16 on 6/15/15 (12:16pm ET)

Profit/ Loss: +90.2% ($1,776 profit)

 

USO $21-strike July puts

Entry price and date: $1.48 on 6/1/15

Position Size: 12 contracts

Total Risked: $1,776

Closed: Sold at $1.96 on 6/5/15 (9:33am ET)

Profit/ Loss: +32.4% ($576 profit)

 

 

Previous Losers

AAPL $131-strike June calls

Entry price and date: $1.53 on 6/4/15

Position Size: 13 contracts

Total Risked: $1,989

Closed: Sold at $0.55 on 6/11/15 (2:23pm ET)

Profit/Loss: -64% ($1,274 loss)

 

 

Happy trading!

 

Jason’s Bio

 

Jason Seagraves is a 37-year old writer, options trader, entrepreneur, homeschool dad, and evangelist for free-market economics. He launched a successful dot-com business while still in college in the late 90’s, and then went back to school to graduate with a degree in Business, concentration in Finance, from Siena Heights University in 2006. That year, he also earned a Series 7 stockbroker’s license, but opted to pursue a career in freelance writing. From 2008 through 2013, he worked as a “ghostwriter” for a popular stock and options trading newsletter, before joining up with Dividend Lab for a stint in 2014. Now he’s back providing market commentary and actionable options trades for the Big Deal Newsletter, and he’s happy to be here!

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