Thursday, February 16, 2017  2:32:19 AM

Trend is Your Friend

by Jim Brown

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Review prior updates here: 2014  2015  2016  2017 
The trend is your friend until it ends and investors are acting like this one has a long way to go.

Unfortunately, trees do not grow to the sky and unbroken rallies do not last forever. First, let me preface this with a recommendation to buy the dip when it arrives. I am not trying to project doom and gloom, only that we have passed the normal limits of overbought. Once there is a decent pause, we are likely going higher.

The RSI on the Nasdaq 100 ($NDX) has reached the highest level since July 3rd, 2014 at 81.94. The 2014 high was 82.60 and the index declined for four days after that peak. The Nasdaq is very overbought but I keep hearing analysts say hedge funds and institutions are still underweight stocks. Nobody expected the post election rally to continue and everyone was caught off guard.


For a couple weeks, I used the terms "short covering and price chasing" in my market commentaries. This is what that looks like. Portfolio managers were caught underweight and the market is running away from them. They are forced to chase stocks higher regardless of the fundamentals and technicals. They cannot afford to let their competitors capture all these gains while they are waiting patiently on the sidelines for the next dip. If the market dips once they are in, at least it dips for everyone.

The S&P has made an astounding surge over the 2,300 level and actually pierced 2,350 intraday. This index is also overbought but not nearly as severely as the Nasdaq.


Remember all the hand wringing over Dow 20,000 for the entire month of December and January? Well now the new target is 21,000 and we are only about 389 points away. If the Dow were to hit that level over the next week it would be the fastest 1,000 points on record. Yes, the Dow is overbought as well but 16 of the Dow components are at or near their recent highs. This is broad based price chasing in the Dow components.


Wednesday was a big market gain. All the indexes were up sharply and even the Russell 2000 broke out and closed over 1,400. However, the Volatility Index (VIX) rose 11.4% in a strongly bullish market. The VIX is not supposed to rise in a bullish market because it is calculated off the volume and prices of puts on the S&P. Somebody was buying a massive number of puts to protect their gains against the eventual bout of profit taking.


Even at today's closing level of 11.97 that is still very low volatility and the option premiums reflected that today. The longest streak of gains on the S&P since 2013 has convinced investors the market cannot go up much longer so call premiums were almost nonexistent. Put premiums were higher but were still very cheap compared to where they should be trading.

The AAII Sentiment Survey ends on Wednesday. The survey below covered the 7 days when the S&P posted consecutive gains. Note that the bullish sentiment actually went down and the bearish sentiment went up. Apparently, not everyone is drinking the bullish Kool-Aid.


The S&P futures are down -3 tonight but of course, that could be reversed or doubled by morning. They are simply giving us a clue that we could be headed for some market weakness in the near future.

Jim Brown

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Current Portfolio


The fourth column in the portfolio graphic is the earnings date. We will always exit a position before that date unless specifically mentioned otherwise in the play description.

Lines in blue were previously closed.

Current positions

Covered Calls



Current Position Changes


Cynosure (Close Short Put)

We got lucky on this position. On Tuesday the company agreed to be bought by Hologic for $66 per share in cash and the stock was trading at $50 at the time. Our $45 put turned worthless overnight and we should close it at the open on Thursday.

Close Mar $45 short put, entry $1.80, currently .05, +$1.75 gain.



IWM - Russell 2000 ETF (Stopped)

The Russell 2000 finally decided to follow the big caps higher and we were stopped out of the short side on the March call spread. Fortunately our long call is rising in value and could be worth some money if the rally continues. The Russell actually broke out on Wednesday and closed over 1,400.

Closed Mar $140 short call, entry $1.09, exit $1.61, -.52 loss.
Retain Mar $145 long call, entry .26, currently .55.



CYTR - CytRx (Close)

We wrote a covered call on CYTR several months ago and they reported a failed drug trial that cut the stock from $2.25 to $.55 overnight. We have been holding the stock in hopes they would announce another successful trial and spike the stock to even greater heights. Shares continue to drift lower and the news flow is not promising. I am recommending we take our loss and sell the shares.

Sell CYTR shares, adjusted cost $1.90, currently .42, -1.48 loss.



New Recommendations


STZ - Constellation Brands (Put Spread)

Shares of Constellation have been volatile over the last four months. The stock has been bouncing in the $145-$158 range. However, I think this may be over as talk about a border tax is starting to fade and chances of passage are decreasing. Shares closed at a six-week high on Wednesday after a solid rally from the last low.

Earnings April 5th.

Sell short Mar $150 put, currently $1.65, stop loss $153.00
Buy long Mar 140 put, currently .55, no stop loss.
Net credit $1.10.



NVDA - Nvidia (Cash secured put)

Nvidia blew away earnings but investors thought guidance was light even though they are the bleeding edge of technology today with new product announcements every week. Shares have pulled back to $109 and they could decline to $100 in a weak market. However, that should be strong support.

Earnings May 9th.

Sell short April $95 put, currently $1.50, stop loss $99.50



Other Potential Plays (Spreads, Covered Calls, Naked Puts)

These are not official plays but a good place to start if you are looking for something else to trade.

March expiration is the 17th, April is the 21st.



New Covered Call Recommendations


No New Covered Calls

I was very surprised I could not find any new covered calls. The volatility is just too low. Whenever the market goes directional for a long period the volatility crashes along with the call premiums. Since very few investors expect the market to continue higher, the call premiums are extremely low, even on stocks with strong trends or recent spikes.


Existing Positions (Alpha by Symbol)

THESE ARE NOT CURRENT RECOMMENDATIONS. These are prior recommendations that are still active in the portfolio. Do NOT act on the plays described in this section. This is the archive of prior recommendations in the current portfolio.


AMD - Advanced Micro Devices

AMD was left for dead multiple times over the last several years. They have reinvented themselves and are becoming an actual competitor for Intel and Nvidia. They beat on earnings and have several new products in the delivery stream.

Earnings May 2nd.

Buy-write Mar $14 call, currently $13.56 and $.80, stop loss $11.85
Gain if called $1.24


CYNO - Cynosure (Cash secured put)

CYNO beat on earnings on Tuesday on record revenue that rose 19%. Shares are moving higher after the report. With support at $49 I am recommending a $45 short put.

Earnings May 9th.

Sell short Mar $45 put, currently $1.70, stop loss $48.85.


CYTR - CytRx Corp (Covered Call)

It was going to be very hard to lose money on this position.

CytRx is a biopharmaceutical research and development company specializing in cancer drugs. They will be presenting three abstracts this weekend at the ASCO cancer conference. Shares have been jumping around between $2 and $3.50 since March. With the conference this weekend the options are high.

Buy-write CYTR July $3 call, currently $2.93-$1.00. No stop loss.

CytRx received some bad news on a drug trial and the stock gapped down to 65 cents. We are waiting for some positive news to inflate the stock and we will sell a new call.


GS - Goldman Sachs (Put Spread)

Goldman was the market leader in November with an unbelievable surge. Shares were flat for five weeks in Dec/Jan before crashing back -$16 over a three day period. A bottom formed at $230 and shares are moving higher again. There is strong resistance at $246 but as long as the market continues to make new highs, Goldman should be making new highs as well.

Earnings Apr 19th.

Sell short Mar $220 put, currently $1.94, stop loss $229
Buy long Mar $200 put, currently .48, no stop loss.
Net credit $1.46

Update 2/8/17: Goldman gapped down last Thursday to stop us out of the short put. I am recommending we reopen the same strike.

Closed Mar $220 short put, entry $2.46, exit $3.70, -1.24 loss.

Sell short Mar $220 put, currently $1.50, stop loss $229.25

Retain Mar $200 long put, entry .50, currently .30.


IWM - Russell ETF (Call Spread)

The Russell 2000 has been the weakest index and it is threatening to break below support at 1,350. I have looked at hundreds of small cap charts and the vast majority are very bearish. The index is only being kept alive by a small number of stocks, mostly in the biotech sector.

The S&P futures are down -8.50 as I type this so the odds are good we are headed for some real profit taking. I am recommending a call spread since we may not be back in this area with a bullish bias for several weeks.

Sell short Mar $140 call, currently $1.08, stop loss $137.65
Buy long Mar $145 call, currently .27, no stop loss.
Net credit 81 cents.


MELI - Mercadolibre (Short Put)

MELI is the largest online retailer in Latin America and they closed at a four-week high on Wednesday. They were recently upgraded by Goldman to buy with a $170 price target. Holiday shopping was probably good for MELI.

Earnings Feb 23rd.

Sell short Feb $150 put, currently $2.00, stop loss $155.50


NFLX - Netflix (Put Spread)

Netflix has broken out to a new high at $145 and showing no signs of weakness. There is solid support at $140 and I think we can squeeze in a 135/125 put spread.

Earnings April 19th

Sell short Mar $135 put, currently $1.47, stop loss $138.85
Buy long Mar $125 put, currently .40, no stop loss
Net credit $1.07.


PANW - Palo Alto Networks (Put Spread)

PANW crashed after earnings in November from $165 to $123. After several weeks building a base at that level the stock finally found a friend that surprised everyone. Short seller Citron Research went bullish on PANW on the 5th with a $170 price target. Citron said PANW could have 85% of the Fortune 100 as customers by 2020. More than 60% of their revenue is now recurring subscriptions. Shares popped $11 over the last week on the upgrade. Citron said Bernstein had a report out on them last week that was equally as bullish.

Earnings Feb 20th.

If you are worried about the stop loss being too close, you could buy a January $130 put instead of the stop loss. The put is 40 cents today. If the stock is going to crash it will probably be before the January expiration.

Sell short Feb $130 put, currently $2.05, stop loss $132.75
Buy long Feb $120 put, currently .65, no stop loss.
Net credit $1.40


SPY - S&P-500 ETF (Call Spread)

All the signs are pointing to an end of year drop in the markets and the potential for an ugly January until after the inauguration. I believe the market has peaked for at least the next four weeks. If the new president is sworn in without a mishap or terror event, the market should rally strongly out of the January decline.

This is a February strike because there was no premium in January.

Sell short Feb $230 call, currently $1.41, stop loss $227.65
Buy long Feb $235 call, currently $0.42, no stop loss.
Net credit 99 cents.


VIX - Volatility Index (Call Spread)

The VIX has been slightly elevated over the last several days to close near 12 today. If we were to get a major downdraft, I would like to capture that by selling a call spread. We are going to enter the spread with a VIX trade at $18. There will be no stop loss because it rarely stays high for more than a couple days.

With a VIX trade at $18,

Sell short Mar $20 call, estimated premium $2.00, no stop loss.
Buy long Mar $30 call, estimated premium 40 cents, no stop loss.
Estimated net credit $1.80

Update 2/8/17: The market refuses to decline and the VIX refuses to rise. Both of those facts will eventually reverse. I profiled a March call spread in the VIX in the prior newsletter. With time expiring quickly, I am revising that to use April strikes.

With a VIX trade at $18

Sell short Apr $20 call, estimated premium $3.00, no stop loss.
Buy long Apr $30 call, estimated premium 50 cents, no stop loss.


XBI - Biotech ETF

The biotech sector has been in sell mode since mid November and hit a 7-week low last week. Today there was a 4% rally in Biotech Index and a 5% rally in the XBI. There was a double test of support at $59 over the last two weeks. While there is no way to predict what the market/sector is going to do over the next three weeks the first two days of 2017 have been bullish. I am recommending a put spread on the XBI. Since the sector has already sold off, it could see bargain hunting buying on any market decline.

Sell short Feb $56 put, currently $1.01, stop loss $58.85
Buy long Feb $49 put, currently .26, no stop loss.
Net credit 75 cents.


Margin Requirements:

There are several different formulas for determining margin requirements for naked put writing. These are normally broker specific and some can require larger margin requirements than others.

Here is the most common margin calculation for naked puts.

100% of the option premium + ((20% of the Underlying Market Value) - (OTM Value))

For simplicity of calculation simply use 20% of the underlying stock price and you will always be safe. ($25 stock * 20% = $5 margin)


Prices Quoted in Newsletter

At Option Investor we have a long-standing policy prohibiting the editors and staff from actually trading the individual recommendations in order to conform to SEC rules concerning trades.

The prices quoted in the newsletter are the end of day prices in most cases.

When discussing fills or stops the prices quoted are the bid/ask at the time the entry trigger or exit stop is hit. This is NOT a price that someone on staff actually got using a live order.

For entry/exit points at the market open the prices quoted will be the opening print. The majority of the time the readers are able to get a better fill than the opening print because of market maker bias at the open.

For trades with an opening qualification the prices quoted will be the bid/ask at the time the qualification was met.

All of these rules normally produce worse prices than an active trader would normally get. Because they are standardized there may be some cases where a price quoted was better than an actual fill. If you received a price that was dramatically different than what was quoted please let us know.