Option Investor
Index Wrap

Expiration rally inflicts pain on bears

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Bears were most likely licking their chops this morning as September Oil futures (cl04u) were on the rise while stock futures were painting a lower trade.

While there was some positive news after the opening bell, this morning's first 10-minutes of trade may well have signaled that it was a bear's head being put on the chopping block, with traders bound and determined to inflict some "Max Pain" option expiration on their counterparts, as stocks rallied strong to their close, despite oil settling at record highs.

In last night's Index Wrap, I quickly outlined activity in the TRIN that traders might want to be alert to, and today's unraveling of bullish enthusiasm after a lower open certainly has the smell of option expiration volatility.

Either that, or the "inverse oil trade" has run its course. Hmmm.... I'm not so certain about that. Here's why.

U.S. Market Watch - 08/18/04 Close

I've added today's opening ticks to the far right of this evening's U.S. Market Watch, where the tracking DIA, SPY and QQQ will give us a more accurate picture of where the major indices opened. Look at their lows, just fractions below the opening tick.

Then with the TRIN observations and bullish and bearish "plan" we were alert to, note that the TRIN opened 1.14, ticked 1.15, and let me tell you, it dropped like a rock as buyers stepped up to the plate.

Now look at today's Market Volatility Index (VIX.X). The opening tick 17.51 then.... "whacko" as if Popeye himself had squeezed open a can of spinach as put selling and call buying unraveled. In the August 12 Index Trader Wrap I showed a chart of the VIX.X and today's close has volatility right back lower, where more than likely, option expiration has played a BIG role in recent gains.

Not convinced? Today's most active SPX options were the August 1,075 puts (SPQ-TO), September 1,075 calls (SPQ-IO) and September 1,075 puts (SPQ-UO). Hmmm.... 1,075 isn't too far off of the SPX's weekly R1 (1,075.65) and MONTHLY S1 (1,073.50) levels.

My main point here, is that I (Jeff Bailey) am not overly confident that the "higher oil, lower equity" trade has come off.

Market Snapshot / Internals - 08/18/04 Close

While some of the reports out of Iraq that Shiite cleric Muqtada al-Sadr had agreed to withdraw his Mehdi army from Najaf could have only helped bullish sentiment, that news didn't hit the wired until well after 10:00 AM EDT. By then, the TRIN had already dropped to its DAILY S1 and below its DAILY Pivot (0.85).

While the major indices seemed to stall out just below their WEEKLY R2s at mid-session, bulls flipped the switch to "buy" after 02:00 as TRIN made a new low and the Dow Industrials added another 70-point gain to the close.

Today's volumes were not that heavy, perhaps further hinting that the bulk of today's gains can be attributed to unraveling of option trades. Once the move started, it didn't want to stop.

Congratulation to fellow analyst Mark Davis as he rung up an impressive 88.15% gain trading SPX options in today's Market Monitor. Check out his recap in the Market Monitor archive at 16:33:27 and 16:30:49.

Pivot Analysis Matrix -

I'd be a liar if I told you I thought for certain that the SPX would battle back to within 5-points of its August "Max Pain" at 1,100. But there it is at tomorrow's DAILY R1.

It's probably coincidence that the NASDAQ-100 Index (NDX.X) was ablve to close at its DAILY R2. Hmmmm.... sounds like an option- expiration target to me. Gulp! The NASDAQ-100 Index (NDX.X) August "Max Pain" is 1,375 (25-point increments). Hmmm..... that's tomorrow's DAILY R1.

For tomorrow, I'm using today's QChart's high, low and close for TRIN.

My thoughts for BULLISHNESS is that for further unraveling ABOVE DAILY R1's, then TRIN has to fall below 0.91 (DAILY R1) or thereabouts at some point in the session.

DAILY R1s could be in play, where I remember the SOX.X hovering around the 400.00 level in late July, refusing to close much below 399. When the SOX.X did close below 400.00 on August 6, it has traded a new 52-week low of 360.61, which took place intra- day on Friday of last week.

One note I would make, is that on an intra-day basis, once the INDU broke 10-points above its WEEKLY R2, it extended those gains to 10,045 by 02:30 PM EDT. When the INDU pulled back from that session high, bulls snapped up 10,025 faster than Popeye could ask Olive Oyl out on a date.

Jeff Bailey

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