The major stock indexes had strong gains this week and recovered from the two week downturn. So far during second quarter earnings season 148 companies in the S&P 500 Index have reported and 73% have surpassed analyst expectations. This rate is even higher than 66% that is considered the norm. If the current earnings results continue at the current rate, second quarter earnings will be considerably higher than a year ago when earnings growth started accelerating after coming out of the recession. In few a weeks we will have the final report card on earnings and revenue as 180 companies in the S&P Index will be reporting next week. Most of the companies that have not yet announced financial results will do so the following week.
The strong corporate results have taken some of the attention off of the battle over raising the U.S. debt ceiling as most observers are betting that the White House and Congress will work out a deal. Another concern that is sliding off investors' radar is the Greece debt crisis as European leaders agreed to a rescue plan to exchange current Greek bonds for new debt that matures far into the future. We appear to be approaching the end game for these high profile economic negotiations as the National Football League owners and players may (or may not) be close to settling their labor dispute.
Stock prices are edging back up toward recent highs and the question is whether investors believe the strong second-quarter earnings will carry forward into the future and drive stocks higher? Recently, we noted that the major stock indexes had settled into a year long trading range. Thus far, every time stocks threaten a breakout past the April highs for the year or the March lows, prices revert to the mean and head in the opposite direction. At some point, either on the upside or downside, prices will break through this trading range. As mentioned in the July 17th Couch Potato "... For our trading strategy we obviously prefer that this trend continues as range-bound trading is the ideal environment for market neutral positions. Our current trades were set up well, but there is still a lot of time left prior to August option expiration and as proven over and over again, the market tends to do what most people don't expect..." Hopefully, the market will continue to cooperate with us a while longer.
SPY Position Update
SPY closed $134.58 on Friday - the April position is approx. $400 in the black
SPY is priced ABOVE at its current 14-day EMA (see SPY chart down below)
SPY is trading ABOVE its 20-day Bollinger Band SMA (see SPY chart)
SPY is just ABOVE its 50-day simple moving average (see SPY chart)
SPY is ABOVE its 200-day simple moving average (see SPY chart)
Relative Strength Indicator (RSI) is bullish (See SPY chart)
Moving Average Convergence/Divergence (MACD) is bullish (See SPY chart)
The July 5th Couch Potato published an August expiration month bear call spread
This call spread is approx. at breakeven (see tables below)
$138 strike price short call delta is .2598 (74% probability this position will be profitable)
The July 5th Couch Potato published an August expiration month bull put spread
This put spread is approx. $400 in the black (see tables below)
$128 strike price short put delta is -.1730 (83% probability this position will be profitable)
SPY Risk Analysis
Stock prices are turning up and the most probable risk if the bullish trend continues is a threat to the $138 strike price short call.
DIA Position Update ---------------------------------------------------------------
DIA closed at $126.60 on Friday - the April position is approx. $500 in the red
DIA is priced ABOVE its current 14-day EMA (see DIA chart down below)
DIA is trading ABOVE its 20-day Bollinger Band SMA (see DIA chart down below)
DIA is ABOVE its 50-day simple moving average (see DIA chart)
DIA is well ABOVE its 200-day simple moving average (see DIA chart)
Relative Strength Indicator (RSI) is neutral (See DIA chart)
Moving Average Convergence/Divergence (MACD) is neutral (See DIA chart)
The July 12th Couch Potato published an August expiration month DIA bear call spread
This put spread is approx. $500 in the red (see tables below)
$128 strike price short call delta is -.3830 (62% probability this position will be profitable)
DIA Risk Analysis
We have not had the opportunity to open the put spread side of the iron condor â€“ therefore the only risk is prices going higher and threatening the $128 strike price short call.
As with initiating the trade, the decision process for exiting our SPY and DIA spreads will be simple:
Anytime the market maker is willing to accept a limit price of less than .11 on one of our short strikes, buy back all the short contracts and sell the long positions on the same spread. However, if it is a few days prior to the expiration date, we may be able to hold out for a .05 bid.
If one of our short strikes is penetrated (closing price above our short call or below the short put) AND the delta rises to .65 we will look to close out this spread (buy the short contracts, sell the long) and roll it out to another short strike price. Unless this is option expiration week, do not panic and rush to close the trade, many times the market will reverse itself and remove the sense of urgency. If one of our short strikes has been violated and there is no price reversal, we cut our losses and live to fight another day.
Exiting this position prior to expiration we will probably â€œleg outâ€ of each trade by first unwinding either the bear call spread or the bull put spread; and close out the other side of the spread as a separate order. The timing of closing out each side of the Iron Condor is dependent on following our Exit Rules described above.
Trading volatility has subsided a bit since as the major indexes posted impressive gains this past week. The timing of our current positions may have been opportune as the general concept is that elevated implied volatility is the ideal time to sell option premium. As fear subsides from the market (as signaled by lower volatility), option values tend to decrease which is what you want to happen with credit spreads. But there is still a lot time left until August option expiration and stocks have been gyrating up and down over the past few weeks â€“ volatility could very easily take off again. Fortunately, August options expire after the end of earning season, if stock prices stay in check over the next few weeks we should be okay when expiration rolls around.
Couch Potato Trader Disclaimer
All results reported in this section are hypothetical. While the numbers represented here may have been achieved or beaten by our readers, we make no representation that any individual investor achieved these exact results. The tracking for the plays listed in this section uses closing prices for the day the newsletter is published and it is not meant to imply that any reader actually received those prices (though many often do) or participated in these recommendations (even though many do). The portfolio represented here is hypothetical and for investment education purposes only. It is only an illustration of what type of gains a knowledgeable trader might receive utilizing these strategies. If you don't get close to these results, guess what. It isn't the fault of the strategies.