Option Investor

Futures Implosion

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The quadruple expiration of futures and options took a heavy toll on oil prices and energy stocks. Even after a stronger than expected draw from gas storage there was a significant sell the news event in gas plays. I mentioned on Tuesday in the Option Investor Daily that I expected a sell the news event but I admit it exceeded my expectations. The expiration of futures and options forced traders to take profits and it was the perfect combination of circumstances to facilitate this event. The January Natural Gas contract hit its high at $15.78 on Tuesday before the inventory report and it was all down hill from there. January oil topped at $61.95 before a three day decline to close at $58 on Friday. These highs gave traders the perfect exit for long options/futures positions and they took it.

Despite the selling we only lost two positions and one was not an energy position. Titanium Metals was in full drop last Friday and I mentioned I would have liked to wait until a rebound began before entering the position. Unfortunately until the new trade alerts start in January I had to make a go/no go decision last Sunday. I elected to enter at $68 and that entry lasted about 30 minutes after Monday's open before being stopped out at $62.50. Monday was the low for the week and I am reentering that position again this week.

The VLO split play is now official with VLO trading at the post split numbers. I am looking at holding VLO long term with insurance.

The CAM split play was dropped after the market maker failed to list any new options. See the play description for details.

I am taking BTU off the watch list and adding it as a new play this weekend. The decline back to $81 was a -$6 drop and right back to the uptrend support line. It was on the watch list at $80 so I am only jumping the gun slightly.

With cold weather depleting gas supplies by -202 bcf last week another protracted bout could pull even more out of storage. 55% of the homes in America are heated with gas. The weather never returned to normal around the country and colder temperatures are predicted for next week. As I type this in Denver on Friday night the temp is 8 degrees and the high for the next five days is expected to be 24. The next cold front is coming and as you can see by the map it is wide and cold. The majority of the country should eventually be affected.

Weather Map as of Friday Night

In light of the predictions I am going to continue to hold energy plays until January and then pare back according to what the market gives us. Once the spring decline begins we will switch to long term buy mode with March entries the expected target.

In order to give us something to do while we wait for the next cycle I am going to add a few fringe plays like gold, copper and alternative energy. The addition of Evergreen Solar and Titanium Metals last week were a couple of those plays. I am adding Freeport McMoran to the watch list this weekend.

This was a bad week for profits due mostly to the Conoco/Burlington announcement. Sometimes you just get lucky like that where everything turns against you. This reinforced the need to use alternate methods of reducing risk. Some of those methods will be selling calls against our leaps and insurance puts. The plays will continue to be laid out with a variety of insurance options and it is up to you to decide which appeals to you.

The Conoco drop ended at about -$6 for the week. If you remember I had cancelled the insurance put several weeks ago after COP had risen well over the October lows. The stop was raised to only $59 to avoid a volatility dip with COP in the $63-$65 range. That conservative play change came back to bite us with a -$3 drop in the LEAP price. If you are still long COP there are multiple ways to play this.

1. Close your position for a loss.
2. Sell a call option against the LEAP.
3. Buy a put to prevent any further loss.

I will describe the various options in the COP play description. If we were not stopped I would still have dropped it from the portfolio. I still have vivid memories of how long it took us to recover from the Chevron/Unocal acquisition drop.

I told you last week I expected some volatility due to futures/options/rebalancing and it played out as expected only a little harsher in the energy sector. This week I expect an upward bias that will last until the 29th give or take a day. Let's profit from it and then take some chips off the table.

Natural Gas Chart - Daily

Crude Oil futures Chart - Daily

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