« December 2010 »

IVolatility Trading Digest™

Volume 10, Issue 47
Holiday Sale

Trade selection using volatility as the primary criteria. Different trades for different volatility opportunities.
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Holiday Sale

The holiday sale ideas we have for this Digest Issue are not as the advertisement above suggests, but instead refer to establishing short option positions over the holiday period to benefit from options time decay and declining volatility. While implied volatility as defined by the VIX is already low, we found one individual stock that still has appealing implied volatilities to sell. Next a short momentum idea followed by three attractive upside breakout ideas. Then, the Best Calendar Spread and a takeover. As usual, we begin with a strategy review.

Ben Delivered QE2



The concern in Digest Issue 46 about the fundamental European problems that had been hurting "risk on" trades was reversed last week when it was reported the European Central Bank bought Irish and Portuguese bonds in €100 million tranches, which sharply lowered borrowing costs for Ireland and Portugal. Then on Friday the dollar index made a big decline on the weak employment news pushing long US Treasury bond prices lower as materials, crude oil, commodities and some other "risk on" trades turned higher again.

However, less enthusiasm was seen for gold, now at 1405.40, as it failed to close above the November 9 high of 1,424.30, basis December. Consequently, the Head & Shoulders Top described in Digest Issue 46 remains a possibility. While silver is relatively stronger than gold it too failed to exceed its November 9 high. Higher closes for both this week will remove the uncertainty and encourage the precious metals bulls.  

While the S&P 500 Index (SPX) 1224.71 closed below its November 5 high at 1227.08, the recent previous highs were exceeded by both the Russell 2000 Index (IWM) 75.13 and the iShares Dow Jones Transportation Average (IYT) 91.17.

Since the emerging markets the iShares MSCI Emerging Markets Index (EEM) 47.14, and the iShares FTSE/Xinhua China 25 Index (FXI) 44.72 still have the appearance of Head & Shoulders Tops we have a contest for leadership. If the emerging markets prevail then the active technical pattern for the SPX could become a potential Head & Shoulders or double top. 

As for the divergences reported Digest Issue 46 while there was a slight breadth improvement late in the week it was not enough offset losses early in the week as the McClellan Summation Index declined another 80.41 for the week while the 9-week RSI divergence on the SPX chart remains unresolved. 

The VIX closed at 18.01, near the lower end of its range. Checking the VIX futures premium indicator, shows last week’s low reading of .50%, as we reported in Digest Issue 46, correctly foretold last Wednesday’s 25.52 point up move and by the end of the week, the day-weighted premium over cash had risen back up to a more normal reading of 14.73%.

In light of both mixed fundamentals and technical indicators outlined above, it will be a challenge for performance chasing long portfolio managers going into year-end. However, since they have the buying power they could make the difference and take some markets higher in thin holiday trading.   

The strategy we suggest is to look for individual stocks in favorable sectors with sufficiently high-implied volatility and sell some premium before the markets wind down for the holidays. Here are some ideas.


Holiday Sale Suggestions


Holiday Sale Suggestions


Las Vegas Sands Corp. (LVS) 49.24.

Las Vegas Sands was in the new on Thursday as it reported that an application by its Sands China Ltd., subsidiary had been denied a land concession by the Macau government. The 200 acre parcels in question, on which Sands has already spent more than $100 million, is a part of its expansion plan to develop the world’s biggest casino. While the stock declined 2.17 on the news, analysts noted future revenues from this expansion are not included in their existing earnings models. While Sands may appeal the ruling, the uncertainty is likely to keep options premiums from declining very much in the meanwhile. 

With the current Historical Volatility of 53.24 and with an Implied Volatility Mean Index of 54.42, for an IV/HV ratio of 1.02, and a put-call ratio of .65, consider selling some puts for those willing to accept the risk of being assigned stock, as there are several attractive December and January puts available for sale. Here are two of many with implied volatilities in the mid 50s.


Las Vegas Sands Corp.


Use a close below the last pivot low of 44.10 made on November 17 as the SU (stop/unwind). Alternatively plan to take the stock by assignment if is closes below the strike price on expiration and then sell calls as the implied volatility will likely remain favorable for sales.

We have suggested LVS in many Digest Issues over the last year. Many have been put sales, some in combination with long call spread such as the most recent in Digest Issue 45.

Chipotle Mexican Grill, Inc. (CMG) 235.91.

Selling at a price to earnings multiple of 46 and a price to earnings growth ratio of 2.24, it looks like the stampede for the exit has begun for this momentum darling.  

On Friday, it was ranked as number one on our Top 5 list of greatest changes in implied volatility. The current Historical Volatility is 52.70 while the Implied Volatility Index mean is 42.46, up 4.77, or 12.67% on Friday, and likely to rise further if the stock continues lower; the IV/HV ratio is .81 with the put-call ratio in bearish territory at .8.

This holiday sale structured as a directional trade is a combination of a short call spread and long put spread.


Chipotle Mexican Grill, Inc.


Use a close back above previous high at 262.77 as the SU (stop/unwind). The credit for the short call spread is 29% of the distance between the strikes, while the put spread is 26%. At the current price, the combination offsets most of the expected increase in implied volatility (shown above with a positive vega of .0002) with the expected continuing decline in the stock price.

There are two upward sloping trendlines to watch. The first is from the July 20 low of 127.30, which crosses at 187, while the second is from the August 25 low of 142.82 crosses at 212. The higher second projected trendline is the basis for selecting the short January put at 210. A close in this area would mean CHG remains in an uptrend, but more reasonably valued. It would take a close below 187 to change the trend downward.



For the upside, here are some interesting breakout ideas.

Teck Resources Limited (TCK) 54.73.

With both red-hot coal and copper, consider this Canadian mining company with a current Historical Volatility of 40.08, an Implied Volatility Index Mean of 43.14, an IV/HV ratio of 1.08 and a neutral put-call ratio of .45.


Teck Resources Limited


Use a close back down below the last pivot at 47.76 as the SU (stop/unwind).

Fluor Corporation (FLR) 61.77.

Here is an addition to the suggestions made in Digest Issue 43 and Digest Issue 45.

The current Historical Volatility is 35.28, with an Implied Volatility Index Mean of 31.33 and an IV/HV ratio of 1.00 and a bullish .3 put-call ratio.


Fluor Corporation


Use a close back below support at 55 as the SU (stop/unwind).

SeaDrill Limited (SDRL) 34.05.

SDRL is a Bermuda based growing offshore drilling company managed by John Fredriksen, who also manages Frontline Ltd., paying a 7.6% dividend. It has just broken out above the November 9 high at 33.91.

The current Historical Volatility is 33.09 with an Implied Volatility Index Mean of 31.31 for an IV/HV ratio of .95 and a bullish put-call ratio of .3.


SeaDrill Limited


Use a close back down below the last pivot and upward sloping trendline at 30.78 as the SU (stop/unwind).


Best Calendar Spread

This idea comes from our regularly featured "Best Calendar Spread" selection found in the Rankers and Scanners section of our home page on Friday. Since it trades with significant volume, and narrow bid/ask spreads we modified it somewhat making it a four leg position.

Amgen Inc. (AMGN) 53.73.

Amgen, the biotech company sold off from 58.42 after reporting earnings of 1.36 on October 25. In addition, to being selected as our Best Calendar Spread it was also ranked number 3 in Friday's Top 5 list of high IV/HV ratios at 2.40, creating a large positive volatility spread.

After declining to 52, it appears to have made a pivot having broken the downtrend line. The Current Historical Volatility is 14.39, with an Implied Volatility Index Mean of 34.50 for an IV/HV ratio of 2.40 and a bullish put-call ratio of .38. Consider this calendar combination.


Amgen Inc.


Use a close back down below the most recent pivot at 52.19 as the SU (stop/unwind).


Takeover File 

For the bulging takeover file, we have an update.

Airgas Inc. (ARG) 66.26.

After a Delaware Chancery Court Judge issued a letter to both sides in this long takeover struggle, the stock price gapped up suggesting a higher bid may be in the works as the options implied volatility declined.

The current Historical Volatility is 26.26, with an Implied Volatility Index Mean of 34.29, an IV/HV ratio of 1.31 and a bearish put-call ratio of .8.

The last time we suggested selling the 62.5 put was in Digest Issue 35, and since this struggle may not be resolved anytime soon, here is one more holiday sale idea.


Airgas Inc.


The put sale has good edge, but be prepared to take the stock by assignment if it closes below 62.5 at the December expiration.

All of the suggestions above are based upon last Friday's closing prices using the mid price between the bid and ask. On Monday, the option prices will be somewhat different due to the time decay over the weekend and any price change.



While both the fundamental and technical outlooks for are mixed going into the holiday period, equities could be pushed higher by performance seekers, but the S&P 500 Index will first have to overcome resistance and a potential double top.


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Next week's issue will feature an update of our market indicators and will be the last for the year.


Holiday Sale


Finding Previous Issues and Our Reader Response Request

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IVolatility Trading DigestTM Disclaimer
IVolatility.com is not a registered investment adviser and does not offer personalized advice specific to the needs and risk profiles of its readers.Nothing contained in this letter constitutes a recommendation to buy or sell any security. Before entering a position check to see how prices compare to those used in the digest, as the prices are likely to change on the next trading day. Our personnel or independent contractors may own positions and/or trade in the securities mentioned. We are not compensated in any way for publishing information about companies in the digest. Make sure to due your fundamental and technical analysis homework along with a realistic evaluation of position size before considering a commitment.

Our purpose is to offer some ideas that will help you make money using IVolatility. We will also use some other tools that are easily available with an Internet connection. Not a lot of complicated math formulas but good trade management. In addition to Volatility we use fundamental and technical analysis tools to increase the probability of success and reduce risk. We prepare a written trade plan defining why the trade is being made, what we call the "DR" (determining rationale) and the Stop/unwind, called the "SU".