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Today


IVolatility Trading Digest™


Volume 15 Issue 46
Retracement Selling & Macy's [Charts]

Retracement Selling & Macy's [Charts] - IVolatility Trading Digest™

Trade selection using volatility as the primary criteria. Different trades for different volatility opportunities.
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Before the tragic terror attacks that occurred in Paris last Friday, the S&P 500 Index had already been declining that day after a brief midday upswing that failed, so expect it to continue lower today. The short-term uptrend from the September 29 ended November 5, the day before the much better than expected non-farm payroll report released Friday November 6. The selling may have reflected expectations for higher interest rates or perhaps it was just selling the retracement high once again. There is more below along with a VIX futures premium update followed by a review of Macy's, Inc. (M) November 11 earnings report and the early warning given by the high IV/HV Ratio, then another high IV/HV ratio example for Salesforce.com(CRM).

 

Review NotesS&P 500 Index (SPX) 2023.04 down 76.15 or - 3.63% for the week as sector rotation especially evident in crude oil and resistance in the 2050 -2100 range from July 27 to August 20 around the long-term upward sloping trendline ended the advance from the September 29 low at 1871.91. While the double bottom upside measuring objective at 2172 remains the ultimate target, it will first likely retest 2000. From there a further advance would be more gradual and perhaps more sustainable presuming it turns higher from around 2000.

CBOE Volatility Index® (VIX) 20.08 up 5.75 for the week, based on real-time prices of options on the S&P 500® Index, constructed to reflect investors' consensus view of future (30-day) expected stock market volatility.

The table below shows the VIX cash compared to the next two futures contracts as well as our calculation of Larry McMillan’s day-weighted average between the first and second months.

 

table

 

With just 2 trading days until November monthly expiration, the day weighting applied 10% to November and 90% to December for an -.78% premium shown above. Our alternative volume-weighted average between November and December regularly found in the Options Data Analysis section on our homepage was slightly higher at .14% while the open interest based premium was closer to the day weighted at -.19%.

While day-to-day VIX changes offer little forecasting insight following the VIX futures premium helps since it measures expectations of tactical professional traders and money managers using VIX futures and options for hedging long portfolio risk.

Premiums for normal term structures during uptrends are 10% to 20% while premiums above 20% are unsustainable suggesting a lack of enthusiasm for VIX hedging often occurring around market highs suggesting overbought conditions associated with pullbacks. Alternatively, premiums less than 10% suggest caution and negative premiums indicate oversold conditions. Last week the volume-weighted premium opened in the yellow caution zone below 10% where it remained all week beginning at 4.21% Monday ending at .14% Friday.

 


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High IV/HV Ratio Early Warning Indicator Review

Macy's, Inc. (M) 39.10 down 9.80 or - 20.04% for week, after reporting 3Q earnings of .36 per share with revenue of 5.87 bn vs. the consensus estimate of .53 per share on revenue of 6.12 bn. In addition, to a less than rosy outlook for 4Q they also said there is not enough value in the creation of a REIT at this time. In the past, there had been some chatter about activist pressure to spin off its real estate holdings into a REIT.

Here is an example in support of our claim that we provide "options data with predictive qualities."

The story begins in Digest Issue 44 "Uptrend Appraisal" highlighting Macy's as being number 3 in the high-implied volatility/historical volatility ratio category from the previous Friday’s ranker sample. We offer the Top 5 as a regular complimentary feature in the Rankers and Scanners section on our Home site. High IV/HV ratios are the first alert that something unusual is happening as options prices are being bid up to abnormal levels so when Macy's appeared with an IV/HV ratio of 2.08 and because Macy's is a recognizable brand name we took at look.

The first step was to adjust the IV/HV ratio using the Parkinson's range method (P) for the historical volatility found on our Advanced Historical Data page. When adjusted the IV/PHV ratio was even higher at 2.11. By experience, we have found ratios above 2.00 are often associated large stock moves. Therefore, anticipating a large move, we booked a long November 20 out-of-the money 55/57 call spread (long the 55 November 55 call, short the November 57) for a .45 debit. On the put side, it was long the 45/47 put spread for a .31 debit.

Like a bloodhound on the scent, we followed up the next week in Digest Issue 45 "Employment Rebounds" noting that the November 20 at-the-money 49 call and put implied volatility mean increased from 53.72 to 69.86 for an IV/PHV ratio of 2.84 well into the red zone for traditional long calendar spreads that are hurt by large stock moves. While the options that expire November 13, the ones closest to the report date were even higher with an IV/PHV ratio of 3.39.

Here are the 6-month stock and volatility charts.

 

table

 

The arrow points on both charts show where they were when first noticed by the high IV/HV ratio in ranker sample using data from Friday October 30 as explained Digest Issue 44.

On Tuesday November 10, the day before reporting, it closed up .78 at 47.02 while the at-the-money November 13 options average implied volatility for the 47 calls and puts was 124.99 for an IV/PHV ratio of 4.87. Like boiling water in a teapot, the pressure was building.

After reporting Wednesday morning November 11, it opened gap down closing they day off 6.58 at 40.44 or -13.99%, see the green marker on the chart above, by the end of the week it closed at 39.10 or -20.04% lower. After reaching 59.80 on Monday November 9 the mean implied volatility index IVXM declined to 37.93 Friday (see the volatility chart above) while the IV/PHV ratio returned to a more normal 1.27.

The end of the week mark-to-market for the long November 20 call and put spreads referred to as Iron Condors were: the put spread gained 1.34 offset by a total loss of .45 on the call spread for a net gain of .89. Requiring a small total margin, the gain exceeded 100% in less than two weeks.

The initial assumption was that the high and rising implied volatility may have included speculation that Macy’s would announce the formation of a REIT for it’s real property holdings along with the upcoming quarterly report. However, after Nordstrom Inc. (JWN) 53.96 reported Friday and the stock declined 9.51 or -14.98% it seems the issue is about all mall based brick and mortar retailers and concerns about weak sales for the upcoming fourth quarter.

While some may dismiss this example as just an isolated event, when the IV/HV Ratios exceed 2.00 before an event with a known date and continues increasing until the last day along with high options volume the chances greatly increase for a large stock move. Using a numerical guideline such as above 2.00 and rising into the event date helps quantify the probable move and the risk to long calendar spreads. This example is only one of many provided in previous Digest issues.

Another upcoming example:

Friday’s ranker sample has Salesforce.com (CRM) 75.60 down 2.70, in the number 3 place for high IV/HV ratio at 2.16 and 2.19 when adjusted to the range historical volatility, scheduled to report Wednesday November 18 after the close with a consensus estimate of .19 on 1.70 bn revenue.

The November 20 at-the-money 76 call and put implied volatility mean was 80.54 while the range historical volatility was 21.25 for an IV/PHV ratio of 3.79 indicating expectations for another large stock price move Thursday.

 

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Summary

While the S&P 500 Index appears oversold, it will most likely continue lower for the next few days following the tragic events in Paris last Friday, as emotional reactions are more likely to determine market direction than valuation or some specific technical objective. However, previous support and resistance areas could provide some clues about how the markets begin to assess the implications for the global economy. For the S&P 500 Index the first test will be at 2000.

 

Twitter Follow us on twitter for more ideas from our scanners and other developments.

 

ActionActionable Options™

We now offer daily trading ideas from our RT Options Scanner before the close in the News section of our home page based upon active calls and puts with increasing implied volatility and volume.

 

For next week’s issue, we will review all of our market indicators with a special look at crude oil.

 

Finding Previous Issues and Our Reader Response Request

All previous issues of the Digest can be found by using the small calendar at the top right of the first page of any Digest Issue. Click on any underlined date to see the selected issue. Another source is the Table of Contents link found in the lower right side of the IVolatility Trading Digest section on the home page of our website.

As usual, we encourage you to let us know what you think about how we are doing and what you would like to see in future issues. Send us your questions or comments, or if you would like us to look at a specific stock, ETF or futures contract, let us know at Support@IVolatility.com or use the blog response at the bottom of the IVolatility Trading Digest™ page on the IVolatility.com website. To receive the Digest by e-mail let us know at Support@IVolatility.com

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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.

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