By now it is no secret that equity markets continue to deliver solid gains
for 2014. In fact, all of the major U.S. domestic stock market indexes are
higher for the year. U.S. equities have benefited from an accommodating Federal
Reserve, massive corporate stock buy-back plans, and solid earnings growth.
The bullish trend which began in early 2009 has pushed equity indexes to several
all-time highs.
However, when we focus our attention on 2014 one index is showing major relative
out performance. The Nasdaq Composite and the Nasdaq 100 indexes have blown
away every other major index in terms of overall returns in 2014. The chart
shown below illustrates the returns of each major U.S. equity index year-to-date.
As can be seen above, when looking at the corresponding ETF for each major
index, the Nasdaq 100 (QQQ) is running away from every other major index in
terms of performance. As a contrarian trader, I am of the opinion that now
may be an excellent time to consider looking for a possible short position
to hedge against the bullish trend.
The equity markets in the United States are becoming frothy and prices are
at the very least fair valued if not overvalued depending on which methods
are used to calculate current prices. When we consider the major out performance
in the Nasdaq 100 Index, it would only make sense that if we see downside in
the future we could capture some big potential profits.
As an option trader who focuses primarily on probabilities for trade executions
using a variety of implied volatility calculations and Delta assumptions, the
following observations regarding the Nasdaq 100 Cash Index (NDX) were derived
based on data points on Friday, August 29th.
Based on the September NDX option expiration date, the current skew in the
NDX option data is to the downside. In fact, as I am typing this NDX is trading
around 4,075. A 2 standard deviation move to the upside (90%) is around the
4,200 call strike and the same measurement to the downside is around the 3,900
put strike.
When looking at the same data based on the October NDX option expiration date,
the current skew in the NDX option data demonstrates more aggressive downside
Skew in October versus September. A 2 standard deviation move in the October
series to the upside (90%) is around the 4,275 call strike and the same measurement
to the downside is around the 3,755 put strike.
While I realize this is somewhat technical, the main premise is that the option
market in the Nasdaq 100 Cash Index (NDX) is skewed toward more potential downside
risk. This data lead me to place a new trade earlier this week which was next
short the Nasdaq 100 Cash Index (NDX) using an October Call Credit Spread as
a trade structure.
Recent results for the service have been very strong for the options alert
service. The last 4 trades have produced a 13.95% winner in Matador Resources
(MTDR), a 17.05% winner in the S&P 500 Cash Index (SPX), a small 1% loss
in the Nasdaq 100 (QQQ), and a 21.95% in the Russell 2000 Cash Index (RUT).
The service is priced super cheap at just $29.99 per month with new trade alerts
sent out almost daily.
Ultimately time will tell if the skew in the NDX proves to work. For now,
I like the near 75% probability of success that the NDX Call Credit Spread
is offering with a nearly 20% potential return. In the future readers can expect
a recap of this trade. Happy Trading!
