Volatility Trading Digest - Strategy Ideas & Trend Continuation
Volatility Trading Digest - Strategy Ideas & Trend Continuation
In this post, we examine the current correction from our unique market review perspective and then offer some thoughts for the fourth quarter, followed by a trend continuation suggestion for PulteGroup (PHM), the homebuilder.
Strategy
Chances are the markets will soon start to focus attention on 3Q earnings reports and less on the problems in Europe. First, however the September employment report needs consideration. However, the run up to November elections have traditionally been favorable for equities.
Further, between now and year-end we think another important influence will be underinvested mutual and hedge funds chase performance since they risk the loss of assets under management if their year-end performance lags the S&P 500 Index. This could create a broad based momentum rush as managers look for sectors that have not yet advanced in hopes of catching up with the benchmark index by the end of the year. With some help from declining crude oil prices, we think the S&P 500 Index could reach 1500 by the end of the year.
Trend Continuation
While there are several ways to gain exposure to the improving housing sector, including the SPDR Homebuilders (XHB) above, we prefer individual stocks with higher implied volatility since we use short options in many of our trade plans.
Here is a supplement to the suggestion made last week.
PulteGroup, Inc. (PHM)
Their homebuilding business includes the acquisition and development of land primarily for residential purposes offering various home designs, including single-family detached, townhouses, condominiums, and duplexes under the Pulte Homes, Del Webb, and Centex brand names.
Last week we incorrectly wrote that 3Q earnings was last Tuesday before the opening, with the consensus estimate is .20 per share. The correct reporting date is October 25 before the opening.
The current Historical Volatility is 41.27 and 41.68 using the Parkinson's range method, with an Implied Volatility Index Mean of 51.60 up from 45.94 last week. The IV/HV ratio is 1.25 and 1.24 using the range method to calculate the HV. Friday's put-call ratio was bearish at 1.00, while the volume was just 3,027 contracts traded compared to the 5-day average volume of 12,890.
Here is another call spread, this time with a put sale in addition to the October call spread from last month, and the put October 16 put sale last week.
With decent volatility edge in the short put and a good risk to reward ratio, use a close back below the upward sloping trendline at 13 as the SU (stop/unwind). On any further decline, watch 14 where there is considerable support. The options volume is low so it may be advantageous to leg into the position to avoid paying the ask price for the purchase and the bid prices for the sales.
The suggestion above uses the closing middle price between the Friday bid and ask. The option prices will be somewhat different due to the time decay over the weekend and any price change.
Summary
Although attention shifts from the euro to the employment report this Friday we think the current correction has just about run its course, but could continue somewhat lower on a worse than expected report as reflected in the still active hedging activity especially in the VIX options. Nevertheless chances are the correction is about over and the uptrend is likely to continue into year-end with some help from our European friends.
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