S&P Reversed From -30 to +20 Overnight. Could Be A Capitulation Low – Sell Put Spreads

August 9, 2011
Author: Peter Stolcers, Founder of OneOption

The downgrade to AA+ should not have had that big of an impact, but there is an adjustment process after the event. That accounts for some of the selling. Part of the decline is due to margin selling and some of it is pure panic. We are not going to fall off a cliff (yet) and that has created a buying opportunity. The ECB stepped in and bought Spanish and Italian debt, pushing down yields. They are also going to ramp up bond purchases in the new credit facility. While these are only temporary solutions, the action buys time and it should stop the bleeding. The ECB has been slow to react and they should have been addressing this 2 months ago. The tone will change within the EU and strong members will be reluctant to bail out the weak. In the US, we were downgraded because our politicians did not seriously negotiate a material deficit reduction. Both parties agreed to a watered down solution to avoid default. S&P lost confidence in our leaders. Serious talks will take place in the US and Europe in coming weeks and traders will wait for results. In the meantime, stocks are grossly undervalued. Even if earnings estimates are revised lower, stocks are trading at a forward P/E just north of 10. 10-year bond yields are at 2.3% and there is not money to be made in fixed income. Asset Managers are waiting for the margin selling to subside and they will scoop up stocks. The economic conditions are slowing, but we are still growing. The Unemployment Report, ADP, initial claims were all decent last week. ISM services was lower, but still above 50 (52.5). The market is grossly oversold and it is due for a big bounce. The VIX is high and we will sell out of the money put spreads. We might take a little heat on these positions along the way, but we can't wait for the bounce. When it happens, stocks will fly and we will miss the trade. I have been waiting for a capitulation low. Last night, the S&P was down 30 points. This morning it is up 20 points. I believe we are close to a short term bottom. The FOMC meets today and the comments can only be positive. I believe they have fired all of their silver bullets, but the comments can only help. image

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