Sell Out of the Money Call Spreads – Only Buy Puts On A Technical Breakdown!

December 18, 2009
Author: Peter Stolcers, Founder of OneOption

As I've been saying, I grow more bearish with each passing day. The market momentum has stalled and negative news is increasing. Credit issues in Europe are heating up. The PIIGS (Portugal, Ireland, Italy, Greece and Spain) are weak and the threat of an Eastern European collapse will weigh on banks. Credit in the US is also an issue and it spans from the government, to the states, to municipalities, to Americans. Our government has fired all of its bullets and the deficit is so big that even Democrats don't want another stimulus program. In 10 years, 100% of our national budget will be spent on interest and entitlement (Social Security, Medicare). That means there will be nothing left over for all of the other essential programs. For now, our economy will depend on organic growth in 2010 since all of the money has been spent. Banks borrowed $285 billion and 75% of them have paid back TARP. Unfortunately, Freddie Mac, Fannie Mae, AIG and GMAC require immediate funding and these bailouts could reach $1 trillion. Their needs will exceed what has been paid back by banks, creating a cash outflow. States are $300 billion in the hole and according to the Constitution they must balance their budgets. This means taxes will rise and payrolls will get cut. Personal balance sheets are also weak and in the last few days we learned that credit card defaults are on the rise. Almost 15% of all mortgages are either delinquent or are in foreclosure. More than half of all baby boomers have less than $100,000 saved for retirement. As a nation we have painted ourselves in a corner. That means that pain lies ahead as we pay for our indiscretions and start to save. Corporations have been fiscally responsible and they have strong balance sheets. Last week, Pres. Obama criticized them for being too efficient. Productivity has increased and "something has to be done about this". He was angry that corporations are being prudent and they are not rehiring until they see an uptick in demand. Obviously, they should be less responsible and act more like our indebted government. Emerging markets have tremendous growth potential, but little wealth. I don't understand how India and Brazil are going to pull Europe, the United States and Japan out of this recession. They are dependent on our consumption and the major wealth centers of the world are crippled by decades of overspending. You'll notice that I left China out of my list of emerging markets. China will do what's best for China and it will exhaust all domestic resources before it starts importing. The golden rule is that the man with the gold makes the rules. They have the money and the population. Corporations that want to do business in China are at their mercy. The economic numbers next week have a slightly negative bias to them. I am expecting GDP and durable goods to be weaker than expected. Initial claims should come in better than expected since employers won't want to lay people off ahead of the holiday. Workers who do lose their jobs are likely to postpone filing for unemployment until after the holiday. This will artificially prop up the number. In the last two days we have seen a heavy dose of profit-taking. Traders are selling into seasonal strength and that is not a good sign heading into 2010. I still feel the need to be passive heading into light holiday trading next week. Sell out of the money call credit spreads on weak stocks during the next few days and wait for a technical breakdown below SPY 108 before you buy puts. Quadruple witching will produce price swings today, but the selling should be rather contained heading into "Merger Monday". The last seven Mondays have posted gains and shorts will not get too aggressive today. image

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