Trade Summary: January 20, 2015
January 20, 2015
Trade Rationale
Okay, we’re over two weeks into 2015, so it’s time to look at some areas of the market which should “mean revert” in the coming months. By “mean revert” I’m talking about moving towards historical norms. Basically, we’re always going to have over-performing and underperforming sectors. But over time, those sectors’ returns should average out around their long-term means.
In other words, sectors (and industries, stocks, etc.) should move up or down over time to a long-term average level. Investors will eventually want to capture gains in strong-performing investments. Conversely, investors looking for high returns will look to poor performing investments for turnaround opportunities.
These sorts of dynamics play out constantly in the financial markets. It’s one of the primary reasons portfolio rebalancing is such a popular (and successful) long-term investment strategy. As such, this week’s theme is going to attempt to take advantage of some upcoming “rebalancing” candidates.
First off, we’re going to take a bearish position on utilities, which are up 32% collectively over the last year. The sector is 13% above its 200-day moving average and I believe a pullback in coming. Instead of investing in a utilities ETF, we’re going buy puts on Southern Company (SO). SO is one of the country’s largest utilities and the shares are sitting 15% over the 200-day moving average.
Another sector which has been hot is retail. However, retail stocks have started drifting downward after a huge last couple months. Still, the sector has 14% to go to even hit its 200-day moving average. We’re going to buy in to retail through the most famous retail company of them all, Wal-Mart (WMT). WMT looks due for a significant pullback back below $80.
Finally, we’re going to take the opposite position and go long a sector which has been underperforming. Actually, the only sector which has been really performing poorly is energy and we’re already well-exposed to those stocks. Instead, we’re going to take a bullish position on an entire asset class. Emerging markets haven’t done much over the last year or so. But, with India making a push to compete with China as the “it” emerging market to invest in, it’s time to buy calls on iShares MSCI Emerging Markets ETF (EEM).
Keep reading for the details of each trade.
Trade Details
#1) Buy Southern Company (SO) May 16th 50 Puts up to $1.90
This trade profits from a move lower in SO. Our first profit point for conservative traders is at $48. For aggressive traders, you can hold to $46. For risk control, the conservative exit level is $52.50. $54 is the final exit level for aggressive traders.
#2) Buy Wal-Mart (WMT) June 20th 82.50 Puts up to $2.85
With the WMT trade, we’re also looking for a downward move. Our first exit point for conservative traders is at $80. For aggressive traders, you can hold to $76. For risk control, the conservative exit level is $91. And, $93 is the final exit level for aggressive traders.
#3) Buy iShares MSCI Emerging Markets ETF (EEM) June 20th 40 Calls up to $2.00
Finally, we’re looking for a higher move in EEM. Our first profit-taking exit point for conservative traders is at $42.50. For aggressive traders, you can hold up to $45. For risk control, the conservative exit level is $36. $33 is the final exit point for aggressive traders.
Category: AOA Trade Summary
