Weekend Portfolio Analysis (May 13, 2017)

Market Analysis

Despite a wave of economic data, corporate earnings announcements, and political drama in Washington, the market remained relatively stable this week. Headlines have been dominated by President Trump’s surprise firing of FBI Director James Comey. The political firestorm raises doubts about the ability of the president to reach consensus on health care reform, tax cuts and other market-friendly measures. The ongoing tensions with North Korea also continue to weigh on the market’s ability to move higher.

In contrast to the political news, earnings and economic news this week was generally favorable. The broader market is on track to report its best overall quarterly earnings profit gain since 2011. Also, weekly jobless claims fell to nearly 40-year lows surprising analysts. The fed funds futures market still points to a rate-hike announcement at the June FOMC meeting. However, the probability of the rate hike dropped this week from 83% to 78.5%. The S&P 500 opened Monday at 2399.94 and closed Friday at 2390.90, down 9.04 points, or 0.38%.

Click Chart to Enlarge

Traders have been waiting to see if the SPX can break out to the upside. However, it has been contained within a trading range between 2322 (the low on March 27th) and 2403 (the high this past week). The SPX and NDX did hit new all-time highs on Tuesday, but there has been no follow-through.

Of interest is the Nasdaq chart when viewed over various time frames. Note that on the left panel, the monthly chart shows a nearly vertical ascent in the index over the past 6 months. This level of linearity is unsustainable over the long term and looks eerily like what happened in late 1999 just before the market came crashing down.

Click Chart to Enlarge

On Sunday, the French presidential election concluded as expected with Emmanuel Macron defeating Marine Le Pen. With this key risk event averted, the VIX dropped back to historically low levels. On Monday, the VIX closed at its lowest point since December 1993 and traded below 10 for the first three days of the week. The VIX, which closed on Friday at 10.4, is trading at roughly half of its twenty-year average. With this low volatility, the expected move in the SPX has contracted again for next week to +/- 24.27 points, which suggests that traders expect the index to remain between 2366 and 2415.

Click Chart to Enlarge

Crude oil was back in the news this week on Wednesday after the Energy Information Administration (EIA) reported the largest weekly decline in U.S. crude oil inventories for the year. Crude-oil stockpiles fell by 5.2 million barrels to 522.5 million barrels, putting them in the upper half of the average range for this time of year, the EIA said. Analysts surveyed by The Wall Street Journal had predicted crude supplies would fall by 1.7 million barrels for the week. The bullish report prompted a two-day rally. On Friday, Baker Hughes reported that the number of active U.S. rigs drilling for oil climbed by 9 to 712 rigs this week. Despite this news, oil prices held onto their gains. Crude oil futures for June delivery opened the week on Monday at $46.35 per barrel and closed Friday at 47.85, up 1.50 or 3.2%.

Click Chart to Enlarge

Trade Activity

With May expiration approaching next week, we continued to close out positions this week.

FXE May 105/109/105/101 Iron Butterfly
On Monday, following Sunday’s French election, the volatility contracted along with a drop in the Euro. This provided an opportunity to exit this iron butterfly for a small profit. We had originally sold the butterfly for $1.77. We bought it back for $1.38 which net us a profit of $30.72, a 7.68% return on capital after commissions. All of the FXE positions for the May expiration are now closed. After commissions, the combination of all of the trades and adjustments net us a profit of $38.16.

EFA May 62/66/62/57 Iron Butterfly
Also on Monday, we began winding down our EFA position. With the large move in EFA earlier this month, we knew that we would likely be taking a loss on this trade, but we did make some adjustments to try to reduce the damage. We had originally sold this iron butterfly for $2.05. We bought it back for $3.11 which resulted in a $115.28 loss after commissions.

SPY May 241/244/221/218 Iron Condor
On Wednesday, we closed the SPY iron condor for a small profit. With SPY trading close to our short call, the gamma risk with only 10 days to expiration was starting to accelerate. We decided to close the trade with a profit that was short of our target because the risk did not justify continuing to stay in the trade. We originally sold the iron condor for $0.76 and we bought it back for $0.44. This net us a profit of $22.72 or 7.57% return on capital after commissions.

EFA May 64/66/64/60 Iron Butterfly
On Thursday, we closed the next EFA position for a breakeven after commissions. We sold the butterfly for $1.08 and bought it back for $0.98. This net us a tiny profit of $1.72 after commissions.

EFA May 65/67/65/61.5 Iron Butterfly
Finally, we closed the remaining EFA iron butterfly, also on Thursday. This adjustment trade had been sold for $0.98. We bought it back for $0.66 which net us a profit of $24.76 or 7.07% return on capital after commissions. Between the three EFA trades, we had an overall loss of $88.80 after commissions. We never like taking losses, but the size of this loss is well within an acceptable limit.

/ZW July 515/525/425/415 Iron Condor
In full disclosure, I am revealing this trade which was entered in error on Monday. I had wanted to open a new iron condor in Wheat because the options were pricing a bit higher than usual. I had structured three or four versions of the trade on TOS and was looking at them in the analyze tab. When I finally decided where I wanted the strikes to be positioned, I clicked on them and hit “Confirm and Send” and the trade was instantly filled. At that point, I realized I had sent the wrong trade! I blocked the trade from being sent out as a Trade Alert, as I did not want our PRO subscribers to think this was a valid trade.

About once a year I make a “dumb thumbs” mistake and send the wrong order to the trade desk. This kind of error is best remedied by immediately closing the trade out. The cost of commission and slippage end up being the penalty for this kind of mistake. However, grain commissions are VERY expensive. The cost to open and close these two contracts in commissions alone would have cost nearly $65.00. So, I decided to just let the trade ride and see how it works out. As you will see below, the current price of wheat is very close to the short put, so there is significant downside risk on this trade. Currently the trade is at breakeven.

Trade Details:
SELL 2 /ZW Jul 515 Call @ 1.50
BUY 2 /ZW Jul 525 Call @ 1.25
SELL 2 /ZW Jul 425 Put @ 8.25
BUY 2 /ZW Jul 415 Put @ 4.50
Credit: 4.00 ($200.00 per contract)
Max Risk: $600.00 (Breakeven Prices: 421.00 / 519.00)
/ZW Current Price: $433.25
Margin Required: $350.00
Days to Expiration: 46
Probability of Profit: 58.04%

Current Portfolio

/ZC July 395/405/340/330 Iron Condor
$250.00 Credit. 41 days to expiration. 5 deltas on the puts and 22 deltas on the calls. Currently at 40% of maximum profit. This trade is looking real good at this point.

Click Chart to Enlarge

/CL August 40/59 Strangle
$1,040.00 Credit. 65 days to expiration. 8 deltas on the puts and 6 deltas on the calls. Currently has a loss of $280.00. This loss is considerably less than what we saw last week when oil prices plummeted. The trade has recovered nicely and oil prices are centered neatly between the short call and put.

Click Chart to Enlarge

Plan For Next Week

We are sitting on a lot of cash right now waiting for the next opportunity to arise. Currently we have a sizable position in crude oil, however, I will look at adding a possible position when the September options become available next week on TOS.

The portfolio is currently up 10.26% year-to-date versus 6.1% for the S&P 500 and is 80% in cash.

Happy Trading!