Weekend Portfolio Analysis (June 24, 2017)

Market Analysis

Global equities were relatively flat this week, but not before the large-cap S&P 500 Index and Dow Jones Industrial Average posted fresh record highs on Monday. Energy shares weighed on the major indexes for much of the week as oil fell for the fifth straight week, but this was offset somewhat by the Federal Reserve Board’s announcement that all 34 banks tested passed the quantitative portion of this year’s stress test which provided support to the financials sector. Homebuilders fared well on news of better-than-expected gains in sales of new and existing homes and healthcare shares also moved higher after Senate Republicans released their version of a replacement for the Affordable Care Act.

The S&P 500 (SPX) opened Monday at 2,442.55 and closed Friday at 2,438.30 down 4.25 points, or 0.17%.

Click Chart to Enlarge

The momentum in the SPX seems to be slowing down, but it still continues to set new highs. With the VIX remaining at near record lows, the SPX will have the latitude to continue its bull run. Note that the price action is still respecting the expected move for the past week. On Monday, when the SPX hit a record high, it was within one point of the expected move. The expected move for the coming week is a confined +/- 22.11 points which implies a range between 2,416 and 2,460.

The real action this week was in crude oil. Crude oil prices fell throughout the week, hitting a 10-month low on Wednesday of $42.05 per barrel, although there was a slight recovery towards the end of the week. Oil has now officially entered bear market territory, despite U.S. oil inventories falling for two consecutive weeks. The U.S. Energy Information Administration (EIA) reported a 2.5 million barrel draw (1.2 million barrel draw expected) on domestic inventories this past Wednesday. However, the news was not enough to boost West Texas Intermediate (WTI) prices, which have fallen 22 percent from their peak in January. Oversupply is still a major concern. Nigeria is set to increase exports to 2 million barrels per day in August. The African nation is exempt from the terms of the OPEC deal to cut output through March 2018. Libyan oil production is also on the rise, with the country announcing this week that output had reached 900,000 barrels per day. By next month, that figure will touch 1 million barrels per day. There are growing voices among analysts that the next logical step is for OPEC to include Nigeria and Libya in the cutback deal. These two OPEC nations were exempted initially on the account their output and exports were greatly blunted by years of domestic armed conflicts.

U.S. production growth and crude inventories may show another decline next week as inclement weather in the Gulf of Mexico has shut down a number of oil rigs and platforms. This region is responsible for 17% of total U.S. production. Any signs of deceleration in U.S. production would be a boon for the market.

The US oil rig count rose by 11 to 758, according to oilfield services company Baker Hughes. The rig count has now been rising for 23 straight weeks, extending a record-long streak of increases.

Crude oil futures for August delivery opened Monday at $44.89 per barrel and closed Friday at $43.17, down $1.72 or 3.83%.

Click Chart to Enlarge

Trade Activity

It was a bit quieter this week than last with regards to trading activity. We had two closing trades and opened two new trades this week.

/ZC September 500/330 Strangle
On Monday morning, we closed out our strangle in corn for the September expiration. We sold the strangle for 3.25 per contract and bought it back for 1.875, or at approximately 42% of maximum profit. After commissions, we net a profit of $105.02, or 37.5% return on capital in just 19 days.

/ZS September 1100/860 Strangle
Also on Monday, we opened a new strangle in soybeans. The implied volatility in the agricultural products has remained fairly elevated, so we took advantage of that by placing this trade. With higher implied volatility, we do not need to place the strikes all the way out at 2 standard deviations. In this case, the IV Percentile was up at 83%, so we placed the put right a 1 standard deviation and the call at 1.75 standard deviations.

Trade Details:
SELL 1 /ZS Sep 1100 Call @ 5.875
SELL 1 /ZS Sep 860 Put @ 3.125
Credit: 9.00 ($450.00 per contract)
Max Risk: Unlimited (Breakeven Prices: 851.00 / 1109.00)
/ZS Current Price: $947.00
Margin Required: $731.00
Days to Expiration: 67
Probability of Profit: 82.77%

/CL September 49 Call
With crude oil getting pummeled on Tuesday, I felt that it was important to delta hedge the /CL September 39 Put that is currently in the portfolio. We offset some of the potential further downside risk by selling the September 49 Call. We now have the /CL September 49/39 Strangle for a total combined credit of 0.66.

Trade Details:
SELL 1 /CL Sep 49 Call @ 0.44
Credit: 0.44 ($440.00 per contract)
Max Risk: Unlimited (Breakeven Price: 49.44)
/CL Current Price: $43.48
Margin Required: No additional margin required
Days to Expiration: 58
Probability of Profit: 86.39%

Our combined position (/CL September 49/39 strangle) now looks like this:

Click Chart to Enlarge

/ZW September 600/400 Strangle
On Wednesday, we started to see modest contraction in volatility for wheat which allowed us to close our September /ZW strangle for a nice quick profit. We sold the strangle originally on June 9 for 3.50 and closed it for 2.00, or about 43% of maximum profit. After commissions, we net a profit of $117.52 or 18.92% return on capital in just 12 days!

Current Portfolio

/CL September 39 Put
$220.00 Credit. 54 days to expiration. 18 deltas on the puts. Currently has a loss of $370.00. Earlier in the week the loss on this put was even more significant which is why we sold the 49 call to offset any further decline in oil prices. However, crude prices have started to stabilize. This put still shows an 80% probability of profit.

Click Chart to Enlarge

/CL October 60/35 Strangle
$280.00 Credit. 83 days to expiration. 8 deltas on the puts and 2 deltas on the calls. Currently has a loss of $50.00. We have lots of room (and time) on the position with over a 90% probability of profit.

Click Chart to Enlarge

/GC September 1400/1150 Strangle
$280.00 Credit. 65 days to expiration. 3 deltas on the puts and 4 deltas on the calls. Currently at 25% of maximum profit. This trade is looking great with a 96% probability of profit. We just need to allow some more time for the theta to decay. We will plan to close this position at 40-50% of maximum profit.

Click Chart to Enlarge

/ZC September 390 Straddle
$1,937.50 Credit. 62 days to expiration. 67 deltas on the puts and 32 deltas on the calls. Currently has a loss of $37.50. Corn traded lower each of the last five trading sessions all due to outstanding weather in the Midwestern part of the United States with rain almost on a daily basis ending the possibility of a drought there in the short term. The current price is now down quite a bit from where we originally sold the straddle, but I expect corn to find a floor close to current price levels. However, if it does continue to drop lower next week, we can add a second straddle with strikes at 350 (or lower) to hedge off the risk.

Click Chart to Enlarge

/ZW September 580/420 Strangle
$512.50 Credit. 62 days to expiration. 10 deltas on the puts and 6 deltas on the calls. Currently at 27% of maximum profit. This trade looks real good and if we see a bit more contraction in volatility next week, we might look to exit the trade at 40-50% of maximum profit.

Click Chart to Enlarge

Plan For Next Week

Our portfolio is fairly well diversified. We do still have a fair amount of cash available which we may need to deploy if crude oil and corn prices continue to decline. So, until things stabilize in those two markets, we will keep that cash on the sidelines in case we need to use it to hedge a position.

The portfolio is currently up 22.19% year-to-date versus 8.29% for the S&P 500 (see Trading Results). The portfolio is currently 66% in cash.

As always, comments are welcome below. If you have not signed up for your FREE membership yet, please be sure to do that so that you can access additional content on this site. Also, be sure to check out the PRO membership, our real-time trade alert service.

Happy Trading!