Bears Are Coming Out of Hibernation …

Hey There Income Hunters,

In the past couple of weeks Citi, Goldman and now Bank of America have all come out with calls for an equity market correction call in Q1 … 

BOFA’s “Bull & Bear” market sentiment indicator, for example, is approaching a sell signal (which happens when it exceeds 8 out of 10; it’s currently at 7.2).

The signal was on the verge of reaching 8 a year ago until US Treasuries rates fell, which lowered the level of the indicator…

However, Treasury rates have been rising this year, so the sell signal could be on the cards in Q1.

But I also see action right now

There’s a short-term term sell signal in SPDR S&P 500 ETF Trust (Ticker: SPY) and I will show you the trade I did to capitalize on it …

Plus, I will show you the two stocks to watch that would signal another leg-up in the rally …

Time to Review the Macro View…

The “Big Picture” is very bullish based on continued monetary and fiscal stimulus driving prices higher …

Plus, the Fed recently alleviated concerns of cutting back on stimulus spending.

And the Fed continues to buy $210 billion in bonds each month, which simply gets credited to banks’ accounts at the Fed.

Those “reserves” are then mostly used by banks to purchase stocks and bonds in the secondary market …

Elsewhere, we are awaiting a $1.9 trillion stimulus package to go through Congress.

With all that as a backdrop, any selling demands a great price location within the trading range and a tight exit strategy …

Lean on Short-term Technical Patterns …

Divergences, using the Relative Strength Index (RSI), are great indicators of rallies or corrections reversing in the short-term …

This is how the current divergence between price and relative strength of price has played out so far:

  1. On Jan-08 SPY set a high of 380.59 and set a high RSI at 69.88 
  2. It then reversed and traded down to a low of 373.70
  3. It held and reversed back up and set a new high of 375.25 … however, this time the RSI only increased to 67.53 and the market has traded off since.

This divergence between price and relative strength of price reveals less strength on the rally to new highs…

I executed a bear option put spread with a stop loss above the 385 level …

Trade Review

I purchased a 385/375 Feb-16 expiry SPY Put spread on Thursday afternoon.

Since I’m fighting the macro view, I only expect a small correction … meaning If SPY trades below 375 I will close the trade and expect to double my money…

If SPY trades back above 385, I will close it out for a small loss …

These trades offer good reward/risk parameters, as my max loss is $273 for a potential profit of $727 at expiration, while I still have the flexibility to close out for a profit prior to expiration …

Bring it Home

Here is a great way to think about trading… Trading is like real estate …

It’s all about location, location, location!

I felt great about the SPY 385/375 put spread because of the location …

Buying the 385 strike and seeing the market trade there and reverse gave me a clear stop-loss level. That means if SPY clears 385 and builds some volume above it, I will close the trade for just a small loss.

My price location simplified the risk management of the trade and minimized my loss …  

Plus I gave myself a greater than 1-to-1 return through use of the put spread …

Lastly, way to go Tampa Bay Bucs! (My recently adopted hometown team!) First team in history to play in their home stadium in a Super Bowl! Now that’s a great location …

Live and Trade With Passion My Friends,

Griff


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