SPY - Correction Underway

Per my earlier post on SPY, I have waited for SPY Stochs to begin to break down and for momentum to rollover.  Today is the day.  I can now trade weekly options on my SPY so I have long puts Feb and March and will hedge weekly short puts.  My view is this correction will be greater than average for this period.  You can peruse my earlier posts as to why I feel that way.

SPY - Additional Data Points

A poster asked me to look at the price to 200 EMA for the period I covered in the last post.  Below is the updated chart.  We are stretched greater than average, but alas not predictive in determining how severe it the move down can be.  Note to self, check your exuberance before you check your data points.

Some stats and the legend; green shading in the percent loss area is greater than average, green in the percent EMA means the stretch was higher than average, purple is when the 200 EMA was above price, and red is where the loss was less than average, but the EMA was stretched above average.  Minimum loss was 7%.

Having said that, I still am of the view that the low volatility and persistent climb over that past seven weeks puts us in a fragile state, and APPL reporting on Jobs leaving, and some of the price blowups on the misses gives me confidence.

SPY - Historical Perspective

To follow up on my last post, as we enter into the correction zone, what can we expect.  The first chart I created looks back 11 years to give us some perspective.  The findings are actionable; The market actually goes down during each of the first quarters examined. On average the moves are large enough and long enough to make a trade worth my while (36 days, 13 SPY points, 14% move). 

My view is this correction will be longer and deeper than normal, as the price to 200 day is extremely stretched, and the run up has been particularly persistent, and calm.

Looking at the third chart informs me when I should make my move.  Initial position when either MACD crosses or Stochs break the 70 line, and full position when both are triggered.  Looking at the second chart, we find obvious support and a rising 200 day in the same area of past historical correction percentages.

So my trade is a 14 point March debit Put spread.  I will use an initial stop loss, then look for a hammer or swing low to adjust or exit my trade.

SPY - Moving into the danger zone

Looking back at the last twelve months, SPY starts to sell off from the middle of the reporting month for about a month.  I believe we are at extreme levels from the 200 EMA. Watch ya think?

Some Musings

As 2011 unfolds before us, I am thinking hard about my portfolio and how to position myself with the upcoming volatility.  To me, even if the FED is actively buying and adding liquidity to the market, headwinds are already blowing strongly.

China is now playing defense in trying to control a FED induced inflation, which will slow their economy down more than anyone is will to publicly comment.  Their banks are loaded with non performing assets, and their companies are operating on near zero margins.  It will be hard to justify the China is the engine theme.

Europe will have member state defaults, IMNSHO, Ireland will cry uncle and default, Sein Fein is likely to take control of the government in March, and they already are declaring this agreement null and void.  Once this occurs, the British banks are toast, and France and Germany take some sweet haircuts.  Best case scenario is a radical restructure of the current deal to Ireland's favor.  But Ireland is only a catalyst, Spain blows the barn down.  Either way the Euro weakens in 2011.

The BRIC nations, we already spoke about China, Brazil and Russia are commodity countries that have different futures.  Russia will suffer some serious food shortages next year, their wheat belt is already drought stressed, and with this very cold winter, expect the planting season to be late.  This brings frost into play and another failed crop will cause grain prices to spike, devastating Russia, and seriously impacting the ROW.  Brazil is dependent on a healthy China, as well as Australia.  Although I do not follow India that closely, it appears they are having some inflation issues.

Then there is the good ol USA, I already recapped in an earlier post regarding our priced for perfection market, and extreme bullishness, but we have some serious skeletons coming out, and a political environment that is hostile to the devalue and stimulate environment everyone blindly bought into for the past 20 months.

The mortgage crisis will come to a head this year, rising interest rates and judicial proceedings will see to that, this overwhelms any interest income spread the banks enjoy.  California, Illinois, and New York will blow up this year, here in CA the budget deficit is 25% of the entire budget, it takes 2/3 vote to increase taxes, which won't happen, and congress will block any attempt by Obama to subsidize the states like the past two years.  This is a train wreck coming.  The House is dominated by the Republican party with a voter mandate to shut down the spending, and this will dry up any expected uptick from the federal government.  The FED may try for QE 3,4, whatever, but there is a vote pending to raise the debt ceiling, I believe the Repubs will use that leverage to take power away from the FED, and most definitely Obama.

Does this sound like economic recovery to you?

This post is getting long, I will next explain my trading plan for 2011, based on this thesis.