Monday, March 31, 2008

Lehman Brothers (LEH) Bounces

More than any other stock at the moment, Lehman Brothers (LEH) is the poster child for investor anxiety about the stability of financial institutions. The stock has been the subject of countless rumors, aggressive put buying, and at least one near death experience (that looks ominously like a funnel cloud on the chart below) when the stock plunged to 20.25 on March 17th.

Today the shorts jumped on LEH right after the opening bell and drove the stock down to 35.30 (-6.8%) – the lowest level since March 17th. The stock has since rallied above 39 , where it appears to be finding some support.

Not surprisingly, options activity in LEH continues to be frenzied, with implied volatility at a dizzying 113, but still down about 26 points from Friday. Call activity for the April and May options is heaviest at the 50 strike, with July calls most active at 60, the October calls at 55, and January 2009 call volume highest at 50. Given the options activity, bulls may wish to consider 50-60 as a reasonable target for any continued upside move from current levels.

Sunday, March 30, 2008

VWSI at +1, But Who Is Left to Panic?

With the launch of the subscriber newsletter, I am in the process of making decisions about what content is directed toward the blog and what content is reserved for the newsletter. I suspect that blog readers should see very little in the way of changes, though I have dropped the weekly update to the Portfolio A1, which did not seem to be generating a great deal of interest.

I also used to do a weekly VIX and VWSI update, with a few snippets about market activity thrown in. These will remain, albeit not necessarily with the same level of commentary about put to call ratios and other market sentiment indicators.

Speaking of which, the VIX lost 0.91 (3.4%) last week to close at 25.71. During the course of the week, the VIX oscillated in a tight range between 24.75 and 27.04. This is the narrowest weekly range for the VIX since the year began (actually the smallest range in percentage terms since the week before the 2/27/07 VIX spike), and the VWSI responded to the slow week in volatility by ticking up from zero to +1.

I have had several readers comment about the possibility of an impending VIX spike, but these are notoriously difficult to predict. Further, with the constant drumbeat of gloom and doom, I find it difficult to believe that there are many out there who might consider buying puts, but have not already done so. If there is to be another VIX spike, there must be a sufficient element of surprise to cause a panic, yet each new negative headline or financial implosion scenario probably does more to reduce the pool of future put buyers than anything else. For that reason, I see a VWSI of +1 to be entirely plausible, even when the VIX has been drifting down in the face of continued uncertainty.

First Subscriber Newsletter Mailed Out Today

Thanks to all who have elected to become charter subscribers to the VIX and More Subscriber Newsletter, the initial issue of which was mailed out earlier today.

Anyone interested in receiving this newsletter can subscribe here. Future issues will be published every Sunday and Wednesday.

Friday, March 28, 2008

Yesterday’s Unusual VIX and SPX Action

As I mentioned yesterday in VIX Follows Markets Down in Early Trading, it is rare for the VIX to drop when the S&P 500 is down and rarer still for the VIX to be down when the SPX is down 1% or more. In fact, when the SPX closed down 1.15% yesterday and the VIX ended the day down 0.77%, it was only the second time since April 2003 that the VIX gave up ground on a day in which the SPX lost more than 1%.

Looking at all 22 times since 1990 in which the VIX has been down on the same day that the SPX has posted a 1% loss yields an interesting clustering of data. The first 10 instances are clustered in 1990 and early 1991 and are associated with all of the uncertainty leading up to the Gulf War. After a nine year hiatus – the famous 1990s bull market – the next clustering of data consists of ten instances from May 2000 through April 2003, roughly from the beginning of the bursting of the dot-com bubble to the point where the markets began to confirm a bottom with a series of higher highs.

The most recent example of the VIX falling on a day in which the SPX was down 1% or more comes from January 4, 2005 and was largely the result of the fallout associated with the magnitude 9.3 Indian Ocean earthquake. This was the second largest earthquake ever recorded (at least on a seismograph) and together with the resulting tsunami, was responsible for over 200,000 deaths.

It remains to be seen whether tectonic forces were responsible for the unusual VIX and SPX action yesterday. History suggests that these days can occur at either the beginning or the end of a bear market. While the SPX has generally outperformed historical norms in the weeks following a 1% drop in the SPX accompanied by a negative VIX, history also suggests that a safer conclusion to draw from a day like yesterday is increasing volatility around the corner.

Thursday, March 27, 2008

VIX Follows Markets Down in Early Trading

Given that the VIX moves in the opposite direction of the SPX on about 76% of all trading days – and close to 90% of the time when the SPX moves at least 1% – I watched with considerable interest when the VIX followed the SPX and the rest of the broad indices down during the first hour of trading.

As I write this, the SPX is down 0.54%, up a little from the 0.87% loss that represents the low of the day. As the chart below shows, however, the VIX has been down below yesterday’s 26.08 close for the entire trading day. For a brief period from 10:15 to 10:25 a.m., a high volume selloff in Lehman Brothers (LEH) triggered considerable investor anxiety and pushed the VIX up while the SPX slid, but now that this episode appears to be in the rear view mirror, the VIX is once again moving down.

Also of interest, if you study yesterday's VIX action, you can see that a weak VIX coincident with a sideways to down SPX, while unusual, is a continuation of yesterday's trend.

A high level of anxiety about the markets (i.e., a formidable ‘wall of worry’) and some indications that market sentiment may have bottomed can provide a solid base from which the markets can rebound. Little by little, the markets will strengthen each time that investors shrug off bad macroeconomic news or when panic fails to materialize following weakness in the likes Lehman Brothers and other financials that are currently operating under a dark cloud of anxiety.

While this credit crisis should linger for many months to come, there are more indications that the markets are putting in a bottom and are prepared to move higher before all the toxins have had an opportunity to work their way through the financial system.

Wednesday, March 26, 2008

The Consumer Discretionary Picture

Investors who are looking to increase their exposure to equities have a variety of methods for determining when to go long the market. Over the course of the past few days, I have laid out a sector-based approach to thinking about the current market situation.

The first consideration should concern the structural integrity of our financial system. Simply stated, if you do not believe that our largest and most important financial institutions stand on solid ground, then it is hard to make any case for being long equities. In Recent Investment Bank Performance, I made the case for a bottom in the investment banks stock performance last week marking a bottom in investor confidence in the financial system as a whole.

With a sense of confidence in the financial foundation, yesterday I turned my attention to the Rally in Homebuilders. This sector has been at the center of the subprime fiasco and is also an important barometer for everything from foreclosure activity, to supply and demand imbalances in the housing market, to the real estate component of household wealth. Perhaps more importantly, building permits are a widely watched leading indicator of future economic activity. Looking at yesterday’s chart, it is easy to make the case that the homebuilders, like the investment banks, have also bottomed.

The aforementioned notwithstanding, it is still possible to have a persistent economic crisis and bear market even if the financial institutions and real estate sectors are back on their feet. The critical sector to watch to determine whether the economic patient is merely stable or is on the road to recovery is, in my opinion, the consumer discretionary sector. This sector has an ETF (XLY) in which top five holdings include the likes of McDonalds (MCD), Comcast (CMCSA), Walt Disney (DIS), Time Warner (TWX), and Home Depot (HD). The consumer discretionary sector holds the key to determining how fearful citizens are about the future and how willing they are to part with discretionary income in the face of that uncertainty.

The chart below shows that unlike the investment banks and the homebuilders, the consumer discretionary sector has not had much of a bounce off of the recent bottom. Instead, we have seen more of a consolidation pattern. While the index is currently trading above the 50 day moving average, it would be difficult to make a case for the XLY as being in a bullish mode until it closes above the 33 level reached a month ago.

Going forward, a sector-based approach to evaluating the health of the market should continue to first watch the integrity of the financial institutions, then the momentum in homebuilders, and finally signs of a sustained recovery in the consumer discretionary sector.

Tuesday, March 25, 2008

Rally in the Homebuilders

Yesterday I offered up two charts which suggested that investment banks probably put in a bottom last week.

Today I turn my attention to the homebuilders. In the chart of the SPDR Homebuilders ETF below, it appears highly likely that the early January low of 15.18 will be the ultimate low for the cycle, as the index has already climbed over 50% from that level. In fact, yesterday’s intra-day high of 24.45 was the highest this index has traded since September 2007. As the index moves over its 200 day simple moving average for the first time in ten months and shows a sharp upturn in on balance volume, technical signals should continue to improve.

This is not to say, of course, that the homebuilders will move straight up from here. Nevertheless, as the investment banks and homebuilders move off of their recent bottoms, the large amount of cash in money market funds will undoubtedly become less anxious about returning to equities.

Monday, March 24, 2008

Recent Investment Bank Performance

Last Tuesday, Goldman Sachs (GS) and Lehman Brothers (LEH) announced better than expected earnings that helped to bolster confidence in the investment banking sector. Later that same day, the Fed cut the target Fed funds rate to 2.25% and opened up a Primary Dealer Credit Facility to provide additional liquidity for investment banks. With these moves, the odds have increased that the recent risk to the financial system has already peaked – though it will undoubted take a considerable period before this is fully reflected in improved balance sheets and investor confidence.

The charts below show the performance of the stocks of four of the severely beleaguered investment banks (MER, LEH, MS, UBS) during the past 195 days from the June 2007 highs, as well as during the most recent 36 days, when the pressure on these institutions was greatest. One inescapable conclusion is that UBS has been the least resilient among the group so far – a development that bears watching going forward.


Sunday, March 23, 2008

Subscriber Newsletter Coming Soon

After many requests to provide more details about my thinking vis-à-vis the markets in general and individual stocks in particular, I am preparing to launch a subscriber newsletter. Given the recent market turmoil and the considerable uncertainty about the path forward, this seems like as good a time as any to take this step.

Targeting many subject areas covered by the blog, the newsletter will focus more on market sentiment analysis and technical analysis than on broad macroeconomic issues and stock fundamentals. In truth, my investing approach includes all four elements, but I think the macroeconomic and fundamental aspects of the market are covered quite thoroughly already, whereas good information on TA and particularly market sentiment tend to be much more difficult to find.

I am currently considering two issues per week, as follows:

  • A Sunday issue will provide a review of the past week and my thinking on what to watch for in the coming week. I will include my outlook on a variety of asset classes as well as purchases and sales in three different model portfolios.

  • A Wednesday issue will be more of a features-based approach, but will consistently target sectors and industries, market sentiment, charts of interest, and reader questions.


The blog will remain active and I will continue to strive for high quality content here, but it would be safe to say that I intend to save some of what I consider to be my best thinking for the subscriber newsletter.

I encourage any feedback about the content, timing, or any other aspect of the newsletter. Feel free to speak up in the comments section below of e-mail me at bill.luby@gmail.com

Thursday, March 20, 2008

BEP and the Joy of Covered Call Funds

I have spoken about buy-write or covered call funds on a number of occasions, perhaps most notably in One Approach for Volatile Sideways Markets.

One of my favorite funds in the covered call space is the S&P 500 Covered Call Fund (BEP), a closed-end fund that is the most actively traded of the covered call funds. BEP is currently trading at a 4.9% discount to net asset value and is an excellent way to capture some of the volatility premium in the current market without having to go to the trouble of establishing your own covered call portfolio. Looking at the chart below, while the SPX is down approximately 11% year to date, by writing covered calls against the SPX, BEP has managed a loss of only about 1.5% since the beginning of the year. Covered call funds will almost always outperform the SPX in down and sideways markets, but will generally have less upside potential in a bull market.

For a more detailed profile of BEP, follow the link to the Closed-End Fund Association’s (CEFA) web site or get an annual report and other information directly from the BEP splash page at IQ Investment Advisors.

Wednesday, March 19, 2008

What Panic Looks Like

A monthly chart of the VIX to 3 month T-bill yield ratio:

VIX Macro Cycle Update

In the year plus that I have been blogging about the VIX, I have periodically discussed the idea of VIX macro cycles. These cycles tend to last about 2-4 years in which the VIX has a definite trending pattern, but occasionally include a cycle of similar length (e.g., mid-1998 to late 2002) in which the action in the VIX is generally sideways.

I last spoke about VIX Macro Cycles at length in December, at which time I posed the question, Was 2007 the Beginning of a New Era in Volatility? Given the extreme slope of the VIX increase over the course of 2007, I concluded that a new VIX macro cycle was indeed under way, but hedged my answer a bit at the time when I said “the current rise in volatility should persist through all of 2008, even if the rate of rise in volatility begins to slow.”

At the time I made that statement, I certainly did not anticipate that we would see multiple VIX spikes in the 30s during the first 2 ½ months of the new year, but even those events and the broad concerns about the stability of the financial system have not caused me to back away from my December prediction that volatility would flatten out “in the low to mid-20s range.” In fact, I still anticipate that volatility will spend a good portion of 2008 in the neighborhood of 22-26. Looking at the current VIX futures quotes, where the May through December futures are all trading just below 26, it looks as if my prediction is on the low end of the market consensus.

The big question I have is about the duration of current VIX macro cycle – and of course the slope of any continued increase in volatility. If the current slope of the volatility increase holds and the minimum cycle time is two years, that would project to a sustained VIX of about 40 by the end of the year. I don’t expect to see that scenario unfold, but it will be interesting to see how long it takes for the runup in volatility that started about 15 months ago to run out of steam.

Tuesday, March 18, 2008

Ratio of Stocks Above 50 and 200 Day Moving Averages

As part of my ongoing effort to posts charts that you (probably) won’t find anywhere else, I offer up this monthly ratio chart of NYSE stocks above their 50 day and 200 day moving averages.

As the 2002 data show, this chart is capable of flagging extreme readings. Given that I use the 200 day SMA as the numerator and the 50 day SMA as the denominator, the chart tends to show short-term pullbacks as upward spikes in the 4 period EMA of the ratio and longer term extreme bear moves as downward spikes. Not surprisingly, the current 4 period EMA 0.76 is the lowest since late 2002.

Unfortunately, the data only goes back about six years, so I am unable to construct a chart that includes the end of the 1990’s bull market and the first two years of the bear market that followed.

While this chart may give you some things to chew on, the larger point is to consider changes in the percentage of stocks above certain moving averages as good measures of market momentum and ratios covering two different periods as good measures of relative market momentum or acceleration/deceleration.

Obama Speech

While we are waiting for the Fed to announce how they are going to support our strained financial system, this might be a good time to read a transcript of today's speech by Barack Obama

Monday, March 17, 2008

Volatility History Lesson: 1987

To summarize some history I laid out in Meet the Spikers, the VIX was officially launched on 4/1/93. At that time the method used for calculating the VIX was based on 8 S&P 100 (OEX) calls and puts with an average time to expiration of 30 days. On 9/22/03, the VIX calculation methodology was revised to include S&P 500 (SPX) options for all near term at-the-money SPX puts and calls and out-of-the-money puts and calls (deep-in-the-money options were excluded.)

At the time of the methodology switch from OEX options to SPX options, the CBOE created the VXO to provide continuity with the historical method of calculating the "old VIX" prior to 9/22/03.

The bottom line is on Black Monday (October 19, 1987), it was still 5 ½ years before a volatility index would first appear. The CBOE, however, was able to go back and reverse engineer the volatility data for 1987, using the OEX options methodology (i.e., the VXO or pre-2003 VIX.) The results are attached below. Keep in mind that given the slight difference in methodology, the VXO has historically registered at levels of about 5% higher than the VIX.

Portfolio A1 Doubles Down on Brazil

As a five stock portfolio that has sector concentration rules built in but no country or regional rules, there are occasional instances in which Portfolio A1 inadvertently takes multiple positions in a concentrated geographical area. This week is one of those instances, as the portfolio is selling fertilizer producer Terra Industries (TRA) after the company triggered an automatic sell rule by dropping 20% from the high during its holding period.

In lieu of TRA, the portfolio is adding Brazilian pulp and paper producer Votorantim Celulose e Papel SA (VCP), an ADR which I will henceforth conveniently refer to by their ticker. In Brazil Rallies While China Struggles, I recently noted how the Brazilian ETF (EWZ) had reflected the country’s recent superior performance relative to the more widely discussed China ETF (FXI); for those looking for individual Brazilian equities, you may wish to add VCP to you watch list, as it looks like it may have pulled back to technical support. VCP joins Brazilian telecom standout Tele Norte Leste Participacoes SA (TNE); together these two companies will now comprise approximately 42% of the portfolio.

In spite of some recent weakness, Portfolio A1 still holds net performance advantage of 16% over the benchmark S&P 500 index, with a 4.5% cumulative gain vs. an 11.5% cumulative loss for the SPX.

There no other changes to the portfolio for the coming week.

A snapshot of Portfolio A1 is as follows:

Expanding on the VIX and the 10 Year Treasury Note Yield

On Friday, in Fear and the Flight to Safety, I posted a chart of the ratio of the VIX to the 10 year Treasury Note yield. That post triggered a number of interesting responses, two of which I would like to highlight here.

First, Jason Goepfert of SentimenTrader.com, noted in a Minyanville.com article titled Cashing in on the Panic that past instances in which volatility spiked to extreme levels relative to the 10 Year Treasury Note offered superb buying opportunities. Goepfert examined returns from five days to three months from the spike and found “results going forward were exceptionally positive and consistently so.” See his table of results for additional details.

Second, Tom Drake of Putting the Pieces Together suggested an obvious enhancement to the ratio chart: substituting the 3 month Treasury Bill yield for the 10 Year Treasury Note, on the grounds that the flight to safety usually favors short-term government debt. A monthly chart of the VIX to 3 month T-bill yield ratio (VIX:IRX), which is similar in many respects to Friday’s chart, is as follows:

Friday, March 14, 2008

Fear and the Flight to Safety

There are many ways of thinking about the current credit crisis, but today I thought I’d offer a visual depiction of one that I’m fairly certain has never been posted anywhere else. The chart below shows the ratio of the VIX to the yield on the 10-Year Treasury Note. By way of commentary, consider this to be a loose proxy for fear divided by the propensity of investors to flee to the safest investment alternatives. Needless to say, the graphic shows that the ratio is currently at levels seen only during extreme crisis or panic market environments.

Thursday, March 13, 2008

Short-Term Triple Top in VIX?

I'll be the first to admit that calling tops and bottoms is more of a parlor trick than a science, yet it is my opinion that the recent triple top in the VIX – which includes today’s spike to 29.62 – will likely turn out to be the high water mark in the VIX for the month of March.

This may sound like a dangerous prediction, but I am giving the March 11th lows a better than 50% chance of holding and am somewhat emboldened by the fact that when the VIX spiked to 29.62 this morning, the financials (XLF, if not BSC) were holding their ground above the lows for the day. To my thinking the financials continue to be the market’s Achilles’ heel and to the extent that XLF can keep from making new lows, the VIX is likely to see 30 as a near-term ceiling and the financially-heavy SPX and other broad market indices should be in a position to rally from Tuesday’s lows.

I would be remiss if I failed to point out that many pundits are saying that the market will not bottom until we see a VIX spike to somewhere near the 37.57 level that was reached when the markets made a previous bottom on January 22nd. There is always the risk that a consensus of opinion can lead to a self-fulfilling prophecy, but I am willing to bet against the masses on this one. That being said, it won’t take many more Carlyle Group disasters to push the market back into panic selloff mode.

Wednesday, March 12, 2008

Financials and Real Estate Power Yesterday’s Rally

As the two graphics below depict, yesterday’s 400+ point rally in the DJIA was led by the financial and real estate sectors – two of the worst performing sectors over the past year and undoubtedly the two sectors that have suffered most from the US credit crisis.

I found it interesting that two cyclical sectors, basic materials and transportation, were also disproportionately strong during yesterday’s rally. While most of yesterday’s strongest sectors have been underperformers as of late, one sector where recent strength shows no signs of abating is oil and gas, where yesterday’s impressive performance was another instance of the rampaging commodities bull.

For an excellent longer term perspective on sector performance, I highly recommend Monday's Sector Strength analysis from fellow blogger HeadlineCharts.

In the first 40 minutes of today’s session, no sector has yet stepped to the front of the pack to provide the leadership needed to suggest that yesterday’s move has staying power, but the session is still young. Sector leadership in the coming days and weeks will have a lot to say about whether yesterday’s big move has legs, with financial and real estate stocks acting as an indicator species of sorts.


Tuesday, March 11, 2008

Watching XLF Price and IV Action

The financial sector stock de jour is BSC today – unless of course it’s WM. With anxiety over ABK and MBI seemingly on the back burner at the moment and TMA and LEH suddenly so yesterday, which financial stock is going to set the tone for the market? My take is that since one tipping domino is unlikely to be contained, I am continuing to focus on the broad sector ETF, XLF.

Just a week ago today, I posted a one year chart of XLF showing price and implied volatility; in the interim, a great deal has changed, with the bears and the news flow dictating the action. From a technical standpoint, just yesterday XLF took out the 52 week high (47.99) in implied volatility from November 8th and the 52 week stock price low (24.11) from January 22nd. The chart below zooms in on the last six months and shows that yesterday’s selloff generated a new stock price low of 23.50 and IV high of 54.52 – a fitting tribute to the eight year anniversary of the NASDAQ all-time high.

Going forward it is important to watch the action in newsmakers like BSC and the other financial headline makers, but XLF is an excellent proxy for the sector and a good way to keep focused on the forest instead of the trees. Note also the action in the XLF calls for March, April and June, which shows some significant bets are being made that today’s XLF-led market bounce will not be a one day affair. No matter how things play out, XLF should be an excellent tell. I suggest you watch it as closely as you do the broader indices and keep an eye not just on the price, but also on the IV and put to call activity.

Monday, March 10, 2008

Put to Call Everest

What number comes after infinity?

Short Interest Screens

There are a number of places on the web that provide short interest. For individual stocks, I am partial to the data at ShortSqueeze.com. Those seeking a broad brush perspective on large short positions and recent changes will likely prefer the short interest highlights from the Wall Street Journal.

My own favorite is the short interest filter at SchaeffersResearch.com. This tool allows users to input data in five fields (see graph below) and generate a list of stocks that meet the specified criteria. I have created one such list below from the criteria specified in the fields below.

Knowing the short interest and associated trends in a stock can arm individual investors with a sense of the collective hedge fund speculative opinion on a particular security. In markets that are trending down, these are often the stocks that get the most severe Whac-A-Mole treatment. On the other hand, when the markets have one of those inevitable +300 days, look for the biggest gainers to be from the list of most heavily shorted companies with the highest short interest ratios.

Herbalife (HLF) Added to Portfolio A1

One fascinating aspect of a mechanical portfolio is that it will get you long companies that you often not even consider dabbling in. Such is the case right now, as Portfolio A1 has seen fit to drop Invitrogen (IVGN) and replace it with Herbalife (HLF), a company whose core business is in nutritional supplements and weight management products.

A year ago, the portfolio briefly held Herbalife competitor NBTY (NTY), so I should not be surprised to see this segment back in play. Last I heard, over 30% of Americans were classified as obese. An interesting cover story in the most recent Business Week, “Inside Drugmakers’ War on Fat,” chronicles the daunting problems facing companies whose efforts have focuses their efforts on weight loss drugs. The bottom line is that diet programs is a $33 billion dollar business, with no silver bullets in sight. Investment opportunities can follow either the hype cycles or the fundamentals, but there will always be long and short opportunities in this space. Herbalife reported a strong quarter on February 26th and raised guidance for 2008. Those interested in learning more are encouraged to review their Q4 2007 earnings conference call transcript.

Getting back to the portfolio as a whole, Portfolio A1 lost some ground on the benchmark S&P 500 index last week and now sports a net performance gain of 16.9% over the index, with a 5.8% cumulative gain vs. an 11.1% cumulative loss in the SPX.

There no other changes to the portfolio for the coming week.

A snapshot of Portfolio A1 is as follows:

Other Perspectives on Last Week

A confluence of familial and meteorological factors left me in rural Texas with only intermittent internet access last week. This week I am running on full bandwidth, but as I was off the information grid for a good part of last week, I am going to rely on those who were plugged in to provide a recap.

First, from a strict numbers perspective, important support was breached in several of the major indices last week and the put to call numbers were at extreme levels all week. In contrast to the put to call data, the volatility indices were sluggish and unremarkable during the week, with the VIX finishing the week up 0.95 (3.6%) to 27.49 and the VWSI rising to +1.

As the Wall Street Journal ‘Hot or Not’ chart shows, oil was just about the only winning play last week, while the smaller (market cap) and more far flung one’s equity positions were, the worse they performed.

Four top bloggers do an excellent job of summarizing the action on a number of fronts:

Barry Ritholtz at The Big Picture is back with his Linkfest, where he surveys a wide variety of facts and opinions, with an emphasis on macroeconomic and fundamental news. Babak at Trader’s Narrative provides his Sentiment Overview for the week. Declan Fallond (Fallond Stock Picks) offers up a review of last week through the eyes of some of the StockCharts.com chart reader cognoscenti – along with his own commentary. Last but not least by a long shot, Bill Cara has his usual exhaustive inventory of charts and commentary for the week – ideal for those who wish to slice and dice the markets by sector, region and asset class.

Finally, I cannot end here without recommending an inexpensive red blend that I tried last night: a $6.99 (at Trader Joe’s) Novella Synergy from EOS Winery in Paso Robles, California. This blend changes every year, but the 2005 version that I tried consists of 46% petite sirah, 33% cabernet sauvignon, 16% sangiovese, and 5% petit verdot. While the combination of petite sirah and cabernet sounds like it might make for a heavy, overpowering wine, this is an everyday red with much more finesse than I expected. Food friendly and quaffable on its own, this wine is also an excellent change of pace for those stuck in a ‘same varietal again’ rut.

Thursday, March 6, 2008

Next Up: VIX 101

It looks like I will be out of pocket for the day, so I thought I would take this opportunity to encourage some reader input.

One of the mini-projects that I want to get up an running soon is a series of posts that I will probably be calling VIX 101. Essentially, this should provide answers to some of the most common questions that readers have about the VIX and volatility, starting with the basic and obvious, such as:
What is the VIX?
How is the VIX calculated?
What triggered the creation of the VIX?
Can I trade the VIX?
How is the VIX used as a hedge?
How do investors use the VIX to time the market?

So...what other important questions about the VIX and volatility should I address?

Wednesday, March 5, 2008

SPX to VIX Ratio Turns Up

Given my ongoing infatuation with the VIX:VXV ratio and the VIX:SDS ratio, one could easily assume that I have pushed aside an old standby, the SPX:VIX ratio. In fact, I have not posted a chart of the SPX:VIX ratio since the end of July 2007, at which point the ratio had just bounced from 60 to 75.

Fast forward eight months and the weekly chart of the SPX:VIX ratio shows a new low of 50 and a current reading of just under 55. It turns out that the bounce from last July was a temporary one and the ratio has since turned down to levels not seen since September 2003.

One of the factors I watch in this ratio is the distance between the current level and the (blue) 10% trend line [for an explanation of the 10% trend line, try “The SPX:VIX Relationship], which is now greater than any time it has been in the history of the VIX, with the sole exception of the 2002-03 bear market bottom.

Given that the SPX:VIX ratio appears to be turning up again (and ABK was just halted as I type this, so there is the potential for significant momentum flowing back into financials and the SPX if this turns out to be good news), there is a good chance that the bottom in this ratio will hold and the relationship between the SPX and the VIX will move back toward historical norms. I realize that the markets need to work through a considerable amount of credit and other financial turmoil before the SPX:VIX ratio returns to anything resembling a ‘normal’ number, but my gut – and the chart below – suggests there is a good chance the tide is turning right now.

Tuesday, March 4, 2008

ISE Implied Volatility Charts

When it comes to implied volatility charts, I normally use the charts from two of my favorite options brokers: thinkorswim and optionsXpress. On the other hand, this blog is littered with IV charts from iVolatility.com, largely because these charts are freely available on the web and because the look and feel is relatively clean and uncluttered.

For a visual change of pace, I suspect I will soon start posting some of the excellent thinkorswim charts, but for those wishing to roll their own, I want to offer a strong recommendation for the implied volatility charts put out by the ISE. When it comes to the ISEE charts on the ISE site, I am often frustrated by the poor graphics, but the ISE charts for individual securities are excellent. An example of one of the ISE’s volatility charts is the one I have included for XLF below. These charts can be customized to a time frame of 3 months, 6 months or 12 months and allow users to specify, via check boxes, any of stock price, implied volatility, and 30 day historical volatility (I have historical volatility turned off here.) As you can see from the graphic below, there is a lot of information crammed into these charts, including daily stock and option volume (easier to read in the shorter time frames), as well as a fair amount of volatility data. All data is delayed by 20 minutes, but as far as I am concerned these are the best free volatility charts out there.

To generate your own volatility charts at ISE, try their Quotes/Volatility page.



[source: International Securities Exchange]

Obama vs. Clinton on Free Trade

I will continue to do my best to keep politics largely absent from this blog, but I cannot help but think that one of the most important questions voters should be asking themselves is where the various candidates stand on the free trade vs. protectionism spectrum.

Of course this is not an easy subject to pin down, as speeches in Ohio tend to bring out the type of posturing and rhetoric that politicians may not believe is in the long-term interest of the country as a whole.

The reason I am posting about this subject, apart from the fact that I think it is a critical one, is that I have yet to see an in-depth analysis of the free trade credentials of Barack Obama pitted against those of Hillary Clinton. Until yesterday, that is. Greg Mankiw, a blogger extrodinare who teaches economics at Harvard to pay for his blogging habit, called to my attention a Financial Times article by Jagdish Bhagwati whose title, Obama’s Free Trade Credentials Top Clinton’s, give you a sense of where Bhagwati comes down on that question. Bhagwati cites five reason why Obama is a better free trade candidate and points to economic advisor Austan Goolsbee as one of the keys to that conclusion. For more on Goolsbee, I recommend a January 31 interview with Doug Krizner and a more detailed evaluation of Obama’s advisors in an April 2007 article from the Wall Street Journal: Seeking Clues to Obamanomics.

Monday, March 3, 2008

Put to Call Data at Extreme Levels

Earlier this morning, I mentioned that the ISEE is setting new records on a daily for the all-time lowest readings in the 20, 50 and 100 simple moving averages and pointed out that the CBOE Equity Put to Call numbers have spiked to record levels as well. I thought a graphic might do a better job of telling the story, so I have attached a weekly chart of the CBOE Equity Put to Call Ratio below.

The chart goes back to the point at which the CBOE started publishing equity only put to call data and uses a 10 week EMA as a smoothing function. As the chart shows, the current EMA of 82 is a new record, eclipsing the old record of August 2004. In retrospect, 2004 was a great buying opportunity for those who had the fortitude to go against the crowd. As for the present, while the jury is still out, the odds are that the current situation is also a good buying opportunity, as difficult as it may be for some to pull the trigger.



[source: StockCharts]

WTI Falters and Is Dropped From Portfolio A1

After racking up gains of 26.4% in just three weeks in the portfolio, it only took one week for W&T Offshore (WTI) to falter and be dropped from the portfolio. The culprit, as it often is, was earnings. More accurately, it was an analyst downgrade following WTI’s earnings report that helped to push the stock down 8.7% on Friday and trigger a sale. Interestingly, WTI’s stock traded up following Thursday morning’s earnings report and a generally successful conference call with analysts later that morning. It wasn't until Friday that the analyst's comments took their toll.

Friday’s slump in WTI and the rest of the portfolio undid what had been a very successful week to that point, with the result that Portfolio A1 end up losing 0.86% to the benchmark S&P 500 index for the week. Over the 1 year and 2 weeks since Portfolio A1’s inception, the cumulative return stands at 9.9% vs. -8.6% for the SPX.

In addition to WTI, Fresh Del Monte Produce (FDP) also bows out after several lackluster weeks. Replacing these two holdings are returnee StatoilHydro (STO), the state-owned Norwegian oil giant, and a new addition, San Juan, Puerto Rico-based Oriental Financial Group (OFG), a $500 million (market cap) bank whose stock is up almost 150% since August 2007.

There no additional changes to the portfolio this week.

A snapshot of Portfolio A1 is as follows:

Put to Calls and TRIN More Skittish than VIX, VWSI

A quick programming note: henceforth, I am going to be a little more freeform with my end of week commentary, making it less VIX and VWSI-centric. Lately the VIX has been at best a sub-plot in the market turmoil and the VWSI has not generated any extreme readings, so I will be expanding my weekly scope to include some of my other favorite indicators: put to call ratios, market breadth data, TRIN numbers, etc. going forward – or whatever else looks to be most newsworthy.

The Wall Street Journal “What’s Hot and Not” graphic shows where the action was last week – and this story is starting to look familiar. Oil, gold and other commodities were the biggest gainers last week, with a weak dollar and a weak US stock market accounting for the biggest losers.

The VIX ended the week up 2.48 (+10.3%) to 26.54, with the VWSI slipping back to zero. More interesting was the action in the put to call data, where the ISEE set all-time records lows for the 20, 50 and 100 day moving averages each day from Tuesday through Friday and the CPCE (CBOE Equity Put to Call Ratio) hit a new high of 1.50. In the wake of Friday’s precipitous drop, the TRIN and NASDAQ TRIN also ended the week with extreme readings of 2.46 and 2.76, respectively.

All this continues to mean one of two things: either the market is extremely oversold and anxious investors are going to create a massive wall of worry for a nice rebound…or we are in the midst of a financial meltdown not seen in the lifetime of most investors. I continue to reside in the former camp, but am watching SPX 1310 and NDX 1725 for signs of additional cracks in the dike.

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