Trade Alert – (FXY) July 26, 2012

As a potentially profitable opportunity presents itself, John will send you an alert with specific trade information as to what should be bought, when to buy it, and at what price.

Trade Alert – (FXY)

Sell Short the Currency Shares Japanese Yen Trust August, 2012 (FXY) $127-$130 call spread at $0.35 or best

Opening Trade

7-26-2012

expiration date: August 17, 2012

Portfolio weighting: 15% = 45 contracts

This is a bet that the Currency Shares Japanese Yen Trust August, 2012 (FXY) trades at or below $127.35 on the August 17 expiration in three weeks. I don’t think that anyone wants to chase the yen up from here on the long side. It is much more likely that it stagnates, especially now that we are getting a modest bid to “RISK ON” assets.

In recent days, the Japanese finance minister has indicated that he will take “decisive action” to ease monetary policy if the yen appreciates any further. My experience with this administration is that they will do nothing for two more weeks, tempt in some more yen longs, and then slam the market with a massive, surprise round of yen selling and dollar buying. There is also a potential double top for the (FXY) setting up at $125.80.

Just to be clear here, being long the yen is a “RISK OFF” trade, and being short is a “RISK ON” trade. So selling short a call spread is a modest “RISK ON” trade. I know this can be confusing using this double reverse kind of logic. Sometimes even I get befuddled, even after doing this for 40 years, especially when I am in a hurry.

If this spread expires anywhere under $127.00, as I hope, your total profit should amount to (45 X 100 X $0.35) = $1,575. That gives you a profit on this less than three-week play of 1.56% for the notional $100,000 model portfolio. This is the same as taking out a full ¥1.10 out of the cash market on a non-leveraged basis.

To lose money on this trade, the cash yen market would have to rise above ¥77.40, an unlikely event in the current stagnating yen foreign exchange market. A major stock market crash might get you there, but I think that is unlikely over the next few weeks. Even then, your risk is capped at $130, giving you a maximum potential loss of $2.65. The $130 leg to this trade has the additional benefit in that it reduces you margin requirement substantially.

Don’t place a market order for this trade or the floor traders will rip your eyes out. Don’t place individual orders for the legs either. Instead, place a limit day order in the middle market for the call spread only around $0.35, and wait for the market to come to you. It will find you.

The market can be illiquid for the deep out of the money $131 calls. If nothing happens then start raising your bid in 5 cent increments until something happens. You might also consider selling short the $127-$129 call spread instead for less money and less risk with more liquidity. You might also consider scaling into less leveraged short positions, such as through buying the ETF (YCS), which is very close to an all time low.

There’s no rush to do this, but if you get filled today you can capture the extra sweetener of the time decay going into the summer slowdown over this weekend. There is also always the chance the Bank of Japan gets off its rear end and engages in more, much needed quantitative easing and foreign exchange market intervention, driving the dollar back up to ¥85. In that case, this short call spread vaporizes in a nanosecond.

If you can’t get done at a price that you are happy with, then walk away and wait for the next trade alert. The same is true if I have failed to adequately explain this trade and you don’t understand it.

These are the trades you should execute:

Sell short the August, 2012 (FXY) $127 calls at……$0.40
Buy the August, 2012 (FXY) $130 calls at………….$0.05
Net Premium Proceeds:………………………………$0.35