Research Archives - Mad Hedge Fund Trader

Japanese Yen Melts Down to 12-Year Low!

November 3, 2014/in Diary, Newsletter, Research /by Mad Hedge Fund Trader

Those who woke up early Friday morning may be forgiven for blinking at their screens quite a few times.

The Japanese yen (FXY), (YCS) was down by an incredible 3%, the Dow Average futures were trading at an all time high of $17,400, and the S&P 500 was just short of a new peak at $202.

The Japanese stock market blasted 5% to the upside, taking the Wisdom Tree Japan Hedged Equity ETF (DXJ) up a staggering 8%.

Was this a trick or treat?

It only took a few seconds for me to learn that this was all in reaction to bold moves announced by the Bank of Japan overnight. In one fell swoop, they boosted their target for monetary expansion this fiscal year from Y60 trillion to Y80 trillion, an instant gain of 33%, or $200 billion.

Prorate this number for the difference in out two nations? GDP?s, and that is like the Federal Reserve announcing a new $700 billion monetary stimulus program out of the blue. Quantitative easing is not dead. The baton has merely been passed from the US to Europe and Japan.

The bottom line for us? Asset prices everywhere go higher.

Of course, readers of the Mad Hedge Fund Trader knew all this was coming.

While taking profits yesterday on my Japan yen put spread, I cautioned holders of the ProShares Ultra Short Yen ETF (YCS) to hang on because the beleaguered Japanese currency was headed much lower.

Those who did so were richly rewarded with a one-day pop of $4.50 overnight to $79.50, an all time high.

Parsing through the BOJ statement, it?s clear that these spectacular, once a decade moves were justified.

When the Japanese government implemented a poorly conceived tax increase in April, the BOJ sat on its hands.

After sleeping through most of the year, the hand of Japanese central bank was finally forced by simultaneous weakness in Europe. It is now implementing the Fed QE policy lock, stock, and barrel, given the proven excellent results here in the US. They are only five years late!

An even bigger blockbuster was another announcement made by Japan?s government controlled Pension Investment Corp. that it was totally reshuffling its massive $1.2 trillion investment portfolio.

It is doubling its allocation to international equities from $150 billion to $300 billion. Given the dire conditions in Europe, you can count on most of that money going into the US stocks. That explains our gap up in the (SPX) this morning, and a similar move down in bonds (TLT), (TBT).

Here is their new Model Portfolio:

Domestic Bonds 35%
Domestic Stocks 25%
International Stocks 25%
International Bonds 15%

Total 100%

The net effect of all of this is to effect an epochal move out of bonds and into stocks, and also to increase international investments at the expense of domestic ones.

I believe this is the beginning of a prolonged world-wide investment trend.

The bottom line for us traders here is that the Japanese action opens up the possibility of an entire ?RISK ON? leg upward. This is occurring on top of one of the sharpest legs up in market history.

All of a sudden, my yearend target of $2,100 for the S&P 500 is firmly back on the table. If you have any outstanding short positions on your books, it is better to cover them at the earliest opportunity.

Tally Ho!

Farewell to Quantitative Easing

October 30, 2014/in Diary, Newsletter, Research /by Mad Hedge Fund Trader

Finally, at long last, after infinite amounts of speculation and false starts, the Federal Reserve has decided to end quantitative easing.

After five years of soaking up both public and private debt in the marketplace, some $4.5 trillion worth, America?s central bank will quit picking up paper sometime next month. The printing presses are getting turned off and put into cold storage, job well done.

Boy, that was one hell of a monetary stimulus program, the likes of which has not been seen since the Great Depression. So much money flooded into the economy that homes values doubled on the bottom, stock indexes tripled, enriching quite a few traders along the way, including many followers of the Mad Hedge Fund Trader.

Who ended up making most of the money? Risk takers, equity owners, and the 1%. Everyone else was left in the dust, still waiting for the economic recovery to begin.

Since the controversial program was dreamed up and implemented by the former Fed governor, Ben Bernanke, five years ago, some $12 trillion was added to the value of equities alone. Some of my picks, like Cheniere Energy (LNG), Baidu (BIDU), ad Tesla (TSLA) soared by nearly 20 times.

Conservatives hated QE, fearing that such easy money would lead to hyperinflation and the collapse of the US dollar. The only problem is that the Consumer Price Index didn?t get the memo, with deflation now the country?s greatest economic threat. As I write this, the greenback is tickling new multiyear highs.

What QE did do was pull the US away from the brink of complete economic collapse. As far as the Fed is concerned, mission accomplished.

The other message that emanated from the Fed today is that it may raise interest rates sooner than expected. That trashed the bond market, taking Treasury bond yields to 2.35%, off an amazing 40 basis points from the low only two weeks ago.

There are some important points to take here for our trading strategy going forward.

First of all, the final top in bonds is looking more convincing by the day.

Second, the top in bonds, and slightly hawkish tone taken by the Fed today are extremely positive for the banks. I have already loaded up followers with Bank of America (BAC), which just pierced $17 on the upside and appears poised to claim new highs for the year.

I am inclined to add to this position on dips, and expand to my exposure to other names. On the menu are Morgan Stanley (MS), Golden Sachs (GS), JP Morgan (JPM), Wells Fargo (WFC), and American Express (AXP).

The dollar rocketed. Those who followed my recent Trade Alerts to aggressively sell short the Euro (FXE), (EUO) and the yen (FXY), (YCS) were sent laughing all the way to the bank.

I spoke to my colleague after the close today, ace Mad Day Trader, Jim Parker. We concluded that if the market doesn?t show any weakness Thursday morning, we could continue a straight line run up into the month end book closing on Friday, and then on to new all time highs.

I know it?s not gentlemanly to say ?I told you so,? but I told you so.

If you are bemoaning the loss of quantitative easing, don?t worry, it may not be gone for long.

When the economy goes into the tank in two or three years, it may well return from the dead in all its glory, especially if the inflation rate peaks in this cycle at an Appalachian 2.5% and then heads for negative numbers.

Will Quantitative Easing Return From the Dead?

Goldilocks is Back!

October 28, 2014/in Diary, Newsletter, Research /by Mad Hedge Fund Trader

Her red Tesla is parked in the driveway, her potted plants are back on the balcony, and the closet is once again filled with designer shoes.

Goldilocks is back!

It?s not like she was ever going to be gone for long. Once a woman of a certain maturity gets accustomed to the lifestyle of the rich and famous, it?s hard to give up the better things in life.

However, there were some doubts.

When the Dow Average opened down 400 points on October 15, a gigantic capitulation move saw $70 billion worth of stock sold at market at the absolute low of 15,850, and a spectacular 315 million shares of the S&P 500 ETF (SPY) were unloaded.

One might have thought that Goldilocks had changed her name and moved into a nunnery for good.

It was not to be.

The rally that ensued off of that print was one of the most ferocious in history. After having cleaned out hedge fund trader longs on the downside, the market then ripped their faces off on the upside.

It has not been a good year for hedge funds. It has been a fantastic year for high frequency traders, with September the most profitable month in the history of this arcane, computer trading strategy.

As for me, I never had any doubt that Goldilocks was coming back. As I miraculously pound into my followers on a daily basis, it?s all about the numbers. It?s always about the numbers.

The strength of the economy is such that the sudden 10% swoon we witnessed was in no way justified. All that was really required was that an extreme overbought condition in stocks we say six weeks ago be remedied. Now that is done, it is up, up, and away.

Corporate earnings obliged, with an eye-popping 80% delivering upside surprises. Corporate earnings are now growing at a robust year on year 11% annual rate.

Instead of focusing in on Ebola, Russia and ISIS, traders are now looking at improving Purchasing Managers Indexes in both Europe and China. The Middle East has gone quiet. There were even rumors, later quashed, of an extended quantitative easing for the US.

The European Central Bank announced the results of its bank stress test, and guess what? Almost everyone passed! Only 12 banks need to raise $12 billion in new capital.

Of course, this was never more than a window dressing exercise designed to make us all feel warm and fuzzy about the beleaguered continent.

It worked!

Capital spending also remains robust for the first time in eight years. But I think most analysts are missing the reason why this is happening. It is too late for companies to add capacity for this economic cycle.

They are instead building factories now to accommodate demand for the next economic and financial boom in the early 2020?s, when the stiff demographic headwind created by the baby boomers flips to a brisk tailwind provided by the Gen Xer?s.

The true 800-pound gorilla on the trading landscape these days is the price of oil, which broke the $80 handle yesterday morning. As with every move by every financial instrument everywhere, the more it goes down, the more dire the forecasts become. The savings in energy costs at this level amount to $12,000 per family per year. Do the math.

$10 a barrel? Really?

I think it is safe to say, like interest rates, energy prices will stay lower for longer than anyone imagines possible. So add another 1% to US GDP growth this year, next year and the one after that.

When the stock market figures this out, new highs will follow, probably before year end.

Has Goldilocks Moved Back in For Good?

10 Signs of a Market Bottom

October 21, 2014/in Diary, Newsletter, Research /by Mad Hedge Fund Trader

Bottom? Bottom? Where?s the market bottom?

The talking heads on TV have been working overtime speculating on where the worst move down in the stock market in three years will take us.

It all may sound like intelligent prognosticating to you.

As for me, I know they are guessing.

So I shall share with you my ten benchmark indicators that you can closely track to decide for yourself whether stocks are headed for perdition, or are soaring skyward once again.

1) Ten year Treasury bond yields start to rise, and break out above 2.30% (they are now at 2.18%).

2) The US dollar begins to appreciate once again, taking the Euro ETF (FXE) below $125.

3) Inflation expectations start to rise in Europe. Watch the monthly CPI numbers out of France and Italy, which have recently been negative.

4) Fed funds futures start to rise from near zero.

5) The price of crude oil stabilizes. Watch Brent, which will have the sharpest move up once recovery begins.

6) The small cap index, the Russell 2000 (IWM), starts to outperform the S&P 500 (SPY) on the upside. Smaller companies led the retreat on the downside, and should lead a new recovery as traders like me cover shorts (I already have).

7) Cyclical stocks, like airlines (DAL) outperform defensive stocks like soap and shampoo makers (PG) we already captured this with a (DAL) Trade Alert.

8) The junk bond market (HYG) starts to appreciate.

9) The macro data stream delivers a series of positive numbers.

10) People quit talking about the market bottom, and start opining about the next market top.

As you have probably figured out buy now with my flurry of recent Trade Alerts, I am leaning towards the probability that the bottom for stocks is already in. It?s all about oil.

I spent my weekend running numbers on the impact that cheap energy will have on the economy, and they are truly staggering. I list a few points below:

1) If oil stays down in this area, it will deliver a savings of $12,000 per family in gasoline, heating bills (being from California, I have only heard about these) and electricity.

2) The increased spending this will generate will add 1% to US GDP growth next year, as the cost of energy is pervasive through all industries, either directly, or indirectly.

3) This amounts to a $1.1 trillion stimulus package for the US economy, larger than the one we got in 2009. Think of it as a QE 4.

I rest my case.

Watch the Signs (My Infrared Picture)

How to Sell Short a Call Spread

October 21, 2014/in Diary, Newsletter, Research /by Mad Hedge Fund Trader

It?s time to teach some old dogs some new tricks.

This is a bet that the S&P 500 does not climb to a new all time high by the November 21 expiration in 24 trading days.

I think that we need to chop around here a bit and consolidate within a wide range before the (SPY) starts its New Year run to all time highs.

Not wanting to leave a single penny on the table, I want to profit from this likely outcome. Therefore, I am adding a short position in the S&P 500 (SPY) November, 2014 $197-$202 out-of-the-money vertical call spread this morning.

The maximum profit point for this short position is anywhere below $197 in the (SPY), which is above the 50 day moving average. That is 5.7% above the Friday close.

When you sell short a security, your broker places the cash proceeds in your account, and leaves it there as collateral for the position. You give it back when you come out of the position at a later date, hopefully a lesser amount when the trade is profitable.

As long as the (SPY) doesn?t close above $197, you will be able to keep the entire $0.49 premium that you received in cash on the short sale. This cash you receive will be immediately credited to your account and left there until the options expire.

The upside breakeven point for the position is $197.49 (The $197 strike, plus the $0.49 premium you took in on the initial sale).

You can sell short this vertical call spread anywhere in a $0.40-$0.60 range and have a reasonable expectation of making money on this trade.

This is a new kind of position for my Trade Alert followers. It has exactly the same risk profile and margin requirement as buying an S&P 500 (SPY) November, 2014 $197-$202 deep in-the-money vertical put spread.

It does also give us some downside protection with which we can protect our existing long positions in case the market decides to take another swoon. We are just one US Ebola case from the next 300 point plunge in the Dow Average, and there are certain to be more. There is no shortage of morons on this earth.

If the (SPY) has already put in its final bottom and continues to appreciate, you will think you have died and gone to heaven, because your remaining substantial long positions in (BAC), (SPY), and short in the (FXE) will cause your P&L to soar.

You might then take a small loss on your short (SPY) call spread. But then, nobody complains when they buy fire insurance and their house doesn?t burn down. In the meantime, you get the benefit from time decay on this position.

Why am I doing this, other than to educate you on some new tricks of the trade?

Liquidity for deep out of the money puts has become so poor, and the market dislocations so great, that I can actually make more money now on shorting call spreads than buying put spreads, even though they are mirror images of each other.

If you don?t believe me, then try pricing out the (SPY) November $197-$202 deep in-the-money vertical bear put spread and see what you get. Mathematically, they should be the same. But the bid and offered spreads on the puts are wide enough to drive a Ferrari F-50 through.

It’s the market makers way of reaching into your pocket and lifting out your wallet.

If all of this sounds too complicated, then just stand aside and watch how this position plays out. Then, maybe you can do it the next time, if conditions permit.

The Bottom Building Process Has Begun

October 17, 2014/in Diary, Newsletter, Research /by Mad Hedge Fund Trader

I have an arrangement with several large hedge funds where they pay me a small fortune every month for the privilege of calling me one day a year.

Wednesday was that day.

It was a day when the $20 billion hedge fund waited on hold while I got off the phone with the $100 billion hedge fund. And that?s not including urgent calls from the White House, the office of the Joint Chiefs, and the Federal Reserve.

Of course, no one needs to tell these guys how to chew gum. They were interested to know if they were missing anything.

The advice I gave them was very short and simple: ?Keep your eye on the economic data, and ignore everything else.?

You can palpably feel the tension when enduring crisis like these. The Internet noticeably slows down. Transatlantic and Transpacific phone lines get clogged up. Traffic on our website, www.madhedgefundtrader.com, rises tenfold.

So do plaintive emails from followers, everyone of which I attempt to answer quickly. To save time, I will give a generic answer to all of you in advance: ?No, it is not time to stop out of your ProShares Ultra Short 20+ Treasury Bond ETF (TBT) position at the $46 handle.? We are at a multiyear peak in bonds, and this is absolutely not the place to puke out. That?s why I always keep my positions small.

You have to allow room for markets to breathe and still be able to hang on when it goes against you. It is also nice to have the dry powder to double up.

I know some of you are suffering from sleepless nights, so I?ll make it easy for you. We have hit bottom for the year. This is the best time in three years to buy stocks, just in case you forgot to load up at any time since 2011. Ditto for bonds on the sell side.

Earnings started coming out last week, and many companies have been delivering blockbuster reports, as I expected. Over all, I think we can expect total S&P 500 earnings to rise by $11.

This means that, given the market?s recent 10% plunge, stocks are now selling at 12.5 X 2015 earnings. That is a rare bargain. It is a chance to buy shares at 2011 valuations. Don?t blink and miss it.

The big driver hasn?t been the Ebola virus, the risk of which has been wildly exaggerated by the media, but the collapse of the price of oil.

I think we got very close to a bottom of the entire move this morning when we tickled $80. I take North Dakota fracking pioneer John Hamm?s view: If this isn?t the bottom, it is close, and wherever the bottom, we will race right back up to $100 sometime next year on China?s insatiable demand.

That means you buy stocks right now.

For a fuller explanation of the fundamentally bullish argument for the stock market, please click here ?10 Reasons Why the Bull Market is Still Alive?.

Now Is the Time to Have a Gunslinger Working on Your Behalf

Delta Airlines is Cleared for Takeoff

October 16, 2014/in Diary, Newsletter, Research /by Mad Hedge Fund Trader

When I was a young, clueless investment banker at Morgan Stanley 30 years ago, the head of equity sales took me aside to give me some fatherly advice. Never touch the airlines.

The profitability of this industry was totally dependent on fuel costs, interest rates and the state of the economy, and management hadn’t the slightest idea of what any of these were going to do. If I were ever tempted to buy an airline stock, I should lie down and take a long nap first.

At the time, the industry had just been deregulated, and was still dominated by giants like Pan Am, TWA, Eastern Air, Western, Laker, Braniff, and a new low cost upstart called People Express. None of these companies exist today. It was the best investment advice that I ever got.

If you total up the P&L’s of all of the US airlines that ever existed since Orville and Wilber Wright first flew in 1903 (their pictures are on my new anti-terrorism edition commercial pilots license), it is a giant negative number, well in excess of $100 billion. This is despite the massive government subsidies that have prevailed for much of the industry’s existence.

The sector today is hugely leveraged, capital intensive, heavily regulated, highly unionized, offers customers terrible service, and is constantly flirting with, or is in bankruptcy. Its track record is horrendous. It is a prime terrorist target. A worse nightmare of an industry never existed.

I became all too aware of the travails of this business while operating my own charter airline in Europe as a sideline to my investment business during the 1980?s.

The amount of paperwork involved in a single international flight was excruciating. Every country piled on fees and taxes wherever possible. The French air traffic controllers were always on strike, the Swiss were arrogant, and the Italians unintelligible and out of fuel.

The Greek military controllers once lost me over the Aegean Sea for two hours, while the Yugoslavs sent out two MIG fighter jets to intercept me. As for the US? Did you know that every rivet going into an American built aircraft must first be inspected by the government and painted yellow before it can be used in manufacture?

While flying a Red Cross mission into Croatia, I got shot down by the Serbians, crash landed at a small Austrian Alpine river, and lost a disc in my back. I had to make a $300 donation to the Zell Am Zee fire department Christmas fund to get their crane to lift my damaged aircraft out of the river (see picture below). Talk about killing the competition!

Anyway, I diverge.

So you may be shocked to hear that I think there is a great opportunity here in airline stocks. A Darwinian weeding out has taken place over the last 30 years that has concentrated the industry so much that it would attract the interest of antitrust lawyers, if consumers weren?t such huge beneficiaries.

With the American-US Air (AAL) deal done, the top four carriers (along with United-Continental (UAL), Delta (DAL), and Southwest (LUV) will control 90% of the market.

That is up from 60% only five years ago. The industry has fewer seats than in 1982; while inflation adjusted fares are down 40%. Analysts are referring to this as the industry?s new ?oligopoly advantage.?

Any surprise bump up in oil prices is met with a blizzard of higher fares, baggage fees, and fuel surcharges. I can’t remember the last time I saw an empty seat on a plane, and I travel a lot. Lost luggage rates are near all time lows because so few now check in bags. Interest rates staying at zero don?t hurt either.

The real kicker here is that stock in an airline is, in effect, a free undated put on the price of oil. If the price of oil stays in the $80 handle for a prolonged period of time, which it should, or continues to fall, airline stocks will rocket. This is on top of a $27 plunge in the price of Texas tea, the largest single cost item for the airline industry.

If you are looking for another indirect play, look at the bond market. With a new Boeing 787 Dreamliner costing up to $300 million each, airlines are massive borrowers of capital. With interest rates at all time lows, another huge source of costs have just been lifted off the airlines? backs.

The Ebola virus is an additional sweetener (if you could use such a term for a deadly disease), because it is enabling us to buy the stock down 30% than it would be otherwise. Delta Airlines (DAL) just so happened to be the airline that brought the first Ebola carrier to the US, so it has suffered the most. As frightening as this disease is (I studied it in my Army bacteriological warfare days), I doubt we will see more than a dozen cases in the US.

At least we are finally getting something for our $120 billion investment in Homeland Security since 2002. How much do you want to bet that they don?t cut the budget for the Center for Disease Control (CDC) this year, as they have for the past dozen!

On top of the massive fuel savings, a recovering US economy should boost profitability, given its recent maniacal pursuit of controlling costs. Some airlines have become so cost conscious that they are no longer painting their planes to gain fuel savings from carrying 100 pounds less weight! Just the missing pretzels alone should be worth a few cents a share in earnings.

This is not just a US development, but an international one. The International Air Transport Association (IATA) has just raised its forecast of member earnings from $7.6 billion in 2012 to $10.6 billion in 2013, a gain of 40%. The biggest earnings are based in Asia (China Southern Airlines, China Eastern Airlines, Air China), followed by those in the US, with $3.6 billion in profits.

Add all this together, and the conclusion is clear. The checklist is complete, the IFR clearance is in hand, and it is now time to push the throttles to the firewall for the airline stocks and get this bird off the ground.

And no, I didn’t get free frequent flier points for writing this piece.

Meet the New Big Four

Maybe I Should Try Hedge Fund Trading?

10 Reasons Why the Bull Market is Still Alive

October 14, 2014/in Diary, Newsletter, Research /by Mad Hedge Fund Trader

Well, so much for the 200 day moving average! It?s like that girlfriend who has been ferociously loyal for the last year, and suddenly she is busy every weekend and never returns phone calls.

Not that this ever happens to me. Ahem.

I knew there would be trouble when the perma bulls on TV told me the market would bounce hard off this inviolable line in the sand, with the (SPX) at 1,905. I cut my bullish equity positions by two thirds on the first market rally and never looked back.

For proof that you still make beginner mistakes after 45 years in the business, take a look at how I handled my Tesla (TSLA) position last week. Elon Musk teased us all with his ?D? tweet two weeks ago, and the stock levitated magically while all other momentum stocks were being mercilessly thrown overboard.

?Women and traders? first comes to mind.

Did I sell into the rumor and capture the 80 basis point profit I had in hand? Nope. I held on until yesterday morning and bailed after a $40 plunge in the stock, taking a 1.62% hit.

This happened while the rest of Texas was coming down with Ebola Virus. I fall victim to the bout of over confidence whenever my Trade Alert success rate exceeds 90%, as it recently has done. I start to believe my own research, always a fatal flaw.

Fortunately, I?m still running double shorts in the S&P 500 (SPY) and the Russell 2000 (IWM) to hedge these losses. The ?Hedge? in ?Mad Hedge Fund Trader? is a well-earned one, I assure you.

You would think I would get hate mail for making such a stupid mistake. Au contraire! Readers thanked me for pulling the plug so quickly and with all humility. It appears that when most other newsletters put out a bad call they develop a sudden case of amnesia, leaving their customers to thrash about in bloody, shark-invested waters on their own.

Not here!

So, should we be burning up the Internet trunk lines with frenzied clicks to unload our long-term stock portfolios?

I think not. Here are ten reasons why I believe the bull market in shares is still alive and well:

1) Stocks are selling at only 14 X 2015 earnings, in the middle of the historic range.

2) The $23 plunge in oil prices we have enjoyed over the last five months amounts to a gigantic tax cut for the world economy, and could add a full 1% to US GDP growth, which has essentially come out of nowhere. Saudi Arabia told us today that this could go on for another year. Remember, it is our oil that is crushing prices.

3) The Christmas selling seasons is setting up to be a strong one, thanks to a friendly calendar and renewed consumer confidence. This is why retailers and credit card companies like American Express (AXP) have been reviving.

4) The November 4 midterm elections are still a big unknown for the market to discount. The next day could signal the beginning of the yearend bull market.

5) I think we are seeing the final blow off top in the bond market. A reversal would be very stock friendly, especially for financials (BAC).

6) Mergers and acquisitions are continuing at a torrid pace. This is happening because companies see each other as cheap, not expensive, and usually happens at market bottoms.

7) Those who aren?t merging are buying their own stock back with both hands, like Apple, at a staggering $400 billion annualized rate.

8) Volatility spikes (VIX) also signal market bottoms (see chart below). We are nearing another top with the closely followed indicator closing at $24.64 today, a high for the past two years.

9) Capital spending is accelerating, not only in technology, but across most other industries as well. This is why the IMF boosted its growth forecast for America next year to 3.8%, and that is probably a low number.

10) Ever heard of ?Sell in May and Go Away?? Well, ?Buy in November and stay put? is also true. That is only weeks away. October is usually the worst month of the year to sell and is not the path to untold riches.

The big question now is how much additional pain we have to suffer before the promised turnaround occurs.

My colleague, Mad Day Trader Jim Parker, went over his screens with a fine tooth comb and came up with $1,846 and $1,810 for the (SPX). Similarly, NASDAQ could trade down to the $3,700-$3,800 range.

My personal favorite is on the calendar, the Midterm elections on November 4. Whatever the outcome, we could see an upside explosion that lasts for six months, once thus unknown disappears. Not only could this make your year in 2014, but 2015 as well.

And I already know who is going to win! It is gridlock, whether the Democrats control one House of congress, or none!

Do You Think They Carry Ebola Virus?

How to Execute a Vertical Bull Call Spread

October 9, 2014/in Diary, Newsletter, Research /by Mad Hedge Fund Trader

For those readers looking to improve their trading results and create the unfair advantage they deserve, I have just posted a new training video on How to Execute a Vertical Bull Call Spread.

This is a pair of positions in the options market that will be profitable when the underlying security goes up, sideways, or down small in price over a defined period of time. It is the perfect position to have on board during markets that have declining or low volatility, much like we have experienced over the past year.

I have strapped on quite a few of these across many asset classes this year, and they are a major reason why I am up 40%.

To understand this trade, I have used the recent example of Apple, which I executed on July 10, 2014. I felt very strongly that Apple shares would rally into the release of their new iPhone 6 on September 9, 2014.

So followers of my Trade Alert service received text messages and emails to add the following position:

Buy the Apple (AAPL) August, 2014 $85-$90 in-the-money bull call spread at $4.00 or best

To accomplish this, they had to execute the following trades:

Buy 25 August, 2014 (AAPL) $85 calls at????..?$9.60

Sell short 25 August, 2014 (AAPL) $90 calls at??..$5.60
Net Cost:????????????????…………….$4.00

This gets traders into the position at $4.00, which cost them $10,000 ($4.00 per option X 100 shares per option X 25 contracts).

The vertical part of the description of this trade refers to the fact that both options have the same underlying security (AAPL), the same expiration date (August 15, 2015) and only different strike prices ($85 and $90).

The breakeven point can be calculated as follows:

$85.00 Lower strike price
? $4.00 Price paid for the vertical call spread
$89.00 Break even Apple share price

The great thing about these positions is that your risk is defined. You can?t lose anymore than the $10,000 you put up.

If Apple goes bankrupt, we get a flash crash, or suffer another 9/11 type event, you will never get a margin call from your broker in the middle of the night asking for more money. This is why hedge funds like them so much.

As long as Apple traded at or above $89 on the August 14 expiration date, you will make a profit on this trade.

As it turns out, my read on Apple shares proved dead on, and the shares closed at $97.98 on expiration day, or a healthy $8.98 above my breakeven point.

The total profit on the trade came to:

($1.00 X 100 X 25) = $2,500

This means that the position earned a 25% profit in little more than a month. Now you know why I like Vertical Bull Call Spreads so much.

Occasionally, these things don?t work. As hard as it may be to believe, I am not infallible.

So if I?m wrong and I tell you to buy a vertical bull call spread, and the shares fall not a little, but a lot, you will lose money. On those rare cases when that happens, I?ll shoot out a Trade Alert to you with stop-loss instructions before the damage gets out of control.

To watch the video edition of How to Execute a Vertical Bull Call Spread, complete with more detailed instructions on how to execute the position with your online platform, please click here.

Vertical Bull Call Spreads Are the Way to Go in a flat to Rising Market

How Low is Low for Oil?

October 8, 2014/in Diary, Newsletter, Research /by Mad Hedge Fund Trader

With the recent collapse in oil prices, down a whopping $20 in just four months, I am starting to get a lot of emails from followers looking for Trade Alerts to buy the energy companies.

After all, energy is one of my three core industries in which to invest over the next two decades. Why not now?

The short answer is: Not yet. Don?t ever confuse a stock that has gone down a lot with ?cheap.?

The share prices for this sector are getting so low, they are starting to redefine the meaning of ?bargain.? The major integrated oil companies are now trading under book value with single digit multiples.

They are now at liquidation values, assuming that the fall in the price of Texas tea halts at $80. Those are valuations almost as low as Apple (AAPL) saw a year ago.

The absence of my Trade Alerts in this fertile field is happing because things could get worse for oil before they get better. There is now a war for market share occurring between the world?s second and third largest producers, Saudi Arabia and Russia (the US is now number 1).

Both countries desperately depend of rising prices and export volumes to maintain domestic political stability. When that doesn?t happen, budget deficits explode, spending gets cut, revolutions occur, and governments fall.

And these aren?t countries that send former leaders to country clubs to practice their golf swings in retirement. Firing squads are more the order of the day. In fact, countries maintaining high oil revenues is a matter of personal survival for their leaders.

Until recently, I would have said that China would step in and put a floor under the market to fuel their insatiable demand for energy. But they have run out of storage, and are unable to take more.

There is just no place to put it. They have even resorted to long-term charters of ultra large tankers, like the 434,000 tonne TI Europe, purely to build reserves.

The shake out is especially bad in the offshore sector, the planet?s most expensive source of crude. A glut of new drilling rigs is about to hit the market, ordered during more prosperous times years ago, while existing ones can be snapped up for 60 cents on the dollar.

Oil suffers from the additional damnation in that it is being dragged down by the global commodity collapse. Unless an asset class is made out of paper and pays an interest rate or a dividend, it is getting dissed to an unbelievable degree.

All of this means that the price of oil could fall further before we hit bottom and bounce. Now that $90 has been decisively broken, $80 is in the cards, and possibly $70 on a spike.

If you had told me when I was fracking for natural gas in the Barnett Shale 15 years ago that this process would ultimately cause the collapse of Russia and Saudi Arabia, me and my roustabout buddies would have said you were nuts. Yet, that is precisely what seems to be happening.

If there is one thing saving Texas tea, it is that the US can?t build energy infrastructure fast enough to get burgeoning new supplies to market. After the Keystone Pipeline got stalled by regulatory roadblocks, giant 100 car oil trains sprang out of nowhere overnight.

So many railcars have been diverted to the oil trade that farmers are now having trouble getting a record grain crop to market. This is why railroads have been booming (click here for ?Railroads Are Breaking Out All Over?).

The energy research house, Raymond James, recently put out an estimate that domestic American oil production (USO) would rise to 9.1 million barrels a day by 2015. That means its share of total consumption will leap to 46% of our total 20 million barrels a day habit. These are game changing numbers.

Names like the Eagle Ford Shale, Haynesville, and the Bakken Shale, once obscure references on geological maps, are now a major force in the country?s energy picture.

Ten years ago, North Dakota was suffering from depopulation. Now, itinerate oil workers must brave -40 degree winter temperatures in their recreational vehicles pursuing their $150,000 a year jobs.

The value of this extra 3.5 million barrels/day works out to $115 billion a year at current prices (3.5 million X 365 X $90). That will drop America?s trade deficit by nearly 25% over the next three years, and almost wipe out our current account deficit.

Needless to say, this is a hugely dollar positive development, and my own Trade Alerts have profitably been reflecting that.

This 3.5 million barrels will also offset much of the growth in China?s oil demand for the next three years. Fewer oil exports to the US also vastly expand the standby production capacity of Saudi Arabia.

If you want proof of the impact this will have on the economy, look no further than the coal (KOL), which has been falling in a rising market. Power plant conversion from coal to natural gas (UNG) is accelerating at a dramatic pace. That leaves China as the remaining buyer, and their economy is slowing.

It all makes the current price of oil at $90 look a little rich. As with the last oil spike four years ago, this one is occurring in the face of a supply glut. Cushing, Oklahoma is awash in Texas tea, and the Strategic Petroleum Reserve stashed away in salt domes in Texas and Louisiana is at its maximum capacity of 727 million barrels.

It was concerns about war with Syria, Iran, ISIL, and the Ukraine that took prices to $107 in the spring. My oil industry friends tell me this fear premium added $30-$40 to the price of crude. That premium is now disappearing.

It seems that every time a new group grabs an oil field in the Middle East, they ramp up production, rather than destroy it, so they can milk it for the cash. This is why 15 tankers are afloat around the world carrying Kurdish crude to sell on the black market.

Once Europe and Asia return to a solid growth track, oil will recover to $100 a barrel or more. Until then, discretion is the better part of valor, and I?ll be sitting on those Trade Alerts.

It is also why I am keeping oil companies with major onshore domestic assets, like Exxon Mobil (XOM) and Occidental Petroleum (OXY), in my long term model portfolio.