MW Why it pays to focus now on Nvidia, Treasury bonds and a bullish finish to 2024
By Lawrence G. McMillan
The stock market is entering its usually favorable holiday season
The S&P 500 index SPX has backed off its all-time highs near 6,020. Yet the selling has not gained material traction, and so the bulls may be able to ride to the rescue once again.
So far, support at or near 5,870 has held. The daily lows of the past four trading sessions are in that area. Moreover, that was the high from last October, so it is logical that it should be providing support now. We continue to maintain that a two-day close below 5,870 would be bearish for the market and would cause us to relinquish our "core" bullish position. There is further support at 5,670, but the violation of support at 5,870 would leave a neutral SPX chart in its wake, at best.
Perhaps more interesting on the SPX chart, though, is the fact that there are two island reversals. They are circles on the chart.
A bullish island reversal is caused by a gap down, followed shortly by a gap up. Those two gaps occurred on Oct. 31 and Nov. 5. A bearish island reversal is caused by a gap up, followed by a gap down. Those bearish gaps occurred on Nov. 7 and Nov. 15.
It is highly unusual to see an island reversal on the chart of an index, much less two of them. Yes, sometimes we see a gap down and later a gap up, but the two islands require four gaps in a very specific order. I can't remember the last time I saw that on an index chart. In any case, SPX will eventually fill some of the gaps and that would negate that particular island reversal. For example, if SPX were to trade up to 5,942, that would fill that gap left on Nov. 15 and would remove the bearish island reversal - leaving only the bullish island reversal in place.
Conversely, if instead SPX were to trade down to 5,783, that would fill the gap left on Nov. 7. That, in turn, would remove the bullish island reversal, leaving only the bearish one in place. In the meantime, SPX is trading in a somewhat volatile fashion between the heavier support at 5,670 and the all-time highs at 6,020.
For the record, the McMillan Volatility Band $(MVB.AU)$ buy signal from mid-August (green "B" on the SPX chart) is still in place. We have rolled positions up several times, thus removing most of the downside risk. The target is the +4<SIGMA> "modified Bollinger Band," which is at 6,080 and still rising.
Equity-only put-call ratios continue to move more or less sideways. As a result, they are not giving a directional signal at this time. If they were to rise above their recent November highs, that would be bearish for stock. On the other hand, if they were to fall to new lows (below the October lows), that would be bullish for stocks. Lacking that, they are in a trading range in overbought territory. Green horizontal lines mark the pertinent range that is currently containing the ratio.
Market breadth has remained fairly negative, and the breadth oscillators remain on sell signals. The "stocks only" oscillator dipped into oversold territory, but the NYSE-based oscillator did not.
New highs on the NYSE continue to outnumber new lows, so this indicator remains in a bullish mode, as it has since last August. This buy signal would be stopped out if new lows exceed new highs on the NYSE for two consecutive days. Recently, there was one such day on Nov. 15, but not two.
VIX VIX has moved higher as SPX has declined over the past week or so, but it has not yet gone back into "spiking" mode. As a result, the "spike peak" buy signal remains in effect. It would be stopped out if VIX closes at least 3.0 points higher over any three-day or shorter time horizon.
What has happened, though, is that VIX has closed above its 200-day moving average $(MA)$ (which is at roughly 16.0). Since both VIX and the 20-day moving average are above the 200-day moving average, that creates a new "trend of VIX" sell signal. A rise in VIX should be respected as a potentially bearish indicator.
The construct of volatility derivatives has taken on a modestly bullish stance regarding the stock market. This happened after the election's influence on option implied volatility dissipated. The term structures of both the VIX futures and the Cboe volatility indices are now sloping slightly upwards. The front month VIX futures is now the December contract. We will be watching to see if December VIX futures rise in price above January VIX futures. If they do, that would be a negative for the stock market.
In summary, we are still holding a "core" bullish position as long as SPX continues to close above 5,870. The broad market seems to be under pressure, but we have not yet had any new confirmed sell signals. If they do occur, we will trade them. The bears have had chances to take control, and they may well still do so, but so far the bulls have been able to fend them off.
Nvidia has more to prove
After the close on Nov. 20, Nvidia $(NVDA)$ reported earnings that were just a slight bit better than analysts estimates. The option markets had been expecting a much more volatile report.
What conclusions can we draw from this? Most important is that option traders are vastly overestimating the impact of Nvidia earnings. That is in part due to the fact that Wall Street analysts are doing a better job of estimating those earnings than they used to, but option traders don't seem to believe them.
As a secondary measure - and we have no real way of measuring this - speculative, non-professional traders have made good money buying Nvidia straddles in the somewhat distant past but seem to still be set on trying the strategy again and again, even though it has worked only once in the last six quarters.
Recap: Here's how options traders are playing Nvidia in advance of its earnings release
Merry and bright year-end seasonality
After Thanksgiving, three different seasonal trades line up:
-- The post-Thanksgiving rally
-- The January Effect
-- The Santa Claus rally
We used to trade these separately, but in recent years they have blended together, so it is better to trade them all as one. Part of the reason for this is that the "January Effect" now takes place in December. The "January Effect" refers to a seasonal period when small-caps rally. In the more distant past, traders would sell off losing small-cap stocks for tax losses in December. Then they (or others) would buy them back in January.
This buying surge caused a rally in small-cap indices, such as the Value Line Index or the Russell 2000 Index RUT. As is often the case on Wall Street, when a winning strategy is discovered, traders start to buy ahead of time, figuring they'll get in first. This progressed so far that the "January Effect" moved into December.
The post-Thanksgiving rally is one that typically takes place for at least two weeks after Thanksgiving. Even in 2018, when there was a terrible drop in the stock market during December, there was a strong post-Thanksgiving rally beforehand.
The Santa Claus rally is a specific seasonal period that encompasses the last five trading days of one year and the first two trading days of the next year. Typically, the market rallies over that period. However, if the market should decline instead, this becomes a bearish sign for the new year.
Our studies have shown that the best way to approach this combination of the three seasonal periods is to trade it with the options on the iShares Russell 2000 ETF $(IWM)$ IWM.
To play this seasonality, buy 2 IWM (Jan. 17) at-the-money calls near the close of trading on Nov. 27, and sell 2 IWM (Jan. 17) calls with a striking price 13 points higher.
We will plan to hold this trade through the second trading day of 2025, so the entire amount of the money in this trade is at risk. If IWM trades at the higher strike, then sell the spread and replace it by buying the IWM (Jan. 17) call at that higher strike, holding it as an outright long.
New recommendation: 10-year U.S. Treasurys
There is a double put-call ratio buy signal in 10-year Treasury BX:TMUBMUSD10Y futures. This trade is particularly compelling if you think that interest rates will be dropping in the near future, with a new administration coming into office.
The put-call ratio is computed using the data from the 10-year futures that trade on the Chicago Board of Trade. It is not necessary to actually trade those futures options in order to take advantage of this information. Instead, trade the options on the iShares Trust 7-10 Year Treasury Bond ETF IEF.
Buy 4 IEF (Jan. 17) 94 calls in line with the market
Follow-up actions:
All stops are mental closing stops unless otherwise noted.
We are using a standard rolling procedure for our SPDR S&P 500 ETF $(SPY)$ SPY spreads: in any vertical bull or bear spread, if the underlying hits the short strike, then roll the entire spread. That would be roll up in the case of a call bull spread or roll down in the case of a bear put spread. Stay in the same expiration and keep the distance between the strikes the same unless otherwise instructed.
Long 1 SPY (Dec. 6) 595 call: This position is based on the new highs vs. new lows buy signal. It was entered via a bull spread bought at the close of trading on Aug. 15. It was then rolled several times. It would be stopped out if, on the NYSE, new lows outnumber new highs for two consecutive days.
Long 1 SPY (Dec. 6) 595 call: This is our core bullish position. Stop out of the position if SPX closes below 5,870 for two consecutive days.
Long 2 PLD (Dec. 20) 115 puts: We will continue to hold these puts as long as the put-call ratio for PLD $(PLD)$ remains on a sell signal.
Long 4 WBA (Nov. 29) 9.5 calls: This is the alternative Dogs of the Dow position. Hold WBA $(WBA)$ without a stop at this time.
Long 2 APH (Jan. 17) 62.5 calls: We will hold these calls as long as the weighted put-call ratio for APH $(APH)$ remains on a buy signal.
(MORE TO FOLLOW) Dow Jones Newswires
November 21, 2024 16:43 ET (21:43 GMT)
MW Why it pays to focus now on Nvidia, Treasury -2-
Long 1 SPY (Dec. 20) 595 call and Short 1 SPY (Dec. 20) 615 call: This position is based on the most recent VIX "spike peak" buy signal. This position will be held for 22 trading days - or until early December. It would be stopped out if VIX were to return to "spiking" mode. That is, if VIX were to rise at least 3.0 points over any 1-, 2-, or 3-day period. As of Nov. 21, that stop would be a VIX close at or above 17.02.
Long 3 MSTY (Dec. 20) 31 calls: stop yourself out on a close below 30 by MSTY MSTY
Long 4 UNG (Dec. 20) 13 calls: We will hold these calls as long as the weighted put-call ratio for natural gas futures UNG remains on a buy signal.
Long 1 SPY (Dec. 6) 595 put: This was bought in line with the recent breadth oscillator sell signals. We will hold this position until the breadth oscillators roll over to buy signals.
All stops are mental closing stops unless otherwise noted.
Send questions to: lmcmillan@optionstrategist.com.
Lawrence G. McMillan is president of McMillan Analysis, a registered investment and commodity trading advisor. McMillan may hold positions in securities recommended in this report, both personally and in client accounts. He is an experienced trader and money manager and is the author of "Options As A Strategic Investment." www.optionstrategist.com
Disclaimer:
(c)McMillan Analysis Corporation is registered with the SEC as an investment advisor and with the CFTC as a commodity trading advisor. The information in this newsletter has been carefully compiled from sources believed to be reliable, but accuracy and completeness are not guaranteed. The officers or directors of McMillan Analysis Corporation, or accounts managed by such persons may have positions in the securities recommended in the advisory.
-Lawrence G. McMillan
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(END) Dow Jones Newswires
November 21, 2024 16:43 ET (21:43 GMT)
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