MorningWord 9/20/13: Would You Rather? Stock vs Options – $BA $SPY

by Dan September 20, 2013 9:24 am • Commentary

MorningWord 9/20/13:  No matter what your view as to why the SPX broke out to new highs, the actual occurrence is nothing short of impressive from a pure technical perspective.   While a runaway breakout could be in the cards with 1800 in the offing, the rally is at a fairly critical technical point in the very near term .  The one year chart below shows the recent break above the early Aug highs with a pause at the uptrend that has been in place since the Nov 2012 lows.

SPX 1yr chart from Bloomberg
SPX 1yr chart from Bloomberg

Since the Nov 2012 lows, the trade in hindsight has been to buy every dip of more than 2% as the avg gain of buying on those dips before the next one has been about 8%, with the current run off of the Aug lows of about 6.3%.  So maybe we have another 1-3% in the current rally, but up 21-25% on the year with potential headwinds abound, the risk reward of initiating new longs prior to a pullback or at least a consolidation looks increasingly less appetizing.

ON THE SINGLE STOCK FRONT

Investors continue to pile into what has worked ytd, as Enis highlighted yesterday in his Chat of the Day looking at BA’s recent parabolic run, culminating in 58% ytd returns for the stock.    His suggestion as it relates to BA, is also applicable to many other stocks that are now hitting all time highs, and valuations that appear to be stretched vs their historical averages:

the steepness of the ascent this week that is the real surprise. BA’s RSI reading is actually hitting its highest level today since July 2007.

the current move looks to be too emotional to be sustainable. A move back to the breakout area near $110 would provide a much better long entry.

The one year chart is a masterpiece, make no mistake about, especially when you consider the ferocity of the headlines relating to their Dreamliner during the first half of the year.  The stock is trading nearly 30% over its 200 day moving average, a set up usually reserved for internet stocks with eye-popping valuations.

BA 1yr chart from Bloomberg
BA 1yr chart from Bloomberg

My sense is that you would be hard pressed to find to many other $90 billion market cap companies the world over that demonstrate this sort of extreme bullishness.  BA could be a perfect situation where those with fabulous gains consider replacing their long exposure with calls or spreads in an effort to define their risk going forward with the stock and the broad market at all time highs.

Implied volatility in the stock is fairly low, with at the money calls in Nov expiration (which will catch their Q3 earnings report) sporting only a 21 vol, which is basically inline with the 30, 60 and 90 realized volatility.  If you were in the camp that the stock could clearly consolidate a bit, and perhaps fall back to the $110 level (where it was last week) as we head into all sorts of potential market moving events from budget deliberations, Octaper, Fed Chair appointment and confirmation and all of the other unknowns lurking from Syria to questions regarding the health of the global economic recovery, wouldn’t you rather own the Nov 120 at the money call for $3.50 (3% of the underlying stock price) or the stock up 58% on the year and up 15% in the last month??