Last week we featured a dollar cheap way to express a defined risk bearish view into JPM’s Q4 earnings. We did not execute the trade ourselves as it started moving lower before we could get our ideal entry and we weren’t too concerned as we are already short the banks through a Feb XLF put spread.. We have gotten a lot of questions on the trade and how to manage given the stock’s 5% decline this week. So what to do now?
With the stock at 55.75, this put is worth about 3.75, so almost a quadruple. As far as trade management? There’s really nothing to spread here that takes off any risk of a reversal so this is basically a decision of whether to take it all off or just part. I’d probably lean to just taking it all off at this point. You may not get the exact bottom but an oversold bounce could mean a dollar or more easily.
As far as analysis of this trade? That was what we call “dollar cheap.” You were either going to be right or wrong on a naked at-the-money put like that. But with the volatility in these stocks at the moment, if you were right you’d be right by more than a little and those options were priced too cheap.
On Wednesday (below) I highlighted what appears to be a brewing technical meltdown in the Euro currency and the Euro Stoxx Bank Index (SX7E) as both traded at 52 week lows today, with the SX7E closing down a whopping 5% with the index quickly nearing long term support at $120:
What’s interesting about the chart above is that there is a certain symmetry to it over the last two years with the lows around $80 and the highs around $160. Now with the stock at about the midpoint of $120 something has to give.
From where I sit it appears that the big money is trying to force the ECB’s hands to do some full on US style QE when the central bank meets on Jan 22nd. I am not exactly sure why Euro banks seem to be in crash mode, but our banks in the U.S. have not been immune to the weakness abroad as BAC, C and JPM are all down 5% on the year.
Next week we will get earnings from all of the stocks listed above, and likely get some fairly cautious commentary from managements regarding the health of the global economy juxtaposed to their optimism about ours at home, despite what looks like a continuation of ZIRP for 2015.
If rates are going to stay low in the U.S., global growth remains murky and regulation restrains risk taking, I can’t imagine this is a great environment to own banks stocks despite ours being in much better shape than the rest of the world.
JPM is the one I want to focus on. The company reports earnings next Wednesday prior to the open. The options market is implying about a 2.5% one day move vs the 4 qtr avg of about 2%. The stock is not a huge mover on earnings.
Despite the recent rise in implied vol, options prices seem dollar cheap to me for those looking to express directional views with defined risk. Which is exactly what I want to do.
I suspect that a solid Q4 is in JPM’s shares already and with Jamie Dimon just back from a medical leave the company is unlikely to come out with overly optimistic forward guidance with no shortage of trouble spots in the globe, both financially and geopoliticaly.
I am merely going to buy short dated puts, as they appear to be dollar cheap to me given the volatility backdrop, and the fact that Jan expiration captures earnings. Since these are short dated they will have weekend decay and with the stock down today I’m going to wait to see if I can get a slightly better entry on Monday.
TRADE: JPM ($59.40) Buy the Jan 59.5 put for 1.00
Break-Even on Jan Expiration:
Profits: below 58.50
Losses: up to 1.00 between 58.50 and 59.50, max loss of 1.00 above 59.50 or 1.7% of the underlying stock price.
Rationale: With the stock down 1.7% today, and down 5% on the year, this could be a hard press on the short side, and waiting for an early week bounce could be the best way to play. The risk is missing the trade entirely if the stock opens lower on Monday.
Technically, on the downside a break of the 200 day moving average (yellow below) at $58.40 is really the target that could see the stock retreat back towards $56.
Previous Post Jan 7th, 2015: Chart of the Day – EuroTrip: $/€ & SX7E
The investment world seems obsessively focused on the rise and fall of crude oil and the knock-on effects on other risk assets. This morning, oil is green, equities are green and bond yields are green. All’s right in the world again! Well, not really. There are other trouble spots that seem to be unrelated to oil’s decline and the never-ending saga which is the Eurozone is a good example.
It has been well telegraphed that ECB head Mario Draghi would like to stop talking and start buying following the central bank’s policy meeting on Jan 22nd. But of late Zee Germans are raising a fuss about full scale Euro QE, and the Euro and Euro bank stocks don’t like the prospect one bit either.
Meanshile, the Euro is on its way to fresh 10 year lows vs the dollar:
And I suspect more importantly, the Eur/USD cross is breaking below the downside of the Triangle of Death:
And then there is the Euro Stoxx bank index (SX7E) which is about to make a new one year closing low, and threatening to act like it did during the sovereign debt crisis a few years back as Greece is once again on the precipice of leaving the Union:
Taking a peek at the five year, that included the debt / Grexit crisis you see that the index is about to cross back below what looked like a meaningful head and shoulders bottom from 2011 to 2013:
So for those solely focused on cratering oil prices it may make sense to pay a a little attention other hot spots that have the potential to increase risk asset volatility.
I would have to guess a lot of people got offsides as it relates to European risk assets when Euro QE rumors first started to float. Buying stocks on easy money rumors has been the global playbook the past few years. But so far in this instance, the correct play was to sell the rumor. It’s unclear so far if you buy the news. I would add one more point, the big money may be forcing the ECB’s hand with continued selling into the Jan 22nd policy meeting. Another take-away is the potential for the increasingly strong dollar to have an adverse effect on U.S. corporate earnings, which could be manifested in Q1 guidance.