In case you missed it, the Shanghai Composite was down nearly 9% on Monday after Regulators imposed new rules for margin trading in a move to cool down what many see as an overheated stock market. Last night saw the index bounce a couple percent, but this price action after a 70% rally off of the 52 week lows, to Friday’s 6 year highs is not exactly encouraging:
About a month ago I highlighted the strength (read here) in the Shanghai Comp vs weakness in U.S. multinationals that get a good bit of their sales from the region. I suggested that these stocks may be more representative of investor sentiment towards China than Chinese stocks:
We have seen disappointing commentary from MCD & YUM on the consumer side in just the last week, while industrial companies like CAT and JOY have all seen a down-tick in demand from emerging markets like China and have seen their stocks quickly retreat towards the 52 week lows.
So the take-away here is simple, don’t take you cue on the health of the Chinese economy from the strength in the Shanghai Composite. It’s merely a central bank play at this point. The results from U.S. multi-nationals with exposure in China have been a lot more accurate in detailing the health of the region.
A pretty decent example of this has been WYNN, a company that gets more than two thirds of their sales from Macau, and much of their future growth. Over the last few weeks the stock has tried very hard to put in a bottom with what was a beautiful spike bottom in December (circled in green) that resulted in a 15% bounce from the lows on December 17th to its one month highs on December 29th:
On January 6th the stock bounced off of $140, gaining nearly 10% from that day’s lows (circled in red) only to give that up once again. The stock today is getting whacked, down 5.5% and once again through the all important (or at least for now) technical level of $140, threatening the lowest close since the spike bottom on Dec 17th. The news flow goes from bad to worse, as illustrious Tweep @WallStCynic points out:
— Diogenes (@WallStCynic) January 20, 2015
For those that have the experience and remember bear market trading rules, it is important to note that pressing shorts at lows is a tough way to make a living, as counter-trend rallies can be sharp and painful (see the two most recent) but being patient and entering bearish trades on bounces back to the downtrend can be a profitable strategy. So let’s look at a specific stock:
Late last year we got a little too cute with a trade structure, getting the direction in WYNN very right, but the strategy very wrong (read here). The next bounce prior to the company’s Q4 results (expected last week of Jan) could be the one, but it is important to remember that this stock is down 45% from last year’s all time highs and while expectations have come down dramatically during that time period (Wall Street consensus now expects earnings and sales to decline year over year vs expected growth in the mid teens last year) stories like this generally don’t just turn on a dime, usually there should be some sort of capitulation.
We will be patient, wait for counter trend bounce, and look to play for the final death blow.
As one would expect, options prices have risen markedly of late, with 30 day at the money implied volatility rising higher than levels seen prior to WYNN’s Q3 report in October, suggesting greater uncertainty with the stock down 23% from those levels:[caption id="attachment_50070" align="aligncenter" width="600"] WYNN 1yr chart of 30 day at the money IV from Bloomberg[/caption]
Trades that could look interesting given elevated IV are call spread sales, or risk reversals, selling call spreads to buy put spreads, after a bounce.