News Flash: The S&P 500 (SPX) is very near another breakout to new all time highs, and if recent history is any guide this occurrence should happen fairly soon:
But, after three and a half months of grinding in 2015, U.S. equities feel a tad tired, and lack leadership and the path to new highs is less obvious than it had been again and again with the economic backdrop of QE and ZIRP.
Despite being very near their prior highs, the SPX’s less than 2% gains are paltry compared to the Euro Stoxx up 18%, the Nikkei up 15% and the Shanghai Comp up 35%! This under-performance shouldn’t be a huge mystery to those familiar with the QE playbook. Ours is essentially done, while Europe, China and Japan having experimented with some other strange ideas have now seen our success and are just kicking into overdrive in an attempt to re-produce it. And global investors got the memo, stick with what works. Ride central banks coat-tails as it relates to risk assets.
Diving deeper into the passing of the baton in QE, U.S. equities also underperform other equity markets right now as a result of the strong dollar (which is the result of the end of our QE coinciding with others’ ramping up) and the massive uncertainty around the timing of a rate increase by the Fed.
Its my sense that next week’s Fed meeting will determine whether or not the SPX breaks to new highs, or threatens the steep uptrend that has been steadfast since the October lows. Language by the “data dependent” Fed that suggests the global economy is not ready for a U.S. hike will be just what the current Bulls need for the breakout. But unlike some recent history where both bad and good news was good for the market, at this stage of the game, I suspect bad news is bad news for equities.
Ten day realized vol in the SPX has been compressed, which is evident by the tight consolidation over the last couple weeks. But the chart below shows over the last year that when 10 day realized vol has come off of depressed levels in the mid to high single digits, we have usually seen a move to at least 15:
So since my crystal ball is a bit hazy these days as far as picking direction, given the high levels of complacency, and impending catalysts, playing for near term movement could be one of the best plays on the board at the moment.
With the SPY very near $210, the May 1st weekly 210 straddle (the call premium plus the put premium) is offered at about $3 and seems fairly cheap given the fact that we have hundreds of companies yet to report earnings, Greece default fears and the April 29th FOMC meeting. If you bought the SPY May 1st weekly 210 straddle you would need a move below $207, or above $213 by next Friday’s close to make money. So that’s what the options market is pricing.
And there are more than one way to play when vol is this low and catalysts are around the corner. We’ll be discussing some in upcoming posts.