Market Direction this morning has dropped the S&P 500 all the way back to support at 1600. This brings the S&P 500 back to the “line in the sand” which I have discussed numerous times. For Put Selling, I simply have the support levels shown on my daily charts. As long as 1600 holds I keep Put Selling closer to At The Money on my big cap stocks for exceptional returns thanks to higher volatility in the overall market. If 1600 breaks for market direction as it did last week here are the steps I take:
Put Selling Rules For Market Direction At Present Level
- I close those naked puts that are profitable
- I roll down those that cannot be closed for profits
- I make sure when I roll down that I do not go out further than 2 months and always for a profit
- Often I roll down in the same month being held but add additional naked puts to make sure the roll down is done with a net credit
Market Direction Outlook For 1600
If we look at the 3 month daily S&P 500 market direction chart you can see the importance of the 1600 for Put Selling and for the market direction in general.
A. In April 1600 was always resistance to the market direction moving higher. At this time I was Put Selling at the money, in the money on some big caps like JNJ Stock and slightly out of the money.
B. After 1600 was broken through as the market direction moved still higher, 1600 became “soft support”. You can see looking at momentum that the market direction move higher after April and into May had lots of strength. Since May 24 though that momentum strength has declined considerably and in June it has been almost all negative. Support at point B held early in June. The market direction then tried to push higher and failed. A lot of the failure for the market direction to keep pushing higher was due to revenue that was lower than anticipated among 68% of the S&P 500 companies but in large part due to the Fed Chairman’s comments about scaling back Quantitative Easing.
C. The recent break of the 1600 level for market direction sent the S&P 500 down to the 100 period moving average. A 3 day rally was staged back from that level which regained the 1600 level. Now the fight for market direction is whether it can build stronger support at 1600.
D. Again you can see how limited support is at 1600 for market direction to push higher. We need a lot more support. This means more challenges to 1600 for the market direction which also means high volatility and better Put Selling opportunities for those willing to risk assignment of shares. Stock selection becomes very important at this level as I believe in staying with diversified large cap stocks that have a proven track record of holding up well when the market direction is shaky at best.
E. This morning the market direction fell back to 1600 and then bounced off of that level. All eyes should be watching 1600. It is incredibly weak support as you can see in the chart below. There is just not a lot of support from investors at that level who back in April were busy taking profits constantly whenever the S&P 500 market direction pushed up to 1600. Momentum though is still negative, even with the past 3 day rally which accounts for much of my cautionary outlook for stocks right now. We must see a lot more support for 1600 to assume it will hold through the summer months to make sure that puts being sold do not end up being assigned. This is why I have reduced the number of put contracts I am selling. I want to see clear evidence that 1600 will become solid support and the market direction can move higher which will support my Put Selling at present levels. Caution is definitely warranted.
Fed Comments and Corporate Revenue Growth
Both the Fed comments and the Revenue growth are somewhat at odds with each other. Revenue growth in the last quarter showed very little strength and in many ways indicated that the economy could be slowing. The Fed sees stronger employment numbers and housing starts as signs of a growing economy and a chance to reduce the liquidity tap to the markets. Only one of them will be right – revenue growth or economic growth.
Normally economic growth runs hand-in-hand with revenue growth but at present the Fed seems to feel the last quarter revenue growth was an anomaly and the next quarter will reflect their outlook of renewed strength and better GDP.
Investors who always fear everything, are worried they may miss out on the next big rally for stocks and at the same time they remain painfully aware of what happens when you purchase stocks at valuations that in the end prove to be too high for the revenue growth to actually sustain higher valuations.
Key To A Higher Market Direction Is Revenue Growth
In the end the key to higher market direction is revenue growth among corporations. The companies within the S&P 500 have curtailed spending, cut back on salaries and basically slashed wherever they could to remain profitable. That won’t work going forward for most companies. Revenue must expand for the Profit To Earnings multiples to sustain higher prices.
Market Direction and 1600
The waffling at 1600 by investors is very understandable not only because of the Fed comments about reducing Quantitative Easing but also because it marks overvaluation of many stocks. Until we see solid evidence of growth in revenue I believe 1600 will continue to pose a problem for stocks.
Market Direction, Put Selling and Volatility
But this waffling is exactly what I need to grow my portfolio. The higher volatility is all that is needed to keep option premiums higher. In particular put options are continually being adjusted by the market makers to reflect their ongoing concern about the potential for a sell-off. Therefore by taking on smaller positions through Put Selling out of the money I am still earning very good returns but due to the higher premiums, I do not need to sell as many put options to keep growing my portfolio. Through in the odd Spy Put Options trade and Trading For Pennies Trade and there is excellent potential for high returns in the present environment.
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