It is really amazing that as big as the United States’ economy is, everything may now simply be part of a very delicate balancing act.
“Momentum” is a simple concept in classical mechanics and is generally expressed as the product of the mass of an object and its velocity.
The term “momentum” is often used when describing stocks, but many described as having momentum can be easily pushed off their track.
Another simple concept and part of classical physics, is that of “inertia.” Inertia is the resistance of any physical object to any change in its state of motion.
When a “momentum stock” has a relatively low market capitalization it isn’t too hard for resistance to match and overcome that momentum.
Greed and fear may play roles, too, in such cases, but those aren’t terms that Isaac Newton used very often.
The US economy may often move at what seems like a glacial speed, but its easy to overlook how difficult it is to alter its path due to its huge size.
That’s what makes the job of the FOMC so difficult.
Outcomes resulting from their actions may take a long, long time to become obvious. Sometimes the FOMC acts to increase momentum and sometimes they have to act to increase resistance.
Stock market investors prefer the former, but history suggests that the early stages of the latter may be a great time for optimism.
While both momentum and inertia may be simple concepts, when considered together that’s not so much the case. Fortunately for the FOMC, the “Irresistible Force Paradox” suggests that there can be no such thing as an unstoppable object or an irresistible force.
Something has to give over the course of time.
While I’m no apologist for the George Bush presidency, the seeds for the beginning of an improvement in the economy often cited as beginning in about February 2009 could only have been sown much earlier. Similarly the economic stress in early 2001 could only have had its roots quite a bit earlier. However, our minds make temporal associations and credit or blame is often laid at the feet of the one lucky or unlucky enough to be in charge at the time something becomes obvious.
We’re now facing two delicate balances.
The first is the one continually faced by the FOMC, but that has been on most everyone’s mind ever since Janet Yellen became Chairman of the Federal Reserve.
The balance between managing inflation and not stifling economic growth has certainly been on the minds of investors. Cursed by that habit of making temporal associations, the small interest rate hike at the end of 2015, which was feared by many, could be pointed to as having set the stage for the market’s 2016 correction.
That leaves the FOMC to ponder its next step.
While stressing that its decisions are “data driven” they can’t be completely dismissive of events around them, just as they briefly made mention of some global economic instability a few months ago, widely believed to have been related to China.
This past week’s GDP sent mixed messages regarding the critical role of the consumer, even as the previous week showed an increase in the Consumer Price Index. Whether rising health care costs or rising rents, which were at the core of the Consumer Price Index increase could hardly be interpreted as representing consumer participation, the thought that comes to mind is that if you’re a hammer everything looks like a nail.
The FOMC has to balance the data and its meaning with whatever biases each voting member may have. At the same time investors have to balance their fear of rising rates with the realization that could be reflecting an economy poised to grow and perhaps to do so in an orderly way.
But there’s another delicate balance at hand.
While we’ve all been watching how oil prices have whipsawed the stock market, there’s been the disconnect between lower oil prices borne out of excess supply and stock market health.
For those pleased to see energy prices moving higher because the market has gone in the same direction, there has to be a realization that there will be a point that what is perceived as good news will finally be recognized as being something else.
It’s hard to imagine that a continuing rise in oil will continue to be received as something positive by investors. Hopefully, though, that realization will be slow in coming. Otherwise, we face having had the worst of all worlds. Stocks declining as oil declined and then stocks declining as oil moves higher.
Now that JP Morgan Chase (JPM) has let everyone know just how on the hook it may be on its oil loan portfolio, it’s becoming more and more clear why the market is following in the same direction as oil has gone.
If the price of oil goes too low there may be drains on the banking system if there are defaults on those loans. We could again be hearing the phrase “too big to fail,” although this time instead of over-leveraged individuals losing their homes, all of the beneficiaries from the US oil boom could be at risk.
Of course, if oil goes too high and does so without being fundamentally driven, it can put a damper on a consumer driven economy that isn’t looking very robust to start.
We’re just 3 weeks away from the next FOMC Statement release and Chairman Yellen’s press conference may tip some balances. For much of the past two weeks the stock market has been celebrating higher oil and data suggesting no immediately forthcoming interest rate increase.
Of course, the FOMC may have its own irresistible force at play, perhaps explaining the earlier interest rate hike which didn’t seem to be supported by economic data. That force may be. a pre-determined intention to see rates rise
The market is of the belief that oil price momentum higher won’t meet its match in the negating force of increased interest rates, but one person may hold the balance in her hands.
As usual, the week’s potential stock selections are classified as being in the Traditional, Double Dip Dividend, Momentum or “PEE” categories.
Speaking of momentum and being easily thrown of track, Cypress Semiconductor (CY) comes to mind.
It trades at a high beta and is prone to volatile moves in either direction. It’s most recent direction has been lower, after having spiked sharply higher on news of its proposed buyout of another company.
When they were stranded at the alter by another suitor shares started a sharp descent from which it may finally be ready to emerge.
With a market capitalization of less than $3 billion it was easily knocked off track, but could just as easily get back on.
With an ex-dividend date in the April 2016 option cycle and with earnings in the May 2016 option cycle, I’m likely to add shares this coming week and will probably sell the April 2016 options while doing so.
I do have some concern about the company being able to continue its dividend, but IU don’t imagine that most who are invested in Cypress Semiconductor are doing it for the dividend, so I don’t believe that would represent significant downside pressure.
While February’s nice turnaround has left the S&P 500 significantly less in the hole for 2016. the financial sector has been continuing to have a difficult time as expectations for rising interest rates have proved premature.
American International Group (AIG) is near a 52 week low, but it hasn’t been the worst of that group even as it approaches a 20% correction for 2016.
What the downward pressure in the financial sector has brought has been enhanced option premiums. With a now respectable dividend as part of the equation and an ex-dividend the following week, I would consider selling something other than a weekly option
Abercrombie and Fitch (ANF) is on a roll of late and has earnings announced this week. It has a habit of being explosive when it does announce earnings and also has a habit of quickly giving back gains from news perceived as being positive. However, it has not given back the gains since its gap higher in November 2015.
What may make consideration of Abercrombie interesting this week is that it is also ex-dividend on the same day as earnings are announced.
While I normally consider the sale of puts before or after earnings, the combination of earnings, an ex-dividend date and a 13.3% implied price move has me thinking a bit differently.
I’m thinking of buying shares and then selling deep in the money calls.
Based on Friday’s closing price of $28.50, the sale of a weekly $25 strike call option at a premium of $4 would result in an ROI of 1.8% if assigned early in order to capture the dividend.
Since the ex-dividend date is March 2nd, that early assignment would have to come on Tuesday, March 1st and would preclude earnings exposure.
If, however, early assignment does not occur, the potential ROI for a full week of holding could be 2.5%, but with earnings risk. The $25 strike price is within the lower boundary implied by the option market, so one has to be prepared for a price move that may require further action.
Weyerhauser (WY) is also ex-dividend this week and its 2016 YTD loss is nearly 15%. The consensus among analysts, who are so often very late to react to good or bad news, are solidly bullish on shares at these levels.
With its merger with Plum Creek Timber now complete, many expect significant cost savings and operational synergies.
It’s dividend isn’t quite as high and its payout ratio is almost half that of Cypress Semiconductor, but still far too high to be sustained. REIT or no REIT, paying out more than 100% of your earnings may feel good for a while if you’re on the receiving end, but is only a formula for Ponzi schemers of “The Producers.”
For now, that doesn’t concern me, but with an eye toward the upcoming ex-dividend date, which is on a Friday, I would consider selling an extended weekly option and then wouldn’t mind terribly if the options were exercised early.
Finally, I’m not one to be very interested in getting in on a stock following a climb higher, nor am I one to spend too much time reading charts.
But Coach (COH) which is ex-dividend this week gives me some reason to be interested.
A one-time favorite of mine either right before an ex-dividend date or following a large earnings related price decline, I’ve been holding onto an uncovered lot of shares for quite some time. Only the dividend has made it tolerable.
Ordinarily, I wouldn’t be terribly interested in considering adding shares of Coach following a 16% climb in the past month. However, shares are now making their second run at resistance and there is an 11% gap higher if it can successfully test that resistance.
It has been a prolonged drought for Coach as it was completely made irrelevant by Kors (KORS) for quite some time. During that time Kors had momentum and was also perceived as the force to stop Coach.
Time and tastes can change lots of things. That’s another delicate balance and for now, the balance seems to be back on the side of Coach.
Traditional Stocks: American International Group
Momentum Stocks: Cypress Semiconductor
Double-Dip Dividend: Coach (3/2 $0.34), Weyerhauser (3/4 $0.31)
Premiums Enhanced by Earnings: Abercrombie and Fitch (3/2 AM)
Remember, these are just guidelines for the coming week. The above selections may become actionable — most often coupling a share purchase with call option sales or the sale of covered put contracts — in adjustment to and consideration of market movements. The overriding objective is to create a healthy income stream for the week, with reduction of trading risk.
