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[denleo]

Market Journal and Preparation for Monday, May5th

Nothing much has changed since my last update last Thursday. The market bounced around a bit, but couldn’t produce any progress neither up nor down. No reason to review daily indicators again – they are essentially in the same position. I don’t see an edge at the moment.

One area I can find an edge is the volatility. VIX closed below 13 on Friday. Also VVIX (volatility of volatility) is below 65. Meanwhile VIX futures are in a very steep contango. The current position of the VIX futures curve is normally a precursor to one of the two things: 1) Either VIX will start going up or 2) VXX will collapse. Overall market doesn’t need to move at all.

The best way to take advantage of this is to construct a long vega options strategy on SPX options, where other Greeks are neutralized. This can be accomplished by a ratio diagonal calendar spread. The most optimum spread for this is the following:

Sell 1 SPX June 06 Weekly 1875 Call
Buy 2 SPX June 27 Weekly 1925 Calls
Limit order at $3 Credit (based on Friday’s prices June 06 Weekly 1875 Call is at 25 and June 27 Weekly 1925 Call at 11+). 25 – (11 * 2) = 3. I don’t want to pay more than $3 for this spread.

My Greeks are as following:
Delta: 0
Gamma: 0.27 (it is nice to be long Gamma just in case)
Theta: -8 (basically nothing)
Vega: 250

Essentially I will be long VIX (vega) with this spread, but only for a couple of weeks, because greeks will be changing. A couple of weeks are enough. But now I have to hedge VIX. And that is where the futures steep contango comes in handy, because VIX options are priced to VIX futures, which created a situation where VIX options are deeply inverted (deeper than normal). For example I can by VIX May 15 Put for 0.90. Keep in mind that VIX is at 13. The reason those puts trade below the intrinsic value is because the May future is trading at around 15.

If I am able to get in the SPX spread for $3, I will immediately buy VIX May 15 Put.

Overall the probability of successful outcome of this trade is quite high, but even if it doesn’t work, the downside is very limited. The liquidity is enourmous.
Trades like this is what I mean by placing probabilities on my side.

Open Positions:

Long IBB
Short SMH
Long from 5.14 Ratio. Stop at daily close at 4.80 or lower.

Day Trading for Monday:

The only potential market moving economic report tomorrow is ISM non manufacturing at 10PM EST. The consensus is a reading of 54.0.

There are two things I am interested in tomorrow:

1. Wait out the first hour or so, and watch directional move (I think it will be directional, but I have no idea up or down). Then I will analyze how real it is, and if it is a trend day or not, then decide to trade spooz or VXX or any other ETF depending on their internals. I will update intraday if I see something worth trading.
2. We have seen a rather impressive underperformance of small caps vs. large caps over the last few weeks. Here is a daily chart of a ratio between IWM and SPY:

http://stockcharts.c...amp;a=340980827

I think it is overdone. Depending on the gap tomorrow, I will try to day trade this ratio. As in any market neutral trade, it has to be done in a dollar neutral way. I will look for opportunities to enter long IWM short SPY (or you can do it in futures, on in triple ETFs…) for a day trade.

Have a Profitable Day!!!