09/29/2015 09:07 am ET Updated Dec 06, 2017

Testy Tuesday -- Double Bottom or Look out Below?

This is not a pretty chart.  

Especially when you have these big, long, red lines heading down that are getting longer every day, which indicates that panic is growing and sellers are no longer waiting for a bounce to dump what's left of their holdings.  Nonetheless, we are playing for the bounce this morning (see our 7:29 Alert) as we tested some critical bounce lines in the Futures but we're not expecting much - just a bit of window-dressing in an attempt to save the quarter.

Should the window-dressers encounter heavy selling - it will be time for some new, aggressive downside plays (see yesterday's post for examples) because, as you can see from the Big Chart, the Russell and the NYSE have already broken below our August lows and the only reason the Dow seems to be holding up is that Nike (NKE) alone is responsible for 250 Dow points since the mini-crash.  

Subtract NKE from the Dow and we're at 15,750, right in line with the other indexes which is why we focused our attention this morning on the Nasdaq, which is dominated by Apple (AAPL), which is 15% of the index and rose from $95 back to $115 for a nice 21% gain which we then multiply by 15% to get 3.15% times the Nasdaq 4,554 is 143 Nasdaq points which would bring it down to 4,411 - right back to where we were also.  

Of course it's not fair to subtract ALL of NKE or AAPL but it gives you an idea of how distorted even our major indexes can be on the actions of a single stock, which tells you nothing about the overall health of the index.  What we can see, though, is that 788 more NYSE stocks made new lows than new highs yesterday and that's certainly not a healthy sign by any measure.  Keep in mind that 2,250 stocks made new lows on 8/14 so these 788 new lows are lower than that - now you get the picture, right?  

To put is simply, another down day today would add to the total and that would send an incredibly bearish signal that "THEY" certainly don't want coming into the last day of the 3rd quarter so stops will be pulled out to prevent it - at least until tomorrow and, as we noted yesterday - Yellen steps in to give us a big finish with a 2pm speech tomorrow - just to make sure we can at least fake the close!  

That's why I reiterated my long call on Silver (/SI) this morning as we already got a big boost from the Royal Bank of India, who cut their rates by half a point to a new 4-year low (6.5%) and that's the 4th cut this year.  Despite the boost, the RBI cut GDP growth forecasts from 7.6% to a still-respectable 7.4%.  

The Bank of Japan has also said they stand ready to throw more Yen on the fire and anything dovish that Yellen says is another way to weaken currency so no wonder we like silver long off that $14.50 line - you can't print silver!  The same can be said for gold (/YG) and we like that long as well at $1,125 but gold can drop lower so we went with silver, which has better support, though we'll be thrilled to do yet another Gold ETF (GLD) spread if we get a nice entry.  

Yesterday, in our Options Opportunity Portfolio, I called for a "Jenga Play" with the ultra-short Nasdaq ETF (SQQQ) so now would be a good time to explain that strategy, since it's also a great way for you to add a hedge that can give you better control over your portfolio in a choppy market.  Our first step, came on 9/18, where our trade idea was:

  • Buy 20 SQQQ Oct $23 calls for $1.90 ($3,800)
  • Sell 20 SQQQ Oct $27 calls for 0.85 ($1,700)
  • Sell 3 AAPL Jan $100 puts for $3.40 ($1,200)

That trade obligates us to buy 300 shares of Apple for $100 (12% off) in January but the $1,200 we collect for that promise offset the net $2,100 cost of the spread so we bought $8,000 worth of protection for just net $900 in cash.  

Because we sold the $27 calls and owned the $23 calls, the most we could collect on the spread was $400 per 100-unit contract for a maximum gain of $7,100, which would be a 788% gain on our cash outlay.  Since it's EXTREMELY unlikely that Apple would go down without taking the Nasdaq with it and paying off our ultra-shorts, we expect that, if we are forced to buy 300 shares of AAPL at $100 ($30,000) we'd have a bonus $7,100 to do it with, which would drop our net entry on AAPL to just $22,900 or $76.33 per share (33% off the current price).  When your "worst-case" sounds pretty good - that's a good hedge!  

What actually happened is the best case, where the Nasdaq fell but Apple didn't (not much) so we have a winner on both sides and the October $23 calls popped up to $4.85 as SQQQ topped $27 and, since we thought that was plenty for the run, we cashed 10 of the 20 calls, pulling $4,850 off the table (like a Jenga peg!) and leaving us with a now, more bullish 10 long/20 short spread which is now priced at net $200 while the short AAPL puts are $1,185 so net $3,860 if we cashed it in now for a $2,965 profit (329%).

Of course, we're not going to cash it in now - we simply flipped to a bullish trade because now we have more short calls than long calls and, of course, the short AAPL puts were always bullish.  How bullish?  Well, our 10 long calls are $4,800 and the 20 short calls are $4,600 and the short AAPL puts are $985, so a move up would be good for at least $785 PLUS whatever value remains on the long $23s, which are 100% in the money while the short $27s are only 0.77 ($1,540) in the money.

That's how quickly we can adjust from aggressively bearish in our portfolio to mildly bullish and we'll go right back to bearish again if our bounce lines don't hold (see yesterday's post and Morning Alert) and believe me, it's very empowering when you learn how to do this and you know EXACTLY what to do to rebalance your portfolio on the fly by making a single key move that shifts the balance.   

The weak bounce was a given as we never actually made it all the way to the Must Hold Line (it held!) so it will be the strong bounce line we need to see today to stay mildly bullish into the close but ANY failure of 4,080 and we're going to completely lose confidence in the Nasdaq 100 - even Apple!