Does Fed Have Anything Left to Stimulate Economy? 08-09-2010

Cusick’s Corner
With volume on the light side and no economic data released Monday, the major market indices sat around key resistance levels. Today’s option activity was focused on spread strategies, multi-legged positions that allow traders to position with defined risk and reward. Much of the day’s trading action was likely due to headline risk (take HPQ for example). We have two important pieces of data out tomorrow, Productivity and FOMC -- check if the Fed issues any guidance on the strength of the labor market, or makes a statement on potential deflation, plus if the Fed has any bullets left to try to stimulate the economy. See you Midday.

A very quiet day of trading finished on a positive note Monday. With no economic news to guide investors, the focus was on the day’s stock news. While McDonald’s (MCD) shares rallied and helped the Dow Jones Industrial Average after the fast food chain reported a 7.1 percent increase in July same store sales, Hewlett Packard (HPQ) was a drag on the industrial average after the computer maker lost its CEO amid sexual harassment allegations. Yet, HP was the exception. In fact, 25 Dow stocks moved higher and the industrial average added 35 points on the day. The NASDAQ gained 17.2.

Bullish Flow
Dollar Tree (DLTR) saw noteworthy options action Monday. Shares finished the session up 97 cents to $43 and the focus was on the November 40 put – November 45 call “risk-reversal”, as an investor apparently sold 4,700 of the puts at $1.30 to help pay for 4,700 of the calls at $1.60. This combo, at a 30-cent net debit, offers a pay off if shares rally above $45.30 through the November expiration. It also carries substantial risk if shares fall. This strategist seems to be making a statement that they are a willing buyer of the stock at $40 per share (plus the debit for the risk-reversal). If the stock is trading below that level through the expiration, the investor will be assigned the stock at that price (i.e. the strike price of the short put).

Bullish order flow was also seen in Bunge (BG), TIVO, and Verizon (VZ).

Bearish Flow
Hewlett Packard (HPQ) had a day of very heavy trading after the computer maker’s CEO stepped down amid sexual harassment allegations. Shares started falling in after hours when the news surfaced late Friday and finished Monday down 8 percent. Overall options volume surged, with 350,000 options traded in the name. Typical volume is about 17,000. The action included 193,000 calls and 157,000 puts. So, the overall flow wasn’t necessarily bearish. However, given the heavy volume, along with an 11 percent spike in implied volatility, the overall action was consistent with increasing anxiety because the future of executive management at H-P is now much less certain.

Bearish flow also picked up in AMD, Mylan Labs (MYL), and Walter Investment Management (WAC).

Index Trading
Overall volume in the index market was light Monday, but the CBOE Volatility Index (.VIX) saw a bit more volume than usual. The volatility index edged up .40 to 22.14 in cautious trading ahead of an interest rate announcement from the Federal Reserve tomorrow afternoon. In VIX options, the top trades of the day included a combination where an investor apparently bought 13,230 October 30 calls at $3.30 and sold 13,230 October 30 puts at $4.10. This combo creates a bearish position similar to holding a short position in VIX futures. About 184,000 VIX calls and 111,000 VIX puts traded total, or nearly double the recent average daily volume.

ETF Trading
Powershares DB Agricultural Fund (DBA) added 17 cents to $25.85 per share following a day of gains in wheat, corn and soybean futures Monday. Shares have now rallied nearly13 percent over the past two months and some players in the options market seem to be anticipating additional upside in the months ahead. Overall volume was 2.5X the average daily Monday, led by two blocks of January 30 calls totaling 8,500 (4,250 each). They traded at 20 and 25 cents when the bid-ask was 15 to 25 cents and appear to have been initiated by a bullish trader. A total of about 13,000 calls and 750 puts traded on Ag fund Monday.