Bond & Equity Markets Realigning 09-27-2010

Cusick's Corner
The market sold off into the close, realigning the Bond and Equity markets today. In previous months this situation held true, “as Bond yields go, so does the market” only to be decoupled this month up until today. The 10 year pulled back hard today, and into the last half hour of trading, the market looks to have taken notice and pulled back support, ESZ10 1137. Watch to see if this is broached as we get closer to end of the month. See you Midday.

Stocks faced a bit of selling pressure late in the day and the major averages finished near session lows Monday. With no economic data to guide the action, the early attention was on another round of merger and acquisition activity. Southwest (LUV) made a bid for Air Tran (AAI), Unilever (UL) made an offer for Albert Culver (ACV) and Walmart (WMT) moved to buy South Africa's Massmart. The news didn't seem to have much market impact, however, as the Dow Jones Industrial Average was modestly lower into midday. Trading was rangebound until the final hour. Then, a wave of selling hit and sent the Dow down 48 points on the day. The industrial average traded in a narrow 63-point range and finished two points off its worse levels ahead of home price and consumer confidence data Tuesday morning.

Bullish Flow
Bullish trading was seen in a number of airlines Monday. The sector saw notable strength after Southwest Airlines made a bid for Air Tran. US Airways (LCC), for example, gained 30 cents to $9.29 and options volume rose to 7X the average daily. Approximately 37,000 calls and 2,240 puts traded on the airline. November 10 calls were the most actives and the action included a buyer of 18,300 at 65 cents per contract. At the end of the day, 20,375 traded hands, as some investors seem to now be looking for LCC to move beyond $10 by the November expiration.

Bullish options action was also seen in AMR, Dryships (DRYS), Green Mountain Coffee Roasters (GMCR).

Bearish Flow
Put activity picked up in Procter & Gamble (PG). Shares lost 60 cents to $61.04 and were one of twenty-four Dow stocks to finish with losses Monday. Meanwhile, in the options, about 20,000 puts and 8,000 calls traded on the ticker. The top trade was a block of 4,000 January 2012 puts at the 45 strike. It was part of a ratio spread, in which the investor sold 2,000 of the January (2012) 60 puts at $6 to buy 4,000 of the 45s at $1.80. This ratio backspread was initiated at a $2.40 credit, which the strategist keeps if shares hold above $60 through the January 2012 expiration. However, substantial profits are also possible if PG plunges between now and then.

Bearish flow also picked up in Northern Trust (NTRS), Monsanto (MON), and UBS.

Index Trading
Trading was very slow in the index pits Monday, with 314,000 calls and 413,000 puts traded across the S&P 500 Index (.SPX) and other cash indexes. The total volume of 727,000 is only about 68 percent the recent average daily, according to data from Trade Alert. With only three trading days left until the end of September, portfolio managers are probably reluctant to buy index puts for fear of hurting the quarter performance numbers. The cost of premium would negatively affect results if the stock market ends the quarter on a strong note. Basically, there seems to be little interest in put buying after the strong month of September for the equity market. Of course, that will likely change if we begin to see an increase in market volatility. The CBOE Volatility Index (.VIX) gained .83 to 22.54, indicating a modest increase in expected volatility Monday.

ETF Trading
Market Vector Gold Miner ETF (GDX) is an exchange-traded fund that holds shares of mining companies like Newmont Mining (NEM) and Barrick Gold (GLD). Shares finished Monday's session off 33 cents to $55.34 on a slow day of trading for gold. The yellow metal lost $1.3 to $1,295 an ounce. Yet, gold remains not far from record highs and one bullish strategist seems to be looking for a sustainable rally in the gold miners. In morning trading Monday, this strategist apparently bought 15,000 GDX December 56 calls at $2.83, sold 15,000 GDX December 60 calls at $1.30 and sold 15,000 December 62 calls at 85 cents. This three-way spread is similar to a ratio spread (buying 1 and selling 2), but has three different strike prices. The maximum pay-off is at the middle strike, or if GDX settles at $60 per share at the December expiration.