In This Issue:

Dear Momentum Options Subscriber,

The bulls got their second-straight Monday win to start last week, despite another attempt by the bears to derail an end-of-summer rally.

Tuesday’s slight pullback made higher lows, and fresh support held, but Wednesday’s action and the trip to prior support levels were bearish. The bulls tried to right the ship after the Fed minutes were released, but the lower lows led to a survival Thursday.

Friday’s selloff was a sure sign that the summer of fun has ended, as the bulls were forced to go on defense.

The Dow plummeted 531 points, or 3.1%, to finish at 16,459. The blue-chips fell below the 16,800 level within the first hour of trading and took out 16,600 late in the afternoon. Short-term support is at 16,400, but a close below this level will likely lead to 16,200-16,000 and the October 2014 lows. Resistance is at 16,600.

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The S&P 500 dropped 65 points, or 3.2%, to end at 1,970. The index broke below the 2,000 level shortly after the open, which was a sure sign that 1,975-1,970 would come into play. The bulls held this level into the close, but there is risk to 1,950-1,900 on continued weakness. Near-term resistance is at 1,985-1,990, followed by 2,000.

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The Nasdaq tumbled 171 points, or 3.5%, to settle at 4,706. The tech index opened at 4,801 and tested 4,850 before ending at its session low. There is a good chance that the bears push 4,600 and the 2015 lows on continued weakness. There is major support at this level, but an overshoot to 4,500-4,400 can’t be ruled out. Resistance is at 4,750-4,800, but no rallies can be trusted until 4,900 and the 200-day moving average are cleared and held for a few sessions.

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The Russell 2000 stumbled 16 points, or 1.3%, to close at 1,156. The small-caps traded to an intraday low of 1,152, and I mentioned that 1,160-1,150 could come into play if 1,170 failed to hold. The one bright spot from Friday was the rebound into positive territory past 1,172 late in the afternoon. The fade into the closing bell held 1,150, with backup support at 1,140-1,125. A close below the latter will likely get 1,100 into play. Short-term resistance is at 1,175-1,180.

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The S&P 500 Volatility Index ($VIX, 28.03, up 8.89) exploded 45% after opening at 22.55. I warned of risk to 22.50-25 if 20 failed to hold from Thursday’s close at 19.14. The overshoot past these levels reached a peak of 28.38. The October 2014 high cleared 30 to reach 31.06, which are levels I would like to see hold this week. If not, the VIX could kiss 35-40. A close back below 25-22.50 would offer some relief, but the bulls need to work on getting the VIX back below 20.

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I often say that the longer the trading range, the bigger the breakout or breakdown will be. Although there were a few bullish signs to start last week, the clues for a bear attack came quickly.

The action in the VIX mid-week was very concerning, as the close above 15 was the first in 17 sessions. This was the most important clue that something nasty might be coming. The move above 20 on Friday also cleared the early-July high of 20.05 and led to additional selling pressure.

Of course, the talking heads who have ignored the VIX all year were flabbergasted and worried about the move above 20. I have mentioned numerous times over the years how the slick-talking pros have said that the VIX was broken, but that is simply not the case. I’m sure everyone is now in agreement that the VIX works when it is high, but, more importantly, the VIX works when it is in the low-teens as well. These knuckleheads just don’t follow it daily or as closely as I do.

I mentioned earlier the VIX’s trip past 30 last October and, while the picture looks ugly at the present moment, within two weeks the VIX was back below 15. I’m not so sure that the current scenario will play out the same way as last year, but I will be looking for a topping process in the VIX this week.

As a side note, traders were buying VIX call options up to the 50 strike level on Friday. I would be surprised, but not shocked, if the VIX taps that level.

The financial stocks took a beating, and that is the one sector I have repeatedly said needed to stay strong. The Financial Select SPDR (XLF, $23.64, down $0.88) closed at its session low on Friday, with backup support at $23.50 holding. The close below $24 was a bearish development, and there is further risk to $23-$22.75 and the February lows. Resistance is at $23.75-$24, followed by $24.25 and the 200-day moving average.

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Goldman Sachs (GS, $187.74, down $9.01) fell below $200 to start the week, but it traded past $203 on Tuesday. Wednesday’s range of $199-$202.75 and close above $200 left mixed clues before Thursday’s drop to $196.75. Shares opened at $193.66 on Friday, and I talked about going “short” if $195 failed to hold. From last Monday’s Pre-Market Update:

“Longer-term bearish traders could target the GS September 190 puts (GS150918P00190000, $1.35, down $0.20) on a drop or close below $195. If $210 holds as resistance on a rebound rally, these options will get cheaper, so traders could watch the GS September 195 puts (GS150918P00195000, $2.30, down $0.30) as well.”

Needless to say, these options did really well, as the GS September 190 puts (GS150918P00190000, $7.55, up $5.34) soared over 240% on Friday, while the GS September 195 puts (GS150918P00195000, $10.50, up $6.27) zoomed 148%.

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The financial stocks could continue to struggle until the Fed makes a move in September. While the debate on whether to raise rates continues, I have been in the camp of those who believe that a rate hike would be bullish for the market. The uncertainty of the Fed’s decision in September is probably weighing more on the market than China’s devaluation of its currency.

A rising-rate environment is not good for consumers, but a quarter-point rate hike is needed just to get the Fed out of the market’s way. Banks make more money in a higher-rate environment, but the effect of a rate hike worries Wall Street.

There is talk that the Fed has boxed itself into a corner, as some believe that they should have already raised rates. With the market already in correction mode, the Fed can’t use the excuse not to raise rates to keep the market propped up. However, there is also talk of a recession coming, and the Fed doesn’t want to raise rates only to lower them again. In my opinion, the Fed should pull the Band-Aid off and see what happens.

The Consumer Discretionary SPDR (XLY, $74.36, down $2.46), which is an index I like to check from time to time, held its 200-day moving average last week. The stocks that make up the XLY include companies that make consumer products like food, beverages, drugs, tobacco, household products and personal products. If the index is trending higher, the market usually follows, as it reflects the strength of the economy. There is additional risk to $70-$68 if the bulls can’t hold $72 this week. A rebound back above $76-$77 would be a slightly bullish signal that the worst is over.

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The American Association of Individual Investors (AAII) Investor Sentiment Survey showed that bearish sentiment has reached 33.3%. Bullish sentiment is down to 26.8%, while neutral sentiment is at 39.8%. These sentiment readings show where investors believe the market will be during  the next six months. With bearish sentiment at a two-year high, this could be telling us something.

I don’t follow this survey often, but I like to check on the information occasionally, as it can be viewed from a contrarian standpoint. Historically, bullish sentiment has averaged 38.8% over the life of the AAII survey, while bearish sentiment has averaged 30.6%. Neutral sentiment has averaged 30.5%. Given the current readings, a bottoming process could be playing out.

For those of you that have followed me for years, you know that I have been one of the bulls’ biggest cheerleaders for the past three years, which is one reason why I haven’t bailed on them this year. However, I love making money with the bears, as my track record shows, so do not panic if the next few months get even crazier.

I find myself in this predicament every year, as I often say that the best money is made when Wall Street is away. The summer grind was worth the journey, as we locked in a number of winning trades. Wall Street will be away on vacation for another week, but the market continues to give us incredible clues about where the action is headed. We just need to remain patient.

It is rare that I get trapped by the market, but I took two bullish positions early last Monday and bet on a rebound and another up-Monday. On Wednesday, I took a bullish and a bearish trade to hedge some of the downside risk. Due to some technical difficulties, I didn’t recommend any new positions on Friday, but we did close a few trades in the Mid-Market Update.

The two trades we closed on Friday ended an incredible summer run since mid-June that saw us book 17 wins and a tie on 18 trades. There were some positions closed before the mid-June run-up until last week, but, overall, we are still hitting on three out of four trades for the year.

There is still some damage control to do in the portfolio, but we can save some premium, and we will be in good shape for our next round of trades. This process should take this week and next, but put options have become super expensive. We will have to be very selective, as investors and Wall Street are buying put protection at ridiculous levels.

I wanted to leave a few call options open in case there is a rebound in September, and we have an open put position that could cover some of the losses on the calls. I mentioned last week that the market was on pins and needles, but we should be able to find some really good value plays during the next few weeks.

I will likely use longer-term options that expire in October, November or December, depending on the clues we get, so stay patient. For new subscribers, feel free to check out the Closed Portfolio from past years and the incredible profits we made during the last major correction. I’m not sure if the current action will continue to stay as bearish or mirror the declines from 2008, but, if it does, there will be plenty of money to be made.

From desk to press, futures look like this: Dow (-651); S&P 500 (-73); Nasdaq 100 (-208); Russell (-41).

Momentum Options Play List

Closed Momentum Options Trades for 2015: 82-28-2 (73%). All trades are dated and time stamped so new subscribers can look at the past history to see how the trades have played out.

Do not risk more than 5% of your trading account on any one trade but do try to take all of the trades. Please remember, all “Exit Targets” and “Stop Targets” are targets. You should not have any “Hard Stops” entered to close any trades or “Exit Orders” in your brokerage account unless I list one. I will send out a “Profit Alert” or “New Trade” if I want you to close a position or if a new trade comes out. Otherwise, follow instructions at all times in the 9 a.m. and 12 p.m. – 1 p.m. updates. Also, I will usually give you a heads-up if I think I’m going to send an email outside of these time frames.

All prices given in this update are current as of 8:00 a.m. EST.

I hereby disclose that I will be participating in the following trade(s). Every Momentum Options recommendation is listed with the price at which I entered my own position. If the price is slightly different than my recommended entry or exit price when you receive the alert, don’t let that keep you from getting into or out of a trade. Occasionally, you might even get a better “fill” price than what is posted in the portfolio.

 

Krispy Kreme Doughnuts (KKD, $17.30, down $0.26)

KKD November 17 puts (KKD151120P00017000, $1.20, up $0.05)

Entry Price: $0.95 (8/19/2015)

Exit Target: $1.90

Return: 26%

Stop Target: $1.00 (Stop Limit)

Action: Set a Stop Limit at $1.00 to protect profits.

Shares traded to a low of $16.99 on Friday, with the puts trading up to $1.30. Support is at $17.25-$17. The 52-week low is at $16.41. Resistance is at $17.50-$17.75.

The company is scheduled to report earnings on Sept. 9, after the close.

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iShares Russell 2000 (IWM, $115.01, down $1.38)

IWM September 123 calls (IWM150918C00123000, $0.31, up $0.03)

Entry Price: $0.78 (8/19/2015)

Exit Target: $1.60

Return: -60%

Stop Target: None

Action: Support at $115 held into the weekend following Friday’s drop to $114.37. The options closed the session higher after trading down to $0.19. A close below $114-$113.50 will likely force us out of the trade. Resistance is at $116-$117.50.

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Bank of America (BAC, $16.10, down $0.62)

BAC September 18 calls (BAC150918C00018000, $0.05, down $0.04)

Entry Price: $0.28 (8/17/2015)

Exit Target: $0.60-$0.90

Return: -82%

Stop Target: None

Action: Support is at $16 following Friday’s close on the low. Resistance is at $16.50-$16.75. These were “cheap” options on BAC for a run past $18. They still have a month before expiration, and the premium is down to a nickel. The trade will likely be a loser, but I’m placing the BAC September 18 calls on hold in case a rebound happens next month. It will appear in the “Trades on Hold” section of subsequent updates.

You can read my full write-up on BAC in Monday’s Pre-Market Update.

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JPMorgan Chase (JPM, $63.60, down $2.34)

JPM September 70 calls (JPM150918C00070000, $0.16, down $0.14)

Entry Price: $0.80 (8/10/2015)

Exit Target: $1.60

Return: -80%

Stop Target: None

Action: Support is at $63-$62.50 and the 200-day moving average. A close below this level will likely force us out of the trade. Resistance is at $65-$66.

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Trades on Hold — other 2015 Portfolio Open positions (1): These are trades that are still open in the portfolio but are down over 50%. They have longer expiration dates and are on “hold” but are not worth mentioning until they turn around. This means I would not open any new positions. I’m still keeping track of the trades and will record the results accordingly when the trade closes or if the options expire. Click on the Open Trades and Closed Trades pages to see all open and closed positions.

Rigel Pharmaceuticals (RIGL) September 5 calls (from 6/4/15) — If shares can’t recover $3.00-$3.25 by Friday, I will likely close the trade — Continue to hold.

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Trade on!

Rick Rouse
Editor and Chief Options Strategist
Momentum Options