*****Too Much of Good Thing
*****I love the Friday rally.
When there’s a lot of uncertainty in the financial markets, traders don’t like to hold positions over the weekend. Too much can happen that might lead to losses. So when traders are willing to hold over the weekend and even take positions on a Friday, it’s cause for some optimism.
On Sunday, the bullish crowd saw the reward for their optimism. China announced a $586 billion stimulus program. China’s government will be spending on domestic initiatives like roads, airports and environmental protection. There will also be tax breaks for exporters and farmers.
The goal of the stimulus plan is to boost domestic demand. And there’s no doubt that China is a key player in the global recession. We’ll see how much impact China’s stimulus plan will have, but it’s good to see countries other than the U.S. opening the cash spigots to accelerate growth.
*****Of course, it should be noted that too much of a good thing is a bad thing. In this case, too much stimulus is inflationary. And if loose monetary policy is left in place too long, asset bubbles result. That was Greenspan’s major mistake – he left interest rates too low for too long.
Hopefully, Fed Chief Bernanke learned from his predecessors mistakes. Bernanke has already shown that he can be more creative than Greenspan. In addition to interest rates, Bernanke has made the Fed the "buyer of last resort" for commercial bonds.
But he’ll need to show that he’s willing to raise interest rates when the U.S economy turns around.
*****According to Bloomberg, a solid rally to the end of the year is expected. Bloomberg keeps track of what Wall Street’s market strategists are forecasting. Apparently, the average estimate for the S&P 500 on December 31 is 1,118. That’s 20% higher than Friday’s close of 930.
1,118 is a far cry from the 1,632 strategists were expecting from the S&P at the beginning of 2008.
These estimates are based on the perception that stocks are cheap in relation to earnings. The S&P 500 trades at 10 times next year’s estimates. Over the last 10 years, the S&P has traded at an average P/E of 21.
So even with their higher expectations, strategists aren’t expecting a return to historical norms in the next month and a half. They’re accounting for some lower earnings expectations and economic uncertainty.
As you know, I’ve been sounding the warning the bell about lower earnings going forward. But I have to say, I am encouraged by what these strategists are saying.
*****While Daily Profit is intended be a forum for discussing macroeconomic issues, like earnings, inflation or the credit squeeze, we’ve also gotten into much more specific investment discussions.
Over the weekend, I went through past Daily Profit issues to see how my take on specific investments has fared.
On October 27th, I answered a reader question about Ford (NYSE:F) and GM (NYSE:GM). You may recall I said they were way too risky for me. GM is down 15% since and Ford is flat.
In that issue, I also mentioned Verizon (NYSE:VZ) as a good stock to own. It’s up 11%.
On October 28th, I said I didn’t like the prospects for GTC Biotherapeutics (Nasdaq:GTCB). It’s down 32% since.
I also said Emergent Biosciences (NYSE:EBS) was one of my favorite biotechs. Emergent is up 31% since.
Emergent has also been a favorite of Benson George, the trading strategist for TradeMaster Daily Stock Alerts. He’s recommended two trades on Emergent in the last months or so. Both positions were sold for gains of 17% and 15%.
Finally on October 29th, I said I didn’t like MGM-Mirage (NYSE:MGM) or Las Vegas Sands (NYSE:LVS) as U.S. heads into recession. MGM is down slightly, but Las Vegas Sands is down 17%.
I’ve given the MLPs that appear in the Special Report I’ve offered Daily Profit readers a cursory review. Flat, to slightly up, is my official finding. But remember, these stocks are more for the income. So as long as the dividends remain stable, these are winners.
*****Also, I was reviewing the options trade idea I included in Friday’s Daily Profit. I realized I left out the put option symbol I was buying. For clarity’s sake, I’m going to reprint the trade explanation, with the put option symbol included in bold…
And that brings me to a trade idea – sell out of the money put options on Wal-Mart and use the proceeds to buy put options on the S&P Retail SPDR (NYSE:XRT). The idea behind such a trade is that Wal-Mart should remain fairly stable, but other retailers will head lower.
Selling puts on Wal-Mart means that if Wal-Mart falls below the strike price of the option, I would have to buy Wal-Mart. Buying puts on XRT means that I would profit from more downside in retail.
I’m going to go ahead and establish the parameters for this trade so we can track it and see how it does.
Wal-Mart bottomed at $50 during the October sell-off. We would most likely be safe selling the January 50 puts. But to be on the safe side, let’s use the January 47.50 put option, symbol WMTMW. That option contract is selling for $275. So we generate $275 for each contract sold.
We can buy the March 19 XRT put option, symbol XRYOS, for $255 per contract.
If Wal-Mart falls below $47.50 by January 16, I’ll have to buy 100 shares of the stock for each put option I sold. But if Wal-Mart falls, other retailers will fall too. That means the proceeds from the XRT put options that I bought will help offset the expense of the Wal-Mart stock purchase.
Considering transaction fees, I’ll assume I’m in this trade with a cost basis of zero.