Category: Dr. Duke's Blog
Hits: 1146
Star InactiveStar InactiveStar InactiveStar InactiveStar Inactive

For the last several years, we have become accustomed to the market slowing and treading water as traders anticipate the upcoming FOMC meeting. But today is different. The Fed is meeting today and tomorrow, but no one is paying attention. All eyes are on the election next week and the latest scandals to erupt. My friends in Europe tell me that the everyone is glued to this Peyton Place saga (if you are old enough to remember Peyton Place).

Market behavior yesterday was unusual. Volatility rose, with the VIX moving over 17%, but the broad market averages were also rising most of the day - an unusual divergence. Normally we see volatility rise as the market declines. How should we interpret this anomaly?

Markets hate uncertainty, although options traders enjoy higher volatility, especially if you are selling premium. Many institutional traders are moving larger proportions of their portfolios to cash and are buying protection, as evidenced by the rising VIX. What should we lowly retail traders do? Personally, I am pursuing three lines of action:

1) A larger proportion of my accounts and client accounts are in cash. As profitable positions were closed, we didn't enter new positions.

2) I am selling weekly options in my more conservative accounts. As I close those positions this Friday, I will stay in cash until after the election.

3) I will be closing my November iron condors on the broad market indices if the spreads are less than two standard deviations out of the money.

I expect the market will be quite volatile after the election, but I think it will settle reasonably quickly. The model in my mind is the reaction to Brexit - surprise followed by the sentiment, "maybe the sky isn't falling after all".

As I write this article, the market futures are mildly positive, looking much like yesterday when the market stayed in positive territory most of the day, but then slowly lost ground to close unchanged. The sideways, choppy price action of the past several weeks may continue to be the norm as we move closer to this election. The sky isn't falling, but it may be quite stormy before it clears.