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This is the time of year when we begin to see a myriad of articles about the year in perspective. Let me start the wave with some observations about the 2016 settlement prices for the Standard and Poors 500 Index, SPX. As you may know, the last time one may trade SPX options is on the Thursday of expiration week. But SPX options do not settle at the closing prices on Thursday or Friday of expiration week. A special settlement price is determined on Friday morning, based on the opening price of each of the 500 companies that make up the index. I have been keeping a spreadsheet of the settlement prices for the Russell 2000 Index and the Standard and Poors 500 Index since 2006. You may download a copy of the spreadsheet in the free downloads section of my website.

Why would I keep updating this spreadsheet every month for eleven years? I have been trading iron condor spreads on the broad market indices since 2004. One of the reoccurring questions facing me over these years has been: Is it safe to allow these options to enter expiration and expire worthless, or should I close them now? As an empirical attempt to answer this question, I started keeping this spreadsheet, comparing the closing price on Thursday of expiration week with the settlement price determined sometime on Friday (usually by noon for SPX, but a couple hours after Friday's close for Russell). A key question for index option traders on Thursday of expiration week is how far might the index move between Thursday's close and settlement on Friday? The average of the difference between Thursday's close and the settlement price is $8.09 for SPX over the eleven years of 2006 through 2016. The range of movement is from a low of $3.68 in 2013 to a high of $14.82 in 2008. The third highest average occurred this year at $10.01. So it wasn't just your imagination, it was a volatile year in the markets. Therefore, the empirical answer is pretty simple. If your short SPX option is less than ten dollars from expiring in the money on Thursday of expiration week, you would be well advised to close it while you can on Thursday. By the way, if you repeat this calculation summary with percentages to account for the growth of the indices, the highest and lowest years don't change, but 2016 is closer to the eleven year average.

Of course, that answer of ten dollars as a guideline is a very rough approximation. The most accurate method would be to compute the standard deviation of the option expiring in the money. Higher values of implied volatility lead to larger values of the standard deviation and therefore higher probabilities of the index moving far enough between Thursday's close and settlement to result in your short option being in the money. Let's look at a couple of examples from this year. The low volatility example is from December expiration. SPX closed at $2262 on Thursday, 12/15 and the volatility index (VIX) for SPX was 12.8%. The standard deviation for one day's price move may be computed as $15. The probability of having less than a two standard deviation move is about 95%. Therefore, if our option's strike price was over $30 out of the money, we had a 95% probability of the option remaining out of the money at settlement. January expiration came during the correction this year, so volatility was much higher. On the Thursday before January expiration (1/14), SPX closed at $1922 and VIX was 23.95%. This results in an one-day standard deviation of $24. In January our option's strike price would have to be at least $48 out of the money to allow it to enter expiration with a 95% probability of expiring worthless.

This illustrates why I formulated my "Two Sigma Rule" for closing index spreads in advance of expiration. On the Friday before expiration week, I calculate one standard deviation (one sigma). If the short option of either of my spreads is less than two sigma out of the money, I close the spread. Consequently, I have never been surprised by a short option expiring in the money at expiration. If you choose to carry your index option position to the Thursday of expiration week, the ten dollar guideline is a "quick and dirty" approximation, but calculating the standard deviation and using the Two Sigma Rule would be safer.

After posting an impressive bull run after the election, the markets pulled back this week, prompting traders to wonder whether the run was over. Some analysts are arguing that the prospects of an interest rate hike are applying the brakes to this rally. I am more inclined to think we are looking at a simple case of profit taking.

If we back up a moment and look at the overall market for 2016, this has been a tough year for traders of all stripes to make money. SPX had only gained a little over two percent when we hit that low on November 4th. That isn’t a very pretty picture to present to your institutional clients. However, when the market hit that high on November 25th, the year to date gain was suddenly a much more respectable 8.6%. Maybe it’s time to lock in some gains. The large players were predictably nervous and ready to take profits the minute any softness appeared. The trading volume in SPX supports this viewpoint. The two strongest down days this week were Wednesday and Thursday, and trading volume spiked way above average both days. Anecdotal evidence comes from individual stocks. Some of the best recent stock runs abruptly ended this week for no apparent reason, e.g., NVDA, VMW, VEEV and others. Traders were locking in profits before they got away.

The prospects of lower corporate tax rates and a more business friendly administration has fueled this recent market run higher. But now the market is taking a bit of a breather. I think this is principally profit taking, so I don’t expect prices to trend lower from here. However, that doesn’t mean we can ignore the relatively weak economic data and modest levels of corporate profitability reported most recently. By most measures, this market is at least fully priced and may be nearing an overbought stage.

But we shouldn’t forget the calendar. The so-called Santa Claus rally during the last week of the year is thought to be triggered by large funds unloading losers for tax purposes. This may lower the prices of some attractive stocks that are quickly bought up, resulting in a short-lived rally. The Stock Traders Almanac has noted the historical pattern of small cap stocks outperforming the large caps in January and terms this the “January Effect”. This effect tends to begin around mid-December and lasts well into February.

Therefore, we are entering a time of the year that tends to be bullish, whatever the explanation. I will be watching the market on Monday to see if today’s modest gains signaled the continuation of a sideways to slightly bullish market. The strong run of late November couldn’t continue to the moon, but I don’t see any evidence of the bears taking charge of this market.

The S&P 500 Index (SPX) closed today at $2205, up two points. But a glance at the price chart is rather shocking. SPX has rocketed higher since November 4th, up $120 or 5.8%. This incredible run has occurred over 13 trading sessions or less than three weeks! By contrast, S&P 500 was up less than 3% over all of 2015, and that was only if you included the stock dividends.

Let's take a look at the small cap stocks, as represented by the Russell 2000 Index (RUT). These are the high beta stocks that move faster than the blue chips, whether the overall market is trading higher or lower. These are the classic "risk on" stocks. RUT closed today at $1342, up $8. Since November 4th, RUT has gained $179 or 15.4%. Wow! A broad market index is up over 15% in less than three weeks. That must have set a record. RUT broke its old all-time high on November 11th, and proceeded to set eight new all-time highs out of nine trading sessions since November 11th. RUT makes SPX look like an old man trying to keep up with the kids in a hundred yard dash.

Can this incredible rally be sustained? History and simple probabilities would say no. But the statisticians will tell us that the probabilities of any stock making a three standard deviation move is infinitesimally small. But those of us in the market every day find that five and six standard deviation moves are not that unusual. This strong market rally was not a highly probable event, but it happened.

What is driving this rally? Regardless of your politics, one has to give the election of Donald Trump the credit. Market analysts believe that the proposed economic plans, especially corporate and individual tax reforms, will stimulate economic growth. Hence, the financial stocks have been on fire. Take a look at the price chart for Goldman Sachs (GS). Analysts are expecting another booming economic era on Wall Street similar to the mid to late 1980s.

The minutes from the last FOMC meeting were released today, and portions of those minutes appear to make an interest rate hike at the December meeting a near certainty. In the past, even a hint of a rate hike sent the traders scrambling for the exits. The rate hike last December resulted in a 12% correction in the first quarter of this year. Will this rate hike be different?

If traders remain convinced that "happy days are here again", we may easily survive a 25 basis point rate hike. But we have another powerful force that may at least temporarily temper this bull market. As fund managers look at the nice gains that have piled up over the past few weeks and contemplate year end bonuses, the temptation to sell and take profits will be growing. The rate hike coming out of the next Fed meeting on December 14th may be the trigger for that profit-taking. Don't be caught unaware.

All anyone on the financial networks could talk about last week was the strength of the "Trump rally". Perhaps we are getting ahead of ourselves. The Standard and Poors 500 Index (SPX) closed today at $2164, unchanged. This is the fourth day that SPX has essentially traded sideways. By contrast, the Russell 2000 index (RUT) closed at 1299, up $16, and set a new all-time high. RUT set its previous high at $1296 on June 23, 2015. Both SPX and NASDAQ have set new highs this year, but RUT stubbornly lagged behind.

From the market lows on 11/4, SPX has gained 3.8% through today's close, but RUT is up 11.7% - wow! The smaller companies, represented by RUT, are largely the high beta stocks, the stocks whose prices tend to outperform the market both in bullish rallies as well as bearish corrections. These are the classic "risk on" stocks. The fact that RUT finally woke up and is now leading this market is very bullish. But can this rally continue?

SPX is looking pretty tepid at this point. SPX traded strongly higher through Wednesday of last week, but has traded sideways since then. Whether one looks at price to earnings ratios of the broad market indices, average dividend yields of the S&P 500 or many other metrics, the answer is the same. The market is at a minimum, somewhat overvalued and perhaps significantly overvalued. After all, corporate earnings are weak, GDP growth is anemic and business capital investment is near historic lows. And don't forget the Fed; an interest rate hike is almost certain next month.

Don't mistake me for one of the perennial bears. But I don't own any rose colored glasses either. I think Trump's economic plan has merit and will drive an economic revival, if it gets implemented. But that may be a large "if".

Non-directional trades are well suited to this market. I opened a large number of SPX Jan 2017 iron condors at 1960/1970 and 2280/2290 today. I am also looking at diagonal call spreads on the financials, like GS and JPM. The beauty of these trades is that they allow for a little slowing or even some pull backs as the market contemplates a new administration taking office. Don't get caught up in the euphoria. As always, manage your risk.

I expected this market to be volatile and choppy leading up the election. But the weakness in the markets over the past two weeks has surprised me. Is this a harbinger of even more bearishness next week? Or will the market “get over this” and settle down quickly after the election?

I wouldn’t have predicted the wild market reaction to BREXIT or its rapid recovery just a couple of days later. The market’s reaction to the election results can’t be predicted either, although I am sure many will try. The key isn't predicting the move. Success in trading comes from managing the risk.

SPX closed today at $2085, down $3 and RUT closed at $1163, up $7. But the larger picture is much more dire. Since the most recent market peak on October 24th, SPX has declined 3%, while RUT and the NASDAQ Composite have dropped almost 5%. Will these declines continue or even accelerate next week?

If we draw the Bollinger bands on the SPX price chart, we will see that today’s close was the fourth successive close below the lower edge of the Bollinger bands. The Bollinger bands are drawn at two standard deviations around the 20 dma. We would expect about 95% of the data to be contained within the bands, and that generally holds true. It is common to watch stock or index prices oscillate within the bands, but when prices move outside the bands, they are usually pulled back within the bands in short order. The number of closes below the lower edge of the Bollinger bands during a correction is usually pretty small, typically three or four. The fact that we have already observed four lower closes this week might tempt us to think that we are close to “hitting bottom”. But this market perturbation may be unusual. We are setting every other record with this election. Why not in the market as well?

Stock market risk is very high as we go into this election. We can't predict who will win the election and we certainly can't predict the market's reaction to the election results. What we can do is manage the risk. I closed all of the positions in my Conservative Income service today. As my most conservative trading service, it makes sense to go entirely to cash in advance of the election. In my No Hype Zone newsletter, we closed our TSLA iron condor a couple of weeks ago for a nice 26% gain, but I have been reluctant to add any new positions in this market environment. My November iron condors in the Flying With The Condor™ service are over two standard deviations out of the money, so I may leave them open, but that judgment may change on Monday or Tuesday. The feared "black swan" moves of three and four standard deviations may be a very real possibility next week.

The easiest way to control your market risk is to simply go to cash. But you may have a large stock portfolio that would have significant tax liabilities triggered by selling. Hedging the portfolio with a few out of the money index put options is the answer. Use the option price calculator on your broker's web site to estimate the gains of those put options under a couple of "what if" scenarios. Based on the gains you project for the puts, you may estimate how many puts will be required to hold the losses in your portfolio to a reasonable level. Whatever you do, don't just sit and hope for the best. Take control. Manage the risk.

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.

The Standard and Poors 500 Index (SPX) closed today at $2133, unchanged after a wild ride higher in the morning; but all of those gains were lost by the close this afternoon. SPX opened the week at $2160, so the net price action was lower on the week. SPX flirted with the lows from early September yesterday, but recovered to close at $2133. The September low at $2120 is the new lower edge of the sideways trading channel, with an upper edge at $2195, set back in August.

The markets have been characterized by this sideways churning since mid-July. Market analysts are unanimous in one aspect – they are all nervous. Some blame the Fed and their concern about the prospect of higher interest rates. Some blame the presidential election, and one can easily find traders who are concerned about the prospects of either candidate winning. A Wall Street Journal survey of economists was published today, and gave a 60% probability of a recession within the next four years. That report was featured on all of the financial networks. What all of these analysts have in common is a high level of anxiety, and the looming specter of another market crash is always on traders minds during the month of October. We are seeing the net effects of all of these worries in the churning, directionless market.

The Russell 2000 Index (RUT) closed today at $1212, down $3 today and down about $27 or 2% for the week. RUT’s close today is essentially at its low when the market traded lower in early September. The question is whether RUT will break down through $1210 next week or continue to trade within the channel of $1210 to $1265. Russell has traded more weakly than SPX and the NASDAQ Composite all year. RUT has not even approached its high from 2015 at $1296. RUT’s price action continues to communicate a bearish signal.

I summarized the market last week as:

Nothing much has changed in this market for several months now. The GDP growth rate is minimal, corporate earnings are mediocre and the forward guidance has been bleak. The uncertainties surrounding the presidential election are piled on top to collectively hold the bulls in check. But the near zero interest rates are holding the bears in check. The result is a choppy, nervous, sideways market.

Nothing has really changed. If anything, traders are even more nervous. Be careful. This may be a good time to take a break if you can’t watch this market closely.

October is well known for its large number of severe market crashes, from the famous crash of 1929 that ushered in the great depression to the financial meltdown of 2008. Maybe the hobgoblin of market crashes has the bulls pulling in their horns (too many metaphors). SPX closed today at $2154, down $7, and ending the week down ten dollars. RUT didn't fare any better, closing down at $1237, losing $14 for the week. Volatility rose a bit today, with the VIX rising about seven tenths of a point to close at 13.5%.

SPX has traded sideways for about three months now, with a brief pullback on September 9th, followed by a quick recovery. But now we are firmly back in the sideways trading channel. If you plot the Bollinger bands on the SPX, you will see that the price has stayed close to the center of the bands for over two weeks.

Whereas SPX and the NASDAQ Composite indices have set new all-time highs this year, the Russell 2000 Index (RUT) has failed to reach the high it set at $1296 in the summer of 2015. This is a bearish sign because the high beta stocks of the Russell have normally led bull markets higher.

It is interesting that the jobs report this morning didn't move this market much either way. I thought a weak report, which we received, would enthuse the bulls since they would expect weak jobs numbers to hold the Fed's interest rate hikes at bay for a while longer.

This sideways market is ideal for our iron condor positions in the Flying With The Condor™ service. Our October iron condor on SPX is up 23% and the November position stands at a net gain of 9%. I will probably close the October position next week and open December.

Nothing much has changed in this market for several months now. The GDP growth rate is minimal, corporate earnings are mediocre and the forward guidance has been bleak. The uncertainties surrounding the presidential election are piled on top to collectively hold the bulls in check. But the near zero interest rates are holding the bears in check. The result is a choppy, nervous, sideways market. We may be stuck here for a while.



SPX opened this morning at $2162, traded down to $2152, but then rebounded to close at $2171, up $11 on the day. Candlestick enthusiasts will note this as a long lower shadow, a classic clue that the bulls are strong, i.e., they saw that intraday low on SPX as a bargain and starting buying, driving the price higher. And this was on higher trading volume, with 2.2 billion shares of the S&P 500 trading today. Trading volume was up 16% on the NYSE and was 4% higher on NASDAQ.

But there was another significant clue of bullish strength today. The durable goods orders report came out today for August and was dead flat, 0.0% change. July was up 3.6%. The durable goods report is one of the fundamental measures of U.S. economic strength, and this was a terrible report. But the market shrugged it off and traded higher. Strong bull markets ignore bad news... until they don't.

Tomorrow brings the final estimate of the second quarter GDP growth rate. The last estimate was a paltry +1%, annualized. If the report tomorrow continues on that weak line, it will be a another test for the bulls.

In the meantime, the recent market behavior has been nearly ideal for delta neutral traders. My September SPX iron condor closed at a 16% gain. The SPX condor for October is up 21% and the November position is already up 6%, even though it has only been open for a couple of weeks.

The market clearly has a bullish bias, but be careful. It remains a nervous market.

Last Friday, SPX fell out of bed and lost over $53 or 2.4%. You might think that a negative GDP number or something equally disturbing had been reported. But nothing that logical occurred. A couple of the Fed governors had suggested in interviews that the economy might be sufficiently strong for another interest rate hike in the near future. If the Fed believes the economy has recovered sufficiently to handle higher interest rates, that should be good news. But traders hit the sell button. Does that make sense? I don't think so. But maybe I shouldn't be trying to view this market action so rationally.

Whether you have been trading the markets for the past 5 years or 30 years, you have never seen near zero interest rates at all, much less for several years in succession. So traders are in uncharted territory. Normally, the younger staff in the trading firm turn to the older staff and hear comments like, "Don't be too concerned, this looks similar to the markets in late 1987 after the big crash in October. Within a year the markets had recovered all of those losses." Today's market is unique. No one has seen this situation before. Consequently, market observers are nervous and tend to sell at the slightest sign of trouble. Consider the recent BREXIT panic as an example. The BREXIT vote scared traders and the markets sold off quickly. The fact that the effects of Britain leaving the European Union would not be realized for two years or more was known and well publicized, but it didn't matter. Traders were scared and hit the sell button. But this has happened many times over the past few years. Those same nervous traders have learned to "buy the dip". Thus we have the so-called "V-bottoms" that have been a common characteristic of recent markets. The BREXIT panic caused a loss on the S&P 500 of 5.3% in only two trading sessions; within four trading sessions, that entire loss was recovered, and the market continued to trade higher yet for about two weeks. Traders are nervous in this "uncharted territory" and sell upon the least rumor or speculation. But we are all well aware that we have been in a strong bull market, so we quickly "go all in" whenever we see market prices start to rise - hence, we buy the dip.

After losing over 2% last Friday, SPX recovered much of that loss on Monday, but then traded back down on Tuesday. SPX closed today at $2147, not quite back to last Thursday's close at $2181, but close enough that volatility declined almost two points today. What is a trader to do? Psychotherapy? Antidepressants?

As many of you know, I trade iron condors on the broad market indices every month. Before the market opened last Friday, I was planning to sell my November SPX iron condor. But all of the red ink stopped me. As I listened to all of the talking heads interview the gurus predicting "the sky is falling", I couldn't get too excited about this decline. As the day wore on, the indices started to stabilize and I decided to sell the November SPX 1890/1900 put spreads. As the markets rebounded on Monday, I sold the November SPX 1940/1950 put spreads. At today's close, the short puts at 1900 and 1950 are 1.7 and 1.3 standard deviations out of the money. This corresponds to probabilities of these spreads expiring worthless of 96% and 92%, respectively. Don't misunderstand. I was still focused on risk management. I sold only half of my normal capital allocation on Friday and was prepared to buy it back on Monday if was wrong. But, instead, I sold the balance on Monday at a higher index price.

This market remains volatile and unpredictable, so stay cautious and manage your risk carefully. However, rational analysis of market behavior remains a useful discipline.