The Goldman Sachs Strangle/Straddle Calendar Spread (GS, XLF)

When markets are falling, it’s generally bad news for Wall Street. Belt-tightening starts, brokers go commissionless, underwriting stops, layoffs follow, and while there may be a few trading desks that cash in on the tumble, by and large everything freezes up as folks slowly step to the sidelines and wait out the storm in cash.  That’s when Wall Street becomes a barometer of … well, Wall Street.

 

Consider a relatively recent example. Here’s a chart of the Financial Select Sector SPDR ETF (NYSE:XLF) prior to and during the great Lehman Bros. market meltdown of 2008/09.

 

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The financials lost 84% of their value over the course of two years, bottoming in line with the rest of the market in March of 2009 and signaling a major retrenchment on Wall Street that cost tens of thousands of jobs across the banker/broker-dealer sector. Since then, it’s been a slow and steady rise to recoup less than half that loss, and Wall Street, of course, has itself added new jobs and business on the way.

 

No doubt some financials did better and some did worse, but there’s no denying the fact that a stock market crash of this magnitude will, of necessity, involve a complete wipeout of the financial sector.

 

Because Wall Street is a barometer of Wall Street.

 


What’s Happening on Wall Street Today?

 

Based on the above premise, we’re going to examine the status of the financials today with an eye to offering you a trade that we’re confident will capitalize precisely on the financial moment in which we’re currently situated.

 

But we’re first going to take a look at a trade we opened some months ago.

 

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We start with an effort that we simply forgot to report. It was launched on March 10th in a letter called Impending Gold Consolidation. There, we offered two separate trades
on the Market Vectors Gold Miners ETF (NYSE:GDX).

 

First, we recommended you consider selling the GDX April 20 CALL for $0.29 and using the funds to buy the GDX April 16 PUT for $0.28. We also said sell the GDX June 22 CALL for $0.30 and use the proceeds to buy the GDX June 15 PUT for $0.38. Total debit for both trades was is $0.07.

 

And that’s where it ended. We lost our $0.07 when everything expired out-of-the-money.

 

Cuppa coffee.



Now back to the war!

 

The above weekly chart of the financial sector shows a number of interesting and meaningful developments that require further elaboration.

 

First, as we mentioned a moment ago, the selling in the financials that began early in 2007 predated the general market slide by more than a year. That is, the signals that were in place for a meltdown were on offer well in advance of the waterfall selloff that occurred in August/September/October of 2008.

 

And what about now? Have the financials been indicating a coming dive in the markets as they did in 2007?

 

Not according to what we see. A look at the far right of the chart shows strong and steady price action for the last four years, nothing like the pre-Lehman days – at least not until the last two weeks’ panic got everyone wide eyed and bloody.

 

The second item that drew our attention was the unwinding higher of the weekly moving averages (shown in blue) that occurred a mere two weeks ago, just as the slaughter was getting underway. This development should not be underestimated, as it generally denotes the beginning of a longer term uptrend, not a bear market. A look at the chart reveals that this is also the first time a fully unwound, bullish weekly MA condition has been in place since November, 2007!

 

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One more item: last week’s trading action sunk the financials in a wild manner, forcing XLF as low as $18.50, a level it hasn’t seen since early 2013 and putting it in line with both its long term weekly moving average and the rising 274 day MA (all in blue). And that, too, bears consideration, because those lines appear to represent very strong support for the stock.

 

Finally, the size of the drop was 25% in just four days, peak to trough, and the bounce off the lows an equally astounding 27%, the vast majority of which was accomplished on a single key reversal trading day.

 

Have a look at the daily chart –

 

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The daily gives you a much better picture of both last week’s dive and rebound, and also illustrates a number of additional bullish factors, such as –

 

1.   The volume surge that accompanied the selling and subsequent buying (blue square),

 

2.  The deeply oversold RSI reading (sub-20) which almost always engenders a strong bounce (black circle), and

 

3.  A near recapture of the moving averages, now bunched between $23.50 and $24.50, and quite attainable should we see any strength in the next couple of
weeks.

 

It’s a very constructive picture at this stage, but as we said above, the most influential indication here is the key reversal pattern, or ‘pin bar’. Any time a stock shoots deeply lower at the open and then reverses higher to close up for the day, we have a very strong probability of a reversal. Volume and RSI figures offer important backup.



So what do we do? Are we bulls again?

 

Settle down, Portnoy.

 

First things first.

 

We’re going to use a stock for this trade that’s a bellwether in the industry. It’s Goldman Sachs (NYSE:GS), and because the trade is somewhat complex, we ask that you prick your ears and listen up.

 

First the chart –

 

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GS is slightly stronger than the rest of the financial pack, with her long term moving average offering critical support (red arrow) as the stock fell into oversold territory (black circle).

 

At this point, we’re expecting a very strong move in either direction. Either the bloodletting is done, as we suspect, or we’re about to be guillotined and French fried.

 

And that’s why we’re buying a strangle. And selling a straddle to offset the cost.

 

Options Trader Elite recommends you consider selling the GS September 11th 180 CALL and PUT (straddle) for a combined credit of $5.90. Then buy the GS October 16th 195 CALL for $2.28 and 175 PUT for $5.85 (strangle), for a debit of $6.95. Total debit is $1.05.

 

With love of the hunt,

 

Hugh L. O’Haynew, Senior Analyst

See what people are saying...

  1. Mecksavanh Xayasouk

    Thanks you for sharing this trade option with me, but sorry I haven’t traded option before. Please give me more advise or learning course.

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