Options signalling massive 'Suckers Rally' in SP500

Discussion in 'Wall St. News' started by makloda, May 5, 2008.

  1. http://www.bloomberg.com/apps/news?pid=20601087&sid=aEYEvRxb_w04&refer=home

    a) What's not to like with low volume suckers rallies? :D
    b) I find it interesting that journalists fail to understand that willingness of investors to pay premium for index put exposure can work as a cushion for equity prices, not as a lighter fuel on a fire.
    c) Roubini called a recession 'a year ago'? From what I recall, he's leaning towards a recession every year:

    USA Today - Aug 23, 2006
    "New York University professor Nouriel Roubini gives 70% odds of a recession by year's end."

    Bloomberg - Jun 20, 2007
    "Roubini said there's a 50 percent chance the economy will be in a recession by the end of 2007."

    May 5 (Bloomberg) -- The biggest rally in the Standard & Poor's 500 Index in more than four years is luring investors to equities from cash, just as options traders are betting the advance will evaporate.

    The benchmark index for American shares rose 4.8 percent in April, the steepest jump since December 2003, and has climbed 11 percent from a 19-month low in March. The rebound came as Federal Reserve Chairman Ben S. Bernanke arranged the bailout of Bear Stearns Cos., took subprime-tainted mortgages as collateral from investment banks and cut borrowing costs to a three-year low.

    Jean-Marie Eveillard, who runs the $22 billion First Eagle Global Fund, is skeptical the gains can last because the worst housing slump since the Great Depression will reduce earnings. S&P 500 companies are valued at 22.7 times profit, the most in four years. Options traders are paying 63 percent more to protect against a drop in the S&P 500 than to bet on a gain, the widest difference since at least 2005. ``It may be a suckers' rally,'' said Eveillard, who is based in New York. ``Investors want to believe. But if I'm right, then there's truth to the argument that this is the worst financial crisis since the end of World War II. The same kind of reflex is the wrong reflex.''

    The S&P 500 gained 1.2 percent to 1,413.90 last week, adding to the rally that helped the measure avert a bear-market collapse of 20 percent. The benchmark index plunged 18.6 percent from its record 1,565.15 on Oct. 9 to its low on March 10.Futures on the S&P 500 today lost 0.4 percent to 1,409.8 at 8:57 a.m. in Frankfurt.

    Cash to Equities

    As the advance took hold last month, investors shifted more than $100 billion out of cash held in money market funds, whose assets had swelled to a record $3.54 trillion, according to data compiled by Washington-based Investment Company Institute. The climb hasn't dispelled concern among traders of U.S. options. Implied volatility, the measure that calculates expected price swings of an underlying asset and is used as a barometer of options prices, shows that many investors are betting the U.S. stock market will falter.

    The implied volatility on options that lock in gains if the S&P 500 drops at least 10 percent in three months reached 24.67 on April 30, Bloomberg data show. That compared with 15.1 for options that pay out if the index rises at least 10 percent.

    The 63 percent difference indicates the highest demand for options insurance since at least 2005, according to data compiled by Bloomberg. A decline of 10 percent from the S&P 500's closing price last week would take the measure down to 1,272.51, below its March 10 low of 1,273.37.

    Sucker Protection

    ``There are pockets in the marketplace that believe this is a sucker rally, and they're willing to pay a substantial premium for downside protection,'' said Robert Arnott, whose Pasadena, California-based Research Affiliates LLC oversees $26 billion. He said in December 2006 that a bear market was probable. Nouriel Roubini, professor of economics and international business at New York University's Stern School of Business, says the Fed's seven rate cuts since September -- which lowered the benchmark lending rate to 2 percent from 5.25 percent -- aren't enough to stave off a contraction and that earnings expectations are unrealistic. Investors are currently paying the highest prices relative to earnings since March 2004 and 15 percent more than when the S&P 500 reached its all-time high in October.

    The U.S. economy expanded 0.6 percent from October through March for the slowest six months since the 2001 recession. Meanwhile, consumer spending rose at a 1 percent annual pace last quarter, also the weakest since 2001.

    Profit Rebound

    Still, analysts estimate profits at S&P 500 companies will rise 12.1 percent and 51.7 percent in the final two quarters of 2008, respectively. For the first quarter, 363 companies in the S&P 500 have reported results, posting an average decline of 13.3 percent. That compares with analysts' projection at the start of the year for a 4.7 percent gain in the quarter. ``You're going to have further losses for the financial system and weakening of demand of employment, of earnings, of profitability that's going to push further down the stock market,'' said Roubini, who more than a year ago predicted a housing slump would drag the U.S. into a recession. ``This is a temporary, bear-market rally.''

    ISI Group Inc.'s Jeffrey de Graaf, the top-ranked technical market analyst in Institutional Investor magazine's survey the last three years, says the decline in trading last month also shows investors aren't confident the gains will last. De Graaf is based in New York. An average of 1.31 billion shares changed hands each day on the New York Stock Exchange, the least since September 2004 and the slowest for the month of April in six years.

    Worst Is Over

    Quincy Krosby, chief investment strategist at the Hartford in Hartford, Connecticut, which manages $360 billion, is more sanguine. She says the worst may be over for the economy and the financial markets saddled with $319 billion of bank losses. Financial stocks in the S&P 500 have gained 11 percent since the end of March, the biggest increase among the 10 industries in the index. Meanwhile, gains in railroads, trucking companies and airlines signal the broader economy is growing and bolster the case that the stock gains are justified, Krosby said. ``It's a validation of investor belief the U.S. economy will pick up in the next six to seven months,'' she said. ``It's a sign the market is looking ahead past the downturn. Slowly but surely, the Fed rate cuts will be working their way into the economy.''

    NYU's Roubini says that is a mistake.

    There is ``complacency among investors thinking that the worst is behind us for credit markets and for financial markets and for the real economy,'' the New York-based Roubini said. ``This is not the year to be in risky assets like equities.''
  2. MTE


    That's the beauty of these kind of calls, sooner or later you'll be right and then everyone will be saying that this is the guy who called the recession in XXXX year, while nobody remembers you when you are wrong.

    The problem is that these predictions are absolutely useless if you wanna make money in the markets!
  3. market will make new highs this year
  4. -) the p-e-ratio of the s&p500 is not only hight, but it has been rising since july 2007, while the p-e-ratio of nasdaq or euro stoxx600 have both been falling. the sp500 dropped by 11% from july2007 (based on yesterday´s close). this would imply that earnings fell even more in this period. also the ratio of earnings to sales dropped dramatically for the sp500 stocks since july2007.

    -) the "worst financial crisis since wwII" sounds bad, but is it really that bad? the financial system and the whole economy are not the same as 70 years ago. there are 70 years of policy experience and economic theory between today and the wwII. during the past 2 quarters the us-economy didn´t even shrink, though it grew at a low pace as measured by the gdp growth (but q1/2008 gdp is subject to revision, so it might be negative already). on the other hand, gdp growth could be a poor measure of recession anyway. shouldn´t other variables like capacity utilization or non-farm payrolls, which reflect the usage of capital and labour resources in the process of goods and services production be taken into account? in this respect not much has changed in the economy. capacity utilization shows a slightly downward trend since summer2007 (from 81.4 to 80.5), but compared to 2000, that´s peanuts. non-farm payrolls, however, have been negative for the fourth consecutive month in april. that might point to a recession, but is still very little compared to the year 2000. this is something about the 2quarter-gdp-recession-definition: http://www.elitetrader.com/vb/newreply.php?action=newreply&threadid=126425

    -) what about earnings reports? would that not be a good figure as well for determining, where the economy is? could it be that, when the economy shifts from recession or downturn to an upturn again, the number of negative surprises decreases? shouldn´t also investors shift their focus from earnings to sales in an economic downturn (since the focus is on aggregate demand) and from sales to earnings in an economic upturn (since then controlling costs becomes more difficult). by the way, since july2007 the sp500 companies had a drop in the earnigns-sales ratio of about 25%.

    -) "The 63 percent difference indicates the highest demand for options insurance since..." can somebody help me to understand, why when looking at prices only one can say whether demand has changed? how do people know that demand has changed and not that supply has changed without knowing anything about the quantities demanded or supplied? so in this case i could also say, the supply of the put options has fallen, which would lead to a higher price for put options as well. or did i get anything wrong here?
  5. I think you're spot on.
  6. i wonder what has cut off the supply of s & p put options? anyone have an idea? i am very concerned and look forward to when the supply will return.:confused:
  7. yeah...and don´t forget to watch the put call ratio. it´s gonna tell you something about demand and supply of puts and calls as much as bloomberg-news does.