Despite the obvious advantages of sensationalism for a writer in the internet age, I generally try to avoid it. I believe that when you write every day, maintaining that every opinion is “vital” and every level reached is “critical” quickly becomes tiresome for readers. One of the things that a career in dealing rooms gives you is a sense of perspective; events and market movements that seem monumental at the time look like tiny blips on a chart with hindsight. For these and other reasons, I thought long and hard before using the term “critical” to describe current levels, but that is what they seem to be.
I am not just talking about stocks, although that is a good starting point. Since the end of 2012 the S&P 500 has been following a trend line that has provided remarkable support and, as you can see, yesterday’s bounce came off of another touch of that line.
That a correction came at all wasn’t a surprise; even I saw it coming. Nor is it surprising that support came in yesterday at a level that approximates to the expected bottom based on the trend. The reason I believe that this level is critical, however, is that early indications today are for another down day in equities. The bounce isn’t clean.
The low for the S&P on Friday was 1916.37, so for all intents and purposes the 1916 level can be seen as the support. Now I have said many times in the past that I am not a fan of complex technical analysis, but when a level is this obvious and can be easily identified by one simple line, it matters. A break of 1916 and a close below that level would be significant and would probably lead to further losses in the index.
As I said, it’s not just stocks that are hovering around significant levels. The price of oil in the U.S., as measured by West Texas Intermediate (WTI) crude is showing a remarkably similar pattern.
It too is currently bouncing off of a support level derived from a trend line. In this case, that level is around $97.50 per barrel.
The 10 Year U.S. Government Note is hovering around a 2.5% yield, which, while not a massively significant level from a technical perspective, has an obvious symbolic significance. Gold is holding just below the equally symbolic $1300 level... You get the picture, everything looks poised, one way or another to break. The obvious question is “in which direction?”
I have said before that I believe that the conditions that have led to sustained strength in equities are still in place, and nothing about the current situation has changed that view. In the light of a generally positive earnings season, I’m not looking to sell yet. I am; however, more nervous now in some ways than I was even a week ago, and consider some kind of “insurance” as prudent.
There are several options open to investors looking to do that. Those that are active in options have several ways of doing that; covered calls and protective puts for example. For most, though, they will be looking at ETFs that track the S&P volatility index (VIX) to offer some protection. There are several products that would serve, but one word of warning. Unless you are an active daily trader, stay clear of leveraged VIX ETFs. Their daily re-sets make them unsuitable for anyone other than day traders.
There are some options available, though. The iPath VIX Short Term (VXX) and Long Term (VXZ) would both serve the purpose. Due to the short term nature of the protection needed, I would favor the former, but either would serve the purpose. It should be stressed that this is a short term protective measure to insure against a break of these critical levels. If equities bounce back the position should be closed for a loss, and if these levels are broken then the VIX, and therefore these products, will react rapidly, so look to take a quick profit.
I am, by training, a believer in watching multiple markets, as a career in foreign exchange taught me that they all interact constantly. It is not that I think that a large drop in stocks is justified, but with so many important markets hovering around critical levels, it does look possible. Investors should consider protecting themselves against the possibility.