Three New Tactical Plays

Add DIA Puts, STLD & COP Calls

By Bryan Bottarelli
Monday, June 16, 2008 10:19 AM EDT
Mon, 16 Jun 2008 14:19:00 GMT

PLAY: Buy the DIA July 122 Puts (DAW SR) at or under $3.00, good for the day.

PLAY: Buy the COP July 100 Calls (COP GT) at or under $2.10, good for the day.

PLAY: Buy the STLD July 40 Calls (RQL GH) at or under $2.80, good for the day.

Dear Bottarelli Research Member,

Good morning! We’ll begin the new trading week by looking at the current position of the CBOE Volatility Index (VIX). As you can see below, Friday’s 165-point rally erased a large portion of fear in the markets, and this helped the VIX drop to a closing level of 21.22. But this morning, a fresh round of selling pressure is pushing the VIX right back up, and this indicates that we’re still in a volatile trading environment. As a result, remember to keep your trading ledger light and your position sizes small.

VIX

As for the tactical side of our strategy, I would like to establish two types of positions. First, I’d like to own broad-based downside exposure using puts on the Dow Diamonds (DIA – AMEX).After all, the underlying trading trend in 2008 has been to short any substantial rallies, and you can argue that Friday’s advance was nothing more than short-covering leading into the weekend. At the same time, many market watchers are leaning heavily on forthcoming quarterly earnings reports from Morgan Stanley (MS – NYSE), Goldman Sachs (GS – NYSE), and Lehman Brothers (LEH – NYSE), but I feel that most of this news has already been discounted. Therefore, establishing a new DIA put at current levels represents nothing more than a defensive position at the outset of (what appears to be) another volatile market week.

DIA

PLAY: Buy the DIA July 122 Puts (DAW SR) at or under $3.00, good for the day. Place a protective stop limit at $1.50 but to not place a sniper sell at this time. I will manage this position within our daily alerts.

Once we own this downside exposure, I also feel it’s smart to ride the flipside of this market volatility by establishing calls on companies that represent the strongest market sectors. For example, the three market sectors that have been stand-outs in the midst of the recent market weakness are oil, steel, and coal.

Despite falling stock prices, these three sector groups have not only remained strong — but they have continued (in many cases) to set new 52-week highs. Therefore, the second half of our strategy involves carefully adding call options in these select sector groups, and the two names that surface are Steel Dynamics (STLD – NASDAQ) and ConocoPhillips (COP – NYSE).

COP

The argument for COP is quite simple. The global energy company has 8.72 billion barrels of proved oil reserves, and rising oil prices have allowed COP to extend its bullish upside trend. A new 52-week high indicates that COP will crack the $100.00 level soon, so I think adding COP July calls will offer us a relatively safe way to play any extended upside. So here’s the trade:

PLAY: Buy the COP July 100 Calls (COP GT) at or under $2.10, good for the day. Place a protective stop limit at $0.85 but to not place a sniper sell at this time. I will manage this position within our daily alerts.

On a similar note, shares of steel stocks have also bucked the weak market trend and extended upon their upside rallies. And while names like U.S. Steel (X – NYSE) and Nucor (NUE – NYSE) remain Wall Street’s favorites, I love to see a company like STLD hit new 52-week highs and still remain underneath the radar. They’re not only in the right sector, but their option premiums remain quite reasonable, so let’s also add STLD calls to play the extended upside move.

STLD

PLAY: Buy the STLD July 40 Calls (RQL GH) at or under $2.80, good for the day. Place a protective stop limit at $1.30 but to not place a sniper sell at this time. I will manage this position within our daily alerts.

Armed with these three positions, we’ll profit off any downside market losses via our DIA puts while riding any extended upside on the two strongest market sectors, steel and oil. And in a volatile market like this, that’s the only smart way to go. So get positioned in these three, and as always…

Lock and load!

Sincerely,

Bryan Bottarelli

Bryan Bottarelli
Editor, Bottarelli Research

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