Add NFLX Calls

Plus: Dow Versus VIX

PLAY: Buy the NFLX April 70 Calls (O:NFLX 10D70.00) at or under $3.20 (or best price) good for the day. Place a protective stop limit at $2.10 and a pre-determined sniper sell at $4.50.

Dear Bottarelli Research Member,

Good morning. I find it interesting that every single guest commentator on CNBC is now bullish on the markets. Now I admit, it’s quite easy to beat the bullish drum when the markets have risen nearly 300 points over the last eight sessions. And, it’s even easier to support a bullish thesis on the one-year anniversary of the market’s recent low. But as traders, we must think two steps ahead of the mainstream investors. In that spirit, let me offer you a look at the following two charts…

First, let’s look at the CBOE Volatility Index (VIX), which is commonly used by floor traders to gauge the market’s current level of fear.

As a basic explanation, the VIX is designed to be a forward looking chart to describe investors’ expectations of future market volatility. It’s calculated using purchasing levels of both calls and puts on the S&P 500. More put buying, for example, indicates an increasing level of fear, and thus moves the VIX up. Introduced by the CBOE in 1993, VIX values below 20 generally correspond to less stressful (even complacent) market periods, while values greater than 30 generally equate to a large amount of volatility sparked by fear and uncertainty. In short, the VIX offers floor traders an early look at possible market sell-offs.

Now, if you look at the Dow chart, you can clearly see this fear-based relationship by comparing the Dow’s late-January sell-off with the VIX’s corresponding pop from 17 to 28. As the Dow fell from 10,700 to below 10,000, the VIX went gangbusters.

What I find very interesting is the fact that the VIX began this huge up-swing at exactly the same level that it’s at right now. In other words, if the 18 level on the VIX serves as a double bottom, then watch out. As we’ve seen before, the resulting sell-off at these levels could be quite substantial.

This case study explains why I want everyone to maintain some level of downside protection. As I mentioned yesterday, we’ll probably end up “rolling” our March FAZ and SDS positions into April, just so that we can remain prepared for any forthcoming selling pressure. When it’s time to make this maneuver, I’ll let you know.

In the meantime, I think we have another opportunity to play our good friend Netflix (NFLX – NASDAQ).As you can see, NFLX gapped up on strong earnings back in late January and hasn’t looked back. I get the sense that the stock wants to take out their old highs above $70.00. Let’s play this breakout using April 70 Calls.

PLAY: Buy the NFLX April 70 Calls (O:NFLX 10D70.00) at or under $3.20 (or best price) good for the day. Place a protective stop limit at $2.10 and a pre-determined sniper sell at $4.50.

And as always…

Lock and load!

Sincerely,