A fast-moving market can often go from oversold to overbought in the blink of an eye…
The past couple of weeks have been a good example.
For instance, the S&P 500 began the month down 5% from its all-time high…
Everyone was gearing up for another 5% drop down to the 200-day moving average (MA) – something that hasn’t happened since June 2020.
We here at Market Minute flagged that the selloff was overdone, especially heading into earnings season.
On October 12, with the market still down, we said, “Despite some weakness lately, the bears won’t be getting their ‘I told you so’ moment.”
But here’s what we didn’t know…
The market was still prone to silly melt-ups that defy logic… yet I thought we were back to normal.
But now, some indicators that have a track record of cutting through all that noise may be calling this market out… right when the bulls are getting a little too rowdy.
First, let’s review the series of events that created a new sense of euphoria in the markets…
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Great earnings from the financial sector to kickstart the bounce (expected)
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Bitcoin regained its all-time highs (expected)
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Tesla got a $4.2 billion order from “former meme stock” Hertz, which sent its market cap up $100 billion (euphoria building)
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And altcoin Shiba Inu rose 60 million percent over the past year… (euphoria reached)
Today, I want to show you what I mean by euphoria, in exact terms, like we did during the Robinhood IPO back in the summer…
You see, the options market is very telling. That’s why we recommended staying far, far away from Robinhood. It was trading at $60, now it’s at $35.
On the other hand, Tesla (TSLA) is different.
I respect and admire what they do and what they can continue to do in the future.
But, the options market and the company itself are two different things…
Just take a look at this chart of Tesla call options expiring next month…
The first column shows the strike price of Tesla call options, the second shows how much they cost as of October 28, and the third and fourth columns show how much Tesla needs to rise just to break even on the position.
Each option contract gives investors the right to own 100 shares of the underlying stock at the strike price.
For example, the $1,600 call option listed above gives investors the right to buy TSLA for $1,600 per share on November 19, 2021 for a cost of $330 per contract.
In order for investors to make money on call options, the underlying stock needs to rise far enough to cover the cost of the option… Which means that the only way to make money on this position is if TSLA rises an additional 49%… in just three weeks.
That’s a very tall order.
The further down the option chain you go, the more it raises eyebrows. Some traders are willing to fork over $250 betting on a 58% surge.
That’s insane… and it highlights the recklessness that’s on full display towards the end of a market cycle.
Options have taken the market by storm… everyone seems to be trading them – from novices to professionals alike.
But to expect TSLA to rise another 50% in three weeks has all the makings of an imminent selloff. It’s the type of irrational behavior reminiscent of market tops.
Full disclosure… we are not perma-bears. We’re just bullish in areas that aren’t foaming at the mouth.
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Meanwhile…
Now, let’s take a quick look at the Volatility Index (VIX) chart. The VIX is a barometer of volatility in the market.
The chart shows the VIX rising with the market the last few days… that’s not a good sign.
That’s because rising volatility doesn’t mix well with rising prices.
Historically speaking, when volatility rises, the market falls. (For a more in-depth look on this relationship, take a look at Jeff Clark’s essay from this week).
And, this indicates that the market is still very much entrenched in the greed cycle.
As difficult as it is, investors should use this opportunity to take some profits here, because this market looks like a dose of reality is coming soon.
Finally, if you want a piece of the TSLA action… buy the stock and stay away from call options.
Regards,
Eric Shamilov
Contributing editor, Market Minute
Reader Mailbag
In today’s mailbag, a few Jeff Clark Trader members gave their thoughts on Jeff’s recent essay about gold, orchids, and how his wife is a murderer…
Jeff, I really enjoy your writing and expertise. The orchid and gold analogy is a masterpiece. Thanks for your always great insight.
– Sharon
I liked your flower analogy to gold miners. For the last four years, I was buying gold miners and lost thousands on it. At the time, I couldn’t understand the lack of growth that plagues the system.
Today, I see the London gold market and the Forex markets as thieves who have been robbing investors and miners using the futures market – where they print paper, gold, and silver with a leverage of 1 to 600 and drop the paper price of the metals.
The Bureau of Industry and Security (BIS) directive of Basel III is supposed to correct this by the end of December. Let us believe they don’t postpone it. No technical analysis will ever work with this kind of criminal manipulation going on!
– Fernando
Orchids need strong filtered sunlight. It also helps to put a small dish with pebbles in it where you can put some water and sit the orchid on it. This increases the humidity in the immediate area of the orchid. Oh, and talk to it every day!
– Ted
Thank you, as always, for your thoughtful comments. We look forward to reading them every day. Keep them coming at [email protected].