Not even the threat of war in the Middle East can stop this market.
Iran launched missiles late Tuesday at U.S. bases in Iraq—a move that many people thought could trigger a bigger conflict. Not much happened. Oil traded lower, gold traded higher, and futures dropped. The declines, which were short-lived, may have been triggered by news algorithms that are widely used by institutional investors to react to headlines. President Donald Trump’s suggestion that Iran may be “standing down” gave stocks another boost.
Investors appear to be stuck in a perennially bullish posture that treats every stock market decline, potential selloff, or risk factor as an opportunity to “buy fear” and prepare for stocks to rally higher.
In recent days, major institutional investors have been monetizing the fear of other investors by selling put options on blue-chip stocks. This suggests that a giant, steadying hand is forming below the market that could support prices in the event of a market decline. Of course, if the market sinks significantly lower, the hand could break.
One investor sold 1,800 February $120 puts on American Express (ticker: AXP). Another sold 10,000 February $60 puts on Gilead Sciences (GILD). Still another sold 5,000 February $210 puts on Home Depot (HD). Someone else sold 10,000 McDonald’s (MCD) February $190 puts. And another investor sold 10,000 March $110 puts on Procter & Gamble (PG). (Puts give the holder the right to sell an asset at a specific price by a certain date.)
All these trades indicate support exists to buy those stocks if they decline. When investors are afraid, market makers usually fill the orders—and there are always investors buying puts to hedge stock. But increasingly, investors are stepping into the market to satisfy that demand and to get paid for selling puts at high prices in return for agreeing to buy good stocks at low prices.
Most anyone can execute the put trades, provided they have the money to buy the associated stock. The key risk, of course, is that something happens to wildly disprove the consensus view that the U.S. stock market is bulletproof.
Consider Microsoft (MSFT). With the stock around $160, investors can sell the March $155 put for $3.60. If the stock remains above the strike price, investors can keep the put premium. Should the stock be below the strike price at expiration, investors are obligated to buy the stock at $155, or to cover the put at a higher price.
The key risk is that the stock falls far below the put strike price, obligating investors to buy the stock at the strike price or to cover the put at higher price. During the past 52 weeks, Microsoft has traded between $101.25 and $160.80, and shares have risen 54%.
If all of this bullish posturing reminds you a bit of Irving Fisher’s 1929 assertion that stocks had reached a permanently high plateau, you’ll probably feel better adding gold to your portfolio. The yellow metal continues to be steadily bought as an antiseptic to whatever ails the market. Gold prices are around their highest levels in the past five years and could rise further as investors look for ways to make money off fear.
If gold appeals to you, consider a call-option spread on the SPDR Gold Shares exchange-traded fund (GLD).
The spread strategy is recommended because SPDR Gold Shares calls are trading with a greed premium. So many people think gold will keep rising higher that the implied volatility of the calls is priced in bullish anticipation. The spread strategy tempers high volatility because one option is bought and another is sold. (Calls give the holder the right to buy an asset at a specific price by a certain date.)
With the gold ETF around $147, buy the February $150 call and sell the February $160 call. The spread costs $1.62, and it anticipates that the ETF is entering a new, higher trading range. During the past 52 weeks, it has ranged from $119.54 to $148.61. If the trade proves correct, and GLD is at $160 at expiration, investors will realize a maximum profit of $8.38.