Weekly Bear: Here’s A Setup For Low Risk High Return Put Trade

After the market’s big rally on  Thursday, I showed you how a trading range can give you a low risk setup for a possible put trade.  I want to update that for you briefly here, because as I write this in the premarket on  Friday, another setup has become apparent.

It’s a low risk/high potential reward setup right here.

Now it’s possible that by the time you see this on  Saturday morning, that setup would have vaporized. But if not, this would be a good opportunity for a trade. And if it does disappear in a cloud of firey  smoke  to the upside, we can still await the setup at a higher level that I suggested Thursday.

But let’s look at where we were on Friday, pre-market. Recall that the market has crossed the trading range of the past 5 days, many, many times in the past year. The market has become “thin” within the range, as the volume of bids and offers are reduced in the wake of multiple trips through the range. Price can move easily across the range in both directions.

It’s one thing to cross a range, and another to break out of it.

The market could not break out on Thursday as it ran into both a resistance level and trend resistance. There were enough sell orders around 2754 on the S&P to stop the market in its tracks. And the S&P was off 12 points in the pre-market as I was writing this on Friday morning.

Click chart to view full size.

JM Hurst, who was the father of modern cyclical analysis of stock prices, held that triangle pattern breakouts were the best to trade because they usually led to fast extended moves. So a low risk, high reward play would be to buy a breakout through 2754 with a stop below that. The target of a short term move would be around 2815 on the S&P.

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I like to use SPY calls to buy such a breakout, with a just-in-the-money call, say the 273, expiring in about 4 weeks. If the index makes it to 2815, the SPY would sell at about 281, and the SPY 273 call would be around $8. The closing price of the December 28 call on Thursday was 5.76. That’s too expensive. I don’t like the potential there. It’s not a trade I’d make.

Besides, as of now, there’s no breakout. It’s only something to watch. On the other hand, there’s a put trade that could work now. With the SPX just below resistance at 2754, we could be a 275 put expiring at the end of December, looking for a move to the bottom of the triangle at roughly 2640.  To limit risk, we could have a mental stop just above the resistance area of 2754. We could have a stop at say, 2760, or 276 on the SPY, with the target being 264 for closing out a profitable trade.

The 275 December 31 SPY put closed at 5.94 on Thursday. At SPY 264, it would trade for around 11.  That’s almost a double, and with the thin range, it could happen fast. It’s certainly a trade I’d consider. And if the triangle breaks down, as I suspect it will, that could lead to another trade, potentially just as profitable or more.

However, if by the time we look at this on Monday morning the market has already fallen materially away from the resistance level of 2754, I’d take a pass.

As time goes on, I’ll be on the lookout for more low risk, high potential reward bear setups. Meanwhile, you can trade the market both ways, regardless of whether it’s a bull or bear market.  Tom Gentile’s ingenious Money Calendar research service doesn’t care what direction the market is headed. It has identified seasonal patterns that pinpoint profitable trade opportunities over and over. Click here for info on Tom’s service.


Lee Adler

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