As the markets have continued to climb higher, it has become increasingly uncomfortable for options traders to stay in for too long. For many, no doubt, it is safer to stay on the sidelines and avoid a major storm – though they keep asking, Where and when does the market stop climbing and correct? But should we even be asking that in the first place? By now you know my stance very well. I will let the market tell me what to do and how to proceed, and I will stay clear of making bold predictions and trying to time the market.
However, there is one discussion we should be having, and that’s around the Federal Reserve’s role in the markets – because I think it’s misunderstood.
We’ve been saying for months that the Fed looks at data to help them shape policy. While many analysts and traders still believe the Fed is behind the curve, I disagree. This is exactly what it should be doing, and furthermore, this Fed is so transparent about policy it might as well be covered in Saran Wrap! Given its past foibles, secrecy, and neglect, the Federal Open Market Committee will not make a policy mistake if they can help it. Instead, they publicly announce their approach.
Last week the Fed convened for a meeting, and once again, they did not change rates. They did cut another $10 billion off the QE program and gave a brief update on their view of the economy, though. Basically, things are going according to plan for Chair Yellen and the Committee, though they did share some words of caution. Nothing that was said caused me alarm, but as we know, the clock keeps ticking toward a change in policy. The Fed stated very clearly that policy will be very accommodative over a long period of time. (Fed Governor Plosser dissented over this language, but other hawks did not voice the same opinion.)
The stock market reacts to almost any news or information, and with volatility so low (signaling complacency), it’s no surprise to have a big sell off, which we saw on Thursday. Keep in mind that the Fed is NOT being restrictive. Some view the taper effect as a tightening in policy, and I can understand why, but when the bond market is not impacted by a so-called increase in supply, then there is something else at work here. Low yields continue to confound everyone, but the curve is still leaning upward (albeit a bit flatter through the month of July).
Did the Fed really shake the trees? No. Nervous traders just used their news as an excuse to sell. In options trading, there are a million reasons to sell, but only one reason to buy.
