Slope of Hope Blog Posts

Slope initially began as a blog, so this is where most of the website’s content resides. Here we have tens of thousands of posts dating back over a decade. These are listed in reverse chronological order. Click on any category icon below to see posts tagged with that particular subject, or click on a word in the category cloud on the right side of the screen for more specific choices.

ODP : My Favorite Long-Term Short

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 Best Buy (BBY) eventually survived Circuit City and Barnes & Noble (BKS) survived Borders.

When Borders filed for Chapter 11 bankruptcy protection in February, I started thinking about the dynamic: two or three competitors, with tight (or tightening) margins, struggling for survival in a crummy economy.  Essentially, I’m looking for specific weakness and betting against whoever I think will most likely die.  

The retail office product space looks to fit well into this model.  Staples (SPLS), Office Depot (ODP) and OfficeMax (OMX) all took a severe beating in the 2008 drop. 

SPLS 
 
OMX 
ODP0 

They survived, but performance was poor compared to the S&P. 

SP500_1 

Since I have a Staples and an Office Depot in town, I actually investigated both stores.  Been to Staples a bunch of times for the usual stuff, but I was more interested in the competition.  I have one word for Office Depot: grim.  Product selection appeared significantly more limited and some of what was there was actually dusty; all with the help from a staff energized like they’re expecting either a reduction-in-force or a physical beating at any minute; so I went short ODP in March. 

If I was inclined to put on a pairs trade, it would be long Staples and short Office Depot.  Good thing I was waiting for earnings to come out before going long Staples- as of yesterday, they reported much lower-than-expected quarterly earnings and slashed its full-year forecast, sending shares in the world's largest office supplies retailer down the most in a day in 11 years and renewing talk of consolidation (Staples shares fall after profit outlook cut).  As expected, Staples got hit for -15%, OfficeMax for -7.7% and Office Depot for -5.45%.  I feel a little better putting the 2nd half of the pairs trade on sometime over the next few weeks- at a much lower price.

Today, Oppenheimer cut its rating on Staples and OfficeMax to "perform" from "outperform," saying sales trends for office supplies retailers appear unlikely to rebound any time soon.  (Note: I think Office Depot wasn’t mentioned as they are already rated “perform” on 10/25/2010).

Technically speaking, ODP remains weak:

ODP1 

ODP2 

Over the long haul, chances are Staples will be a (the?) survivor and I see Office Depot as the weakest of the three with the greatest fundamental challenges.

Optimal Puts vs. Index ETFs for Hedging

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Hey Fellow Slopers,

This another post that might be a little basic for some of you, but a question came up recently about the differences between hedging with inverse ETFs and optimal puts, and since I know there are some self-described beginners among Slope lurkers, I thought it would be worth an elaboration here.

Inverse ETFs can be useful tools in hedging against market, sector, or industry risk, but there are a few reasons why investors may want to consider using optimal puts to provide downside protection for their portfolios (a quick reminder: optimal puts are the ones which will give you the exact level of protection you want at the lowest possible cost):

  • Ability to hedge against idiosyncratic (or, stock-specific) risk. Say you own a particular stock and you are unwilling or unable to sell some of your stake in it to reduce your downside risk. If the stock has options traded on it, you may be able to use optimal puts to hedge against a decline due to an event specific to that stock. Inverse ETFs can be used to offset market risk or industry risk, but not stock-specific risk. For example, if you owned Toreador Resources Corp. (TRGL — a stock we mentioned in a post here last month,"Market Neutral: Short TRGL, Long IMO") at the beginning of the year, owning optimal puts on it could have limited your downside as TRGL declined since then, but owning shares of the ProShares Short Oil & Gas ETF (DDG) wouldn't have, as that inverse ETF has declined year-to-date as well, as the chart below shows.  TRGL
  • Precision. Say you own 824 shares of Exxon Mobil, and you'd like to know how to hedge that position against a greater-than-17% loss. Using Portfolio Armor (available as a web app and as an Apple iOS app), you could simply enter "XOM" in the symbol field, "824" in the number of shares field, and "17%" in the threshold field, and then Portfolio Armor would use its algorithm to scan for the optimal puts to give you that level of protection at the lowest cost.1
  • Ability to cap cost at the outset. It's not always clear how investors who use inverse ETFs decide how much of their portfolios to allocate to them — I've asked Inverse ETF investors about this in the past, and in response have been told they "feel comfortable with" some small percentage. To use a round number here, let's say an investor decided to allocate 10% of his portfolio to an unleveraged, inverse index ETF, such as ProShares Short S&P 500 (SH), to provide him some downside protection against a market correction. What if the S&P 500 went on to stage a rally instead — what if it went up another 25% over the next several months? In that case, the investor's portfolio might be 2.5% lower than it would have been had he not purchased that downside protection. What if, instead, the investor bought the optimal puts to hedge against a greater-than-20% decline in the ETF that tracks the S&P 500, the SPDR S&P 500 (SPY)? As of Wednesday's close, the cost of those optimal puts was 0.86%; if the investor bought enough of those optimal puts to hedge his whole portfolio, their drag on his performance in the event of a 25% market rally would be capped at 0.86%.2

It's worth noting that, in that last case, part of the reason the optimal puts on SPY are so cheap is that volatility is still relatively low. The VIX volatility index closed Wednesday at 15.07, close to its 52-week low of 14.30 (its 52-week high was 48.2). Volatility can spike quite quickly though, so if you are considering hedging, you may want to consider doing so while volatility remains relatively low.

Disclosure: I am short TRGL.

1In that case, Portfolio Armor would round down the number of shares you entered to the nearest hundred (since one put option contract represents the right to sell one hundred shares of the underlying security), and then present you with eight of the put option contracts that would slightly over-hedge the 800 shares they cover, so that the total value of your 824 shares would be protected against a greater-than-17% loss.

2For the sake of simplicity there, I ignored the transaction fees of purchasing the ETF and the options, and I ignored the management fee of the ETF.

Weekly Sector Report | 02/04/11 (by Leisa)

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The bulls found their footing after stumbling the previous Friday. The broad market sector was up 2.75% Here's how the cylinders were firing on the markets' engine (click all images for enhanced viewing):

Moving to the industry level, here are the Top 10 Best/Worst performers:

The sharks are swimming in the current areas:

We close with the broad market index:

With this week's close, it has poked its price nose above the long volume bar that has previously acted as resistance. As usual, I have created a full report for you:

Weekly Sector Report | 01/28/11 (by Leisa)

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Such a day in the market on Friday!  The unrelenting march forward was stopped and then pushed back.  For the week, though, the change was merely a .35% decline.  However, looking at the sector/industry charts, you will note that that there has been some serious damage done to these charts.  Drilling down to individual stocks, the carnage is even more brutal.

We must be ever cognizant that market indices are like a house which goes up brick by brick.  For an index, the bricks are individual stocks and their collective performance.  An index house will eventually roll over once the sector bricks are weakened one by one–but that rolling over is through a successive failures in stocks/sectors. That is why topping is a process. And while the market tops over a period of months (e.g. Financial topped in Feb of 2007 (in fits and starts); Basic Resources topped a full 16 months later), they all seem to bottom at the same time, with October 2008 and March 2009 a collective double bottoming for every sector. I've been providing a view of the total stock market index. 

Let's take a look at that daily chart here (click all images for enhanced viewing):

As we can see by the volume@price bars, we have quite a bit of price memory here.  Note that the last peak is at the bottom of the bar which would offer the next range of support with some worrisome vacuum underneath. How did our sectors fare over the week?

Here are the top/bottom ten performers at the industry level (This is weekly only):

In days such as yesterday when all the world is going to hell (or seemingly so), spotting divergences is informative (for those of you that trade individual securities v. indices).  For those of you inclined that way, this weekend is a good time to review that information which you can do easily on FINVIZ (though I have prepared my usual report for you which you can find here):

  • Industry subsector performance: You can find the industry subsectors here. (sorted in best to worst).  If you like to see this information graphically, you can do so here.
  • Individual stock performance:  You can find individual issues here (sorted best to worst)–be sure to use the filtering tools to pull out thin capitalizations and low priced stocks–a graphical rendition is found here where you can see the sector + individual notables (the good, bad and the ugly).
  • Short interest change:  You can the change in short interest (in addition to the total short interest here.
  • Relative Volume:  Viewing sectors by relative volume can also be fruitful.  You can find that view here.

Let's see where the short interest changes are:

Whether we had a healthful consolidating pullback or something more will be determined with the passage of time. Many of the sector leaders (e.g. automobiles/parts) have been weakening over the past couple of weeks. Price action has moved ahead of the news. News is now coming out that informs the correctness of the market's anticipation of future events.

The market by its nature is anticipatory; however, we should always remember that its crystal ball is cloudy. It does act decisively when its expectations are not met. We should as well. I wish you good trading for next week, and I hope that that you find some use from this week's report.