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Time for a Ratio Trade?

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What to do if you're too scared to buy, sell, or short.

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I'm okay getting grouped with the crowd that believes a bottoming of the financial crisis won't resolve our very deep economic problems; with those who argue that losing only 400,000 jobs per month instead of 600,000 is no reason to go long stocks; with the doom-and-gloomers who suggest that US sovereign debt is going to be treated as the junk that it is sooner rather than later (either because of default or currency debasement); with the Cassandras who suggest that devaluation-based inflation doesn't need tight labor markets to wreak havoc.

The US financial/economic system didn't die on March 6; instead, it was intubated with a 4-foot-wide hose that allowed freshly minted dollars to flow into its system. It was given a makeover to brighten its gaunt, lifeless face. I realize Bernanke can keep the ventilator going for a while -- but in the end, reality will bite.

I've deliberately used cliched metaphors to describe where we stand: Though these problems are well known and accepted, someone has yet to explain to me why they're regarded as being already discounted by the markets -- aside from the mantra that "that's how markets work." For those who believe that, markets haven't discounted one thing for the last 2 years. In fact, they may as well put their picture next to the definition of "reactive."

With that backdrop, the VIX at 25 has me back buying S&P 500 (SPX) LEAPs in scale and in decent size. I hear those who'd rather sell volatility here as the "hard trade is usually the right trade," and I also see the corporate bond market ramping back up like all is good again. I humbly and emphatically disagree.

For those too scared to buy, sell, or short, a ratio trade long the SPX and short the NASDAQ 100 (NDX), is something I've been mulling for quite a while. A recent endorsement of precisely such a strategy by John Roque has nudged me into it, and the position is slowly being grown to a rather respectable size.

As you can tell from this NDX/SPX ratio chart, the current ratio is taunting the probability spectrum. I'm using futures, but it can also be implemented with more defined-risk option strategies.

Meanwhile, my exit from all long-bond-related short positions has saved me a few dollars and far more aggravation. But the 120 level on the 30-year bond (US1) is approaching, and somewhere above that I'll re-enter the ring -- particularly as the 200-DMA turns downward-sloping.

I'll let DeMark counts suggest more refined shorting prices when the time comes.

No positions in stocks mentioned.
The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.

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