The freight train carrying U.S. equities higher is chugging along nicely. With Friday’s sweet reversal, the SPDR S&P 500 ETF Trust (SPY) has now traveled 14.3% from its Feb 11 low — a monster rally if there ever was one.
While SPY bulls seem to have complete and utter control, stock lovers shouldn’t rest on their laurels — now’s the time to grab a bit of protection just in case we see some giveback in the coming months.
The parabolic run in the S&P 500 Index isn’t exactly unique — we’ve seen similar recoveries almost once a year since the dawn of our bull market in 2009. Virtually everyone eventually experienced a healthy pullback in the month or two following the moonshot, as the adjacent chart shows.
Click to Enlarge
Note the angle of ascent was similar to our current bull run.
While the SPY ETF surge could continue, a number of looming resistance levels are giving buyers plenty of reasons to exercise caution following such a sharp ascent. The previous cluster of peaks in the $210 region, along with the downward trendline, are areas where sellers have previously dominated.
And it’s not just the overbought market conditions that warrant a potential bear play. Insurance is cheap these days. The CBOE Volatility Index (VIX), the go-to indicator to assess if options are cheap or expensive, tagged a new seven-month low Friday. Fear has officially left the building, and as a result you can pick up SPY options on the cheap.
SPY Put Spreads for a Rainy Day
If you’re looking to scoop up some S&P 500 protection, now’s the time to strike. To increase the odds the protection will bear fruit we can extend the duration of the trade.
So, rather than using short-term options to play for a pullback, we’ll go out about three months, giving ourselves ample time for a correction to finally strike.
Buy the June $205/$200 put spread for $1.45 or better. The max risk is limited to the initial $1.45 and will be forfeited if SPY sits above $205 at expiration.
The max reward is limited to the distance between strikes minus the net debit, or $3.55, and will be captured if the S&P 500 ETF sits below $200 at expiration.
At the time of this writing Tyler Craig had no positions in any of the aforementioned securities.
