Panic is in the air; fear is on the rise. And that smug grin on bulls’ faces following such an epic start to 2018 is beginning to turn. Friday’s 2.54% drubbing in the Dow Jones Industrial Average has left many investors shell-shocked.
While a 2.54% slide may not be all that significant from a historical perspective, it’s a big deal when you consider the utter absence of any kind of volatility we’ve seen in recent months. For context, we turn to the CBOE S&P 500 Volatility Index.
With Friday’s ramp, the VIX stretched to levels not seen since November 2015. Indeed, by closing at 17.31, the so-called fear index is confirming market anxiety is now higher than any of last year’s market drops.
But with the overall trend in stocks still pointing higher, I suspect this dip is a buying opportunity. And the pumped-up volatility is providing ample opportunities for options traders to capitalize.
Let’s look at three ways to profit from the market panic.
3 Ways to Profit from the Market Panic: SPDR S&P Biotech (ETF) (XBI)
While some sectors have breached support during last week’s drama, others have held firm. Chief among the muscle-flexers is the SPDR S&P Biotech (ETF) (NYSEARCA:XBI). January’s launch in XBI delivered a stellar breakout with strong follow-through to boot. And, unlike virtually every other sector exchange-traded fund, XBI remains above its rising 20-day moving average making it one of the most attractive dip-buy candidates heading into the new week.
The elevated VIX means option sellers are being handsomely rewarded right now. If you’re willing to wager that XBI sits above $85 at March expiration then sell the March $85/$81 bull put spread for 64 cents or better.
In timing the entry, I suggest waiting for signs that biotech stocks are pivoting higher. If Friday’s downdraft persists on Monday, then hold off on pulling the trigger until its apparent that buyers are swooping in to halt the decline.
3 Ways to Profit from the Market Panic: SPDR S&P Metals and Mining (ETF) (XME)
During market corrections, all stocks tend to move together. The increase in correlations dampens the appeal of stock picking and makes using ETFs to game market direction a smarter idea. As such we’re sticking with ETFs for all three of today’s trades.
Metal stocks were walloped last week, but the SPDR S&P Metals and Mining (ETF) (XME) (NYSEARCA:XME) still looks tempting on a longer time frame. Heavy volume accompanied the December/January rip in XME, and that leads me to believe institutions will eventually wade back into the waters to capitalize on this dip.
Additionally, old resistance near $35 and $34 looms large as potential support. Tack on the fact that XME carries a cheap price tag and sky-high implied volatility, and naked puts look like a lay-up here.
Sell the March $32 puts for 40 cents.
Profit from the Market Panic: iShares MSCI Emerging Markets Indx (ETF) (EEM)
For our final pick, we’re going overseas. Foreign stocks are in the midst of an epic comeback, and last week’s drubbing presents an alluring chance to climb aboard. The iShares MSCI Emerging Markets Indx (ETF) (NYSEARCA:EEM), in particular, is worth a shot. Its overall uptrend remains bullish, and I’m eyeing $48 as potential support.
The massive volume spike and jump in implied volatility rank to 100% both reek of capitulation. That means a bounce could be imminent.
Sell the March $47 put for 65 cents.
As of this writing, Tyler Craig held bullish options positions in XME and EEM. Want more education on how to trade? Check out his trading blog, Tales of a Technician.