Market momentum is yellow. The Federal Reserve will likely start its Quantitative Tightening program tomorrow. The central bank will begin selling bonds from its $9 trillion balance sheet. This will create liquidity issues in the market, as the central bank owns 25% of all treasury bonds in the economy.
With that said, the market is not the economy. And the economy is not the market. I’m bullish through June 10. And I expect that more capital will spill into the market.
So how should we trade this environment? By asking a very basic question. What the heck is anything worth these days?
How Much is Kohl’s Worth?
Two weeks ago, I made a dashing trade. I sold June 17, 2022, $35 puts on Kohl’s (KSS) and bought the $30 put with the same expiration date for protection. I asked myself a simple question when I made this trade. What is Kohl’s as a company actually worth?
If Kohl’s went out of business tomorrow, I believe that shareholders would receive $35. So… Kohl’s is truly worth… $35. That’s the liquidation value, and I’m happy to trade around that number.
Kohl’s did peel back recently under that strike price and quickly rebounded to about $40.50. That’s where this stock should trade for now. There remain several suitors for the company. And I expect that the company will receive bids in the low-to-mid $40s.
What’s Working Right Now?
When momentum is rocky and there remains great uncertainty over the next 30 days, I resign myself to the screeners at FinViz. What is working in this environment? The answer should not surprise you.
Today, 151 companies hit 52-week highs. As we continue to rotate capital toward stuff that we need and not stuff that we want… the list features strong stocks in the commodity, shipping, banking, and packaging space.
No surprise: Devon Energy (DVN), Occidental (OXY) and Marathon Oil (MRO) hit new highs. In fact, 46 companies in the oil exploration and production space hit new highs. And that’s not including the big integrated majors like Exxon Mobil (XOM), Shell (SHEL), and Chevron (CVX).
This is the time to be selling puts or credit spreads on these companies. Oil’s fundamentals remain strong, and any company that pumps crude oil out of the Permian Basin will do well in 2022. Don’t go out and buy calls or the stock. Pick a price you want to own the stock at, and trade around those levels.
OXY Trade Example
Shares of Occidental pulled back from the $74 level as profit taking occurred. But I know that Warren Buffett and the CEO of the company both bought this stock in the mid-$50s. So why not be willing to buy the stock at these levels using a put credit spread.
The June 17, 2022, Occidental $63 put is trading at $1.25. Sell that put and buy a put for the same date for Occidental at $60. You’ll require $247 in the margin to potentially make $53. That’s a 21.5% return in less than three weeks with a probability of profit north of 80%.
The worst-case scenario is that you are assigned this stock with a break-even price of $62.47. The annualized return on this trade – assuming that the stock stays above $63 is a whopping 435%.
It’s a win, win, win trade. You’re welcome.