Your Jump on the Week – Yield Curve Watch

by | Feb 24, 2019 | Bishop's Corner

Stocks closed the week higher, extending a winning streak that now stretches 9 weeks. The S&P 500 is approximately 5% from all-time highs. Amazing, when you consider 2018 was the worst year for stocks in over a decade.

Now, I sift through a lot of economic data and study volatility because it helps me gauge market sentiment.

By sticking data dependent, you’re able to reduce the emotions in trading. You see, I’m not a bull or a bear, I let the numbers and statistics dictate what side of the trade I should be on.

And while some things in the market may seem bad:

  • Uncertainty regarding the U.S. – China trade talks (March 1st deadline approaching)
  • Weaker existing home sales numbers (3-year lows)
  • Philly business outlook (turned negative)

However, all of it is getting ignored at the moment.

Why?

Because the Federal Reserve Bank is on the market’s side.

And we got further confirmation of that this week when it released its FOMC Minutes (a transcript of its closed-door meeting on which they decide the fate of interest rates).

That said, I’ve been staying stock specific, taking some positions long and others short. For example, this “covered-call” option winner in the Trade Desk (TTD) on Friday.

For full details on the mechanics of that trade click here, and if you haven’t done so, grab a copy of latest eBook that teaches the basics of options.

That said, it’s going to be a very busy week for stocks again. Some of the highlights include Jerome Powell’s speech to the Senate Committee on Banking. As well as, earnings from retailers like Macy’s, Foot Locker, the Home Depot, and Best Buy, to name a few.

Let’s look at the full summary of the trading week, how I’m positioning, and a free trade idea.  

Your Jump on the Week – Yield Curve Watch

Now, the focus is still on corporate earnings as there are still on my radar, with hundreds of companies still reporting, which we’ll go over in our earnings calendar with the implied moves vs. historical moves for potential ideas.

Short Strangle Apple (AAPL) Stock Trade

I’ve been getting a lot of questions from Weekly Money Multiplier clients about my trade in Apple Inc. (AAPL).

Well, AAPL is trading around $171… it’s in the middle of the $165 puts and $175 calls. It’s been trading in this range, as shown in the hourly chart below.

The trade is known as a short strangle. This involves selling slightly out-of-the-money (OTM) calls and puts on an underlying stock, with the same expiration date.

Here’s a look at the profit and loss (PnL) diagram, also known as the risk profile at expiration.

Since I sold the $165 puts and $175 calls, I get to keep both of the premiums right off the bat (around $10K if you add up both the premiums. Keep in mind, I’m being pretty risk-averse and have stops in place. I’m taking that money and taking my family on a vacation to an amusement park in Florida, and meet up with members at our next Millionaire Roadmap event this coming Thursday.

I plan on keeping this trade on for around 2 weeks.

Moving on, there are some things going on with the Federal Reserve that many market participants are ignoring…

Concerns About the Fed

The Federal Open Market Committee (FOMC) released its minutes on Wednesday for its January meeting. Everyone was focused on what the Fed was going to say about their minutes… but the smart money was focused on what they were going to say about its balance sheet.

The Fed has been allowing securities to roll off its balance sheet almost unnoticeable by the market… and the FOMC members are finally showing signs of concerns about the balance sheet.

Before we get into what this all means for the market, let’s learn a little bit about the Fed’s operations.

FOMC Minutes Explained

If you don’t already know the Federal Open Market Committee (FOMC) releases its Minutes a month after the Meeting Announcement. Basically, it’s the Federal Reserve’s way of providing a summary of monetary policy issues addressed at FOMC meetings. During the days of the dovish Fed (when it favored low-interest rates), the FOMC Minutes didn’t really move the markets.

However, that all changed when there was a shift in the monetary policy direction.

You see, when the U.S. came out of the financial crisis of 2007-2009, there was actually a monetary policy known as Quantitative Easing (QE). Quantitative easing is an unconventional monetary policy tool and was only used to bolster and stimulate the economy.

The Federal Reserve purchased government securities and mortgage-backed securities and kept interest rates extremely low for years. More specifically, the Fed created money by depositing money at financial institutions and purchased government securities. The sole intention was for the institutions to loan out money to consumers and corporations to spur economic growth… which it did.

Could Quantitative Tightening (QT) Spark a Selloff?

However, the Federal Reserve just can’t continue purchasing assets to stimulate the economy… at some point, it has to reverse the course. This brings us to Quantitative Tightening (QT). Back in 2017, the Federal Reserve noted it would start to reduce its portfolio holdings because the U.S. economy had finally shown strength. The Fed aims to use QT to normalize the markets and curb inflation… and this monetary policy has never been done before… so it could be one of those Black Swan events that could cause stocks to crash.

Moving on.

Here’s a look at the Fed’s total assets (in millions of dollars):

Source: Federal Reserve

As you can clearly see, the Fed has started to reduce its $4T+ balance sheet, and was on “autopilot” for its unwinding of bonds and other securities.

The Fed’s reduction of the balance sheet has the markets wondering when it will stop with its tightening policy. In previous FOMC meetings, the Fed signaled it could end its balance sheet normalization by the end of 2019.

Now, the Fed thinks this tightening won’t affect the markets… but that’s why they’re not traders. They don’t understand the way the smart money thinks.

You might be wondering, “Jeff, this is great macro information, but how does that help me?”

U.S. Treasury Yield Curve on Watch

Well, it allows you to be prepared for anything that could happen. For the most part, I’m watching the U.S. Treasury yield curve. This will help me identify potential trades in bond exchange-traded funds (ETFs) like the iShares 20+ Year Treasury Bond ETF (TLT).

Now, the U.S. Treasury yield curve measures the yields (or rates) of short-term Treasury bills and long-term Treasury notes and bonds. For the most part, traders are focused on the two-year and 10-year Treasury securities. In other words, they’re focused on U.S. government bonds maturing in two years and 10 years.

But why is this so important now?

Well, in general, you would see a large spread between the two-year and 10-year Treasury yields. However, it’s actually tightening now. This tells us there could be an economic downturn.

As history has shown us, every recession or economic contraction since the 1940s was preceded by an inverted yield curve… and we’re approaching that right now.

Here’s a look at what I’m talking about…

Could This Action Affect the Market?

This doesn’t look good for the market…

Moreover, we’re seeing some heavy correlation between three major market exchange-traded funds (ETFs)… Look at SPY, the iShares Russell 2000 Index ETF (IWM) and the PowerShares QQQ Trust (QQQ) on the daily chart.

All of these indices look exactly the same… but there are still disconnects with the bond market, stock market, and yield curve.

You see, the last time the action was like this… we were witnessing the housing market bubble, and when this spread got negative… well, it was the start of the financial crisis.

Yield Curve Basics

Now, keep in mind the yield curve is simply an expression of fixed-income traders’ views on economic outlook… but they can be wrong. However, I’m not one to bet against this. We’ve seen this multiple times before… and if the Fed continues to continue with its QT program throughout 2019… well, it could be a problem with the market.

What I’m going to be watching is whether shorter-term Treasury securities will have higher yields than longer-term securities – indicating an inverted yield curve. If we see the two-year Treasury rates above the 10-year Treasury yields, that signals the smart money may be looking more towards longer-term bonds, and I’ll be looking at TLT for a potential entry.

Moreover, Federal Reserve Chair Jerome Powell will be speaking on Tuesday and Wednesday, so it could be interesting to see the Fed’s course of action and thoughts on the economy.

Enough about the Fed.

Let’s look at the economic calendar.

Economic Calendar

Monday, February 25, 2019

  •  8:30 AM EST                   Chicago Fed Nat Activity Index
  • 10:00 AM EST                 Wholesale Inventories
  • 10:30 AM EST                 Dallas Fed Manufacturing Activity

Tuesday, February 26, 2019

  • 7:45 AM EST                   ICSC Weekly Retail Sales
  • 8:30 AM EST                   Housing Starts
  • 8:30 AM EST                   Building Permits
  • 8:55 AM EST                   Johnson/Redbook Weekly Sales
  • 9:00 AM EST                   FHFA Housing Price Index
  • 9:00 AM EST                   S&P CoreLogic’s CS 20-city index
  • 10:00 AM EST                 Fed Chairman Powell testifies before Senate Banking panel
  • 10:00 AM EST                 Richmond Fed Activity
  • 10:00 AM EST                 Consumer Confidence
  • 4:30 PM EST                   API Weekly Inventory Data

Wednesday, February 27, 2019

  • 7:00 AM EST                   MBA Mortgage Applications Data
  • 8:30 AM EST                   Advance Goods Trade Balance
  • 8:30 AM EST                   Retail Inventories
  • 10:00 AM EST                 Fed Chairman Powell testifies before House panel
  • 10:00 AM EST                 Pending Home Sales
  • 10:00 AM EST                 Factory Orders
  • 10:00 AM EST                 Durable Goods Orders
  • 10:30 AM EST                 Weekly DOE Inventory Data

Thursday, February 28, 2019

  • 8:00 AM EST                   Fed’s Clarida remarks at Economic Policy Conference
  • 8:30 AM EST                   GDP Annualized
  • 8:30 AM EST                   Personal Consumption
  • 8:30 AM EST                   GDP Price Index
  • 8:30 AM EST                   Core PCE QoQ
  • 8:30 AM EST                   Weekly Jobless Claims
  • 8:30 AM EST                   Continuing Claims
  • 8:50 AM EST                   Fed’s Bostic speaks on the Economic and Housing Landscape
  • 9:45 AM EST                   Chicago PMI
  • 9:45 AM EST                   Bloomberg Consumer Comfort Index
  • 10:30 AM EST                 Weekly EIA Natural Gas Inventory Data
  • 11:00 AM EST                 Kansas City Fed Manufacturing
  • 11:00 AM EST                 Fed’s Harker discusses Economic Outlook
  • 1:00 PM EST                   Fed’s Kaplan speaking in San Antonio

Friday, March 1, 2019

  • 8:30 AM EST                   Personal Income
  • 8:30 AM EST                   Personal Spending
  • 8:30 AM EST                   PCE Deflator
  • 8:30 AM EST                   PCE Core
  • 9:45 AM EST                   Markit US Manufacturing PMI
  • 10:00 AM EST                 ISM Manufacturing
  • 10:00 AM EST                 University of Michigan Sentiment
  • 12:50 PM EST                 Fed’s Bostic on Economic Policy Conference

This brings us to the earnings calendar.

Earnings Calendar

Monday, February 25, 2019

Earnings Before Market Open

  • Armstrong World Industries Inc. (AWI) implying 6.91% (monthly) move. Historical average move 6.2%.
  • Carter’s Inc. (CRI) implying 7.22% (monthly) move. Historical average move 6.7%.
  • Tenneco Inc. (TEN) implying 8.97% (monthly) move. Historical average move 7.27%.

Earnings After Market Close

  • Aerie Pharmaceuticals Inc. implying 13.69% (monthly) move. Historical average move 6.45%.
  • Etsy Inc. (ETSY) implying 15.62% (monthly) move. Historical average move 16.66%.
  • Hertz Global Holdings (HTZ) implying 15.45% (monthly) move. Historical average move 19.96%.
  • Mosaic Company (MOS) implying 7.34% move. Historical average move 7.94%.
  • Rent-A-Center (RCII) implying 7.70% move. Historical average move 8.28%.
  • Shake Shack Inc. (SHAK) implying 8.70% move. Historical average move 10.91%.

Tuesday, February 26, 2019

Earnings Before Market Open

  • AutoZone (AZO) implying 5.10% move. Historical average move 7.77%.
  • Home Depot (HD) implying 3.28% move. Historical average move 2.47%.
  • Cheniere Energy (LNG) implying 4.17%. Historical average move 4.17%.
  • Macy’s Inc (M) implying 9.73% move. Historical average move 11.83%.

Earnings After Market Close

  • Inogen Inc. (INGN) implying 13.81% (monthly) move. Historical average move 13.5%.
  • Mylan N.V. (MYL)  implying 7.01% move. Historical average move 8.46%.
  • Palo Alto Networks Inc. (PANW) implying 7.55% move. Historical average move 11.26%.
  • Planet Fitness Inc. (PLNT)  implying 10.40% (monthly) move. Historical average move 11.13%.
  • Papa John’s International (PZZA) implying 7.80% move. Historical average move 8.77%.
  • Tandem Diabetes Care (TNDM)  implying 13.66% move. Historical average move 18.08%.
  • Toll Brothers (TOL) implying 6.37% move. Historical average move 8.26%.
  • Whiting Petroleum Corp. (WLL) implying 9.68% move. Historical average move 11.3%.
  • Weight Watchers International Inc. (WTW) implying 16.14% move. Historical average move 21.52%.

Wednesday, February 27, 2019

Earnings Before Market Open

  • Best Buy Co. (BBY) implying 8.72% move. Historical average move 9.42%.
  • Campbell Soup Company (CPB) implying 7.01% move. Historical average move 7.62%.
  • Lowe’s Companies (LOW) implying 5.39% move. Historical average move 7.87%.
  • TJX Companies (TJX) implying 5.86% (monthly) move. Historical average move 5.38%.

Earnings After Market Close

  • Apache Corp. (APA) implying 5.29% move. Historical average move 6.27%.
  • Booking Holdings (BKNG) implying 5.85% move. Historical average move 8.2%.
  • Box Inc. (BOX) implying 10% (monthly) move. Historical average move 10.69%.
  • HP Inc. (HPQ) implying 5.10% move. Historical average move 5.86%.
  • L Brands Inc. (LB) implying 8.87% move. Historical average move 10.29%.
  • Monster Beverage Corp. (MNST) implying 6.45% move. Historical average move 8.62%.
  • Square Inc. (SQ) implying 8.28% move. Historical average move 8.79%.
  • Sarepta Therapeutics (SRPT) implying 12.59% move. Historical average move 12.61%.

Thursday, February 28, 2019

Earnings Before Market Open

  • Amicus Therapeutics (FOLD) implying 35.06% move. Historical average move 9.88%.
  • Intercept Pharmaceuticals (ICPT) implying 11.09% move. Historical average move 9.57%.
  • Pacific Gas & Electric Co. (PCG) implying 10.39% move. Historical average move 2.66%.
  • SeaWorld Entertainment (SEAS) implying 9.93% move. Historical average move 12.14%.

Earnings After Market Close

  • Autodesk Inc. (ADSK) implying 9.01% move. Historical average move 11.99%.
  • AMC Entertainment (AMC) implying 12.98% move. Historical average move 7.76%.
  • Gap Inc. (GPS) implying 9.33% move. Historical average move 8.2%.
  • Nordstrom Inc. (JWN) implying 9.65% move. Historical average move 8.85%.
  • Marriott International (MAR) implying 4.25% move. Historical average move 4.36%.
  • Nektar Therapeutics (NKTR) implying 8.11% move. Historical average move 13.0%.
  • Nutanix Inc. (NTNX) implying 9.42% move. Historical average move 13.06%.
  • Splunk (SPLK) implying 8.92% move. Historical average move 10.95%.
  • Workday Inc. (WDAY) implying 8.16% move. Historical average move 6.53%.

Friday, March 1, 2019

Earnings Before Market Open

  • Foot Locker (FL) implying 11.57% move. Historical average move 19.59%.

I’ll be with you the entire week. And sharing with you some of my best ideas.

Bishop Recommends

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