Talk Of A Major Stock Selloff
Back on Monday, CNBC reported that “some investors are betting tens of millions of dollars that the market is headed for a selloff — a major selloff.” According to CNBC, over $500 million in put options have been purchased betting that the Standard and Poor’s 500 index will decline anywhere from 5% to 11% next month. Some investors are even buying put options calling for a 52% decline. A put becomes more valuable as the price of the underlying stock depreciates relative to the strike price. Looking at an example provided by Investopedia, if you have one Mar 07 Taser 10 put, you have the right to sell 100 shares of Taser at $10 until March 2007 (usually the third Friday of the month). If shares of Taser fall to $5 and you exercise the option, you can purchase 100 shares of Taser for $5 in the market and sell the shares to the option’s writer for $10 each, which means you make $500 (100 x $10-$5) on the put option.
What’s different about the present situation is the amount of money involved. Bill Lefkowitz, options strategist at brokerage firm Finance Investments in New York, told CNBC that, “The activity in those puts has been a lot more aggressive then we have seen in the past… If the Fed doesn’t cut Fed funds, the options market is telling you that the overall stock market will come down hard.” Andrew Wilkinson, a senior market analyst at Connecticut-based Interactive Brokers, added, “We don’t know who the end users of these options are and often they are specialists, pros looking at arbitrage plays, so the common man doesn’t necessarily need to be concerned. But it’s a legitimate build of people wanting protection against the next 10% down should it come.”
According to CNBC, Fed-fund futures and a variety of market pundits have been forecasting a 100% likelihood the Fed will lower the benchmark lending rate, meaning there’s no room in the market from the Fed for a surprise. It will be interesting to see the effect on the financial markets should the Federal Reserve Bank opt to keep benchmark interest rates steady at their September 18 meeting.
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