Witching Day: Increased Volatility Possible As Futures, Options Contracts Expire – Forbes

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Halloween is still more than a month away, but today looks like it might be a good day for a “witching.” A “quadruple witching,” actually.

Friday marks expiration for index futures and options and stock futures and options, the source of the “quadruple witching” expression. This could explain some of the big moves the market made on Thursday when two key U.S. indices hit record highs amid what appeared to be some re-balancing action in ETFs.

It also could mean increased volatility and higher trading volumes, especially near the open and close Friday as contracts get executed and active traders look for investment opportunities. Witching day is generally a non-event for long-term investors, but it’s something to consider at least being aware of if the market starts making some gyrations as the session advances.

If the market does gyrate, it’s unlikely going to be due to any earnings or data news. There’s just not a lot out there. Next week could get more interesting as the Fed gathers for its meeting starting Tuesday and Dow Jones Industrial Average component Nike reports earnings. Also, the market might end up being pretty calm in the middle of the day Friday between surges in volatility early and later in the session, a pattern that’s often typical of a quadruple witching day.

Stocks had a mixed tone in pre-market trading early Friday after a solid performance overnight from Asian and European stocks. China’s battered Shanghai Composite jumped 2.5%, in part on easing trade fears.

Dow Posts First New High Since January

It took nearly eight months, but the venerable Dow finally made another new high Thursday.

The Dow pushed through the 26,616 level it reached back on Jan. 26 as it climbed more than 250 points to finish at nearly 26,657. This could be seen as more symbolic than meaningful, because the Dow has just 30 stocks. Arguably the bigger news Thursday the much broader S&P 500 scoring a new high for the first time since Aug. 29.

Looking at the fast elevator ride upward these last few days, it seems possible that the tariff news is simply baked in after so many months of worry, and also that some investors might not be sweating what the futures market sees as better than 90% chance of a rate hike next week.

Rate Hikes and Tariffs? Apparently Baked In

Many investors also seem to be taking in stride the upward march of 10-year yields, which rose to 3.07% early Friday and are near four-month highs. Any move above 3.1% could potentially be psychologically important, as yields haven’t been able to get much over that level so far this year. It looks like yields are building in a risk of higher inflation, perhaps partly due to tariff-related price increases. It could be interesting to listen to quarterly calls next month to see if executives mention any tariff-related pricing pressure and whether that might get passed along to consumers.

You can talk about tariffs and potential rate hikes, but the tariff focus could be getting overplayed as a market factor. The rally to new highs might be better explained if you look at the underlying picture. Unemployment is at its lowest level since 2000, wage growth is accelerating, and earnings might keep charging along, with many analysts predicting another quarter of 20% or better EPS growth in Q3. There’s still some worry about weaker markets overseas, but many investors apparently see the U.S. economy on a roll and perhaps view foreign shares as a little less enticing. That could explain money coming into the U.S. market while overseas shares lag a bit.

Another potentially bullish factor could be some weakness in the dollar lately. The Dollar Index has fallen four days in a row and is now at its lowest level since early June. There’s a possibility that the dollar slide could play into company earnings results, because Q3 financials still have a few more days to get accumulated before the quarter ends. A lower dollar is often helpful for multinational companies with business abroad. And although the small-cap Russell 2000 rallied earlier this year in part on help from both the tariff fears and the stronger dollar, it showed no sign of worry Thursday as the dollar weakened and tariff fears dissipated. The Russell rose 1% (see Fig. 1 below).

New Life For Beaten-Down Names

Some stocks that suffered rough rides so far this year got a little new life Thursday.

Under Armour was among the leaders, posting a 6.6% gain as the company announced plans to lay off 400 more workers as part of a restructuring effort. You never like to see people lose jobs, but investors apparently embraced the news as potentially helpful to the company’s bottom line, and the stock rallied. Speaking of Under Armour’s bottom line, the company raised the lower end of its fiscal 2018 guidance a few pennies, so that might also have helped shares rise.

Another company announcing layoffs was Wells Fargo, and it also got a stock market boost Thursday. Wells Fargo plans to cut 10% of its workforce in three years.

It’s harder to remember, but shares of Caterpillar took a hit earlier this year when executives talked about Q1 being the “high water mark” for the company financially. Well, that hasn’t been the case so far, and Caterpillar shares rallied more than 2% Thursday as a Wall Street firm raised its target price and rating on the stock.

Meanwhile, Micron reported fiscal Q4 earnings late Thursday that easily beat Wall Street analysts’ estimates on both top-and bottom lines, and shares jumped in post-market trading. This comes after shares slumped earlier this month amid worry about the memory chip pricing environment. The earnings report from Micron seemed to ease product demand fears in an industry that’s a bit of a bellwether for technology demand. However, shares fell in pre-market trading as some investors seemed disappointed with the company’s guidance.

Checking the Data

Data-wise on Thursday, existing home sales for August came in about flat, while the Philadelphia Fed Survey showed improved manufacturing activity. Leading indicators revealed no signs of easing in August, rising 0.4%. The July figure got upwardly revised to 0.7%, from the previous 0.6%, and August leading indicators strength was widespread, Briefing.com noted. So from an economic perspective, it was a pretty good looking set of numbers.

If you like economic data, Friday isn’t really your day. The only data point really worth watching might be the weekly Baker Hughes oil rig survey. That number rose by 7 the prior week and is up 119 over a year ago. The crude oil market continued to rally late this week, and it seems unlikely that even another bearish rig number would do much to stand in the way, but as baseball great Yogi Berra said, “It ain’t over ‘till it’s over.”

FIGURE 1: Green in Red: The U.S. dollar, or “greenback” as it’s sometimes fondly called, has inched lower for weeks after hitting highs above 96 in mid-August, as this one-month chart shows. At the same time, the small-cap Russell 200 Index (purple line), has also come off highs. Small-caps had appeared to derive some support from thoughts that they might be more shielded from any impact on overseas sales caused by a stronger dollar, but a declining dollar might help diminish that particular bullish story. Data Sources: FTSE Russell, ICE. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.Data Sources: FTSE Russell, ICE. Chart source: The thinkorswim® platform from TD Ameritrade.

Sector Shuffle: A brand-new sector debuts Monday when Communication Services becomes a constituent of the S&P 500. However, it won’t be added to the 11 familiar sectors we all know. Instead, it’s more of a shuffle, with the current telecommunication services sector renamed Communication Services and given a far broader portfolio. Where will the stocks in Communication Services come from? The consumer discretionary and tech sectors will both give up a number of companies in a way that’s designed to help the sectors reflect their titles more accurately.

This could affect performance in all of the sectors mentioned, including tech and consumer discretionary. The tech sector is losing 19.5% in market cap, and the consumer discretionary sector is losing 21.4% as stocks get transferred to the new sector. We’ll explore the shifting landscape a little more below, but one thing to consider keeping in mind about the new Communication sector is that it’s likely to be quite different from the telecom sector that’s been around for so many years. “Ultimately, the new communication service sector will better reflect the rapidly changing way the world’s population communicates,” said Lindsey Bell, Investment Strategist at research firm CFRA, in a note Thursday. “It will result in a more cyclical, lower yielding sector. The forward multiple on the new sector could be as high as 28.0 (times earnings),  up sharply from the lower growth, value-oriented telecommunication sector that currently trades at 10.6 (times earnings).”

What’s Moving? The new Communication Services sector will represent 9.8% of the S&P 500 Index, a big jump from just 2% now. Recently, just three stocks—Verizon, AT&T, and CenturyLink—have constituted telecom. That changes in a big way Monday with the sector’s renaming. Tech will make up 52.7% of the Communication sector, CFRA said, and consumer companies will account for 28.7%. Legacy telecom companies will be just 18.6%. The biggest names most people have heard of heading into Communication are some of the tech giants like Netflix, Facebook, and Alphabet. But other names might also sound familiar, including Disney, Twenty-First Century Fox, Twitter, and Electronic Arts, among others.

Arguably, the sector that’s affected most is tech. Many investors have gotten used to thinking of companies like Alphabet and Facebook as “tech” companies, but the new sector formation arguably reflects reality a bit better. Once the new sector gets started, Facebook and Alphabet alone will constitute more than 45% of its market cap, according to CFRA, but those stocks will be paired up with legacy telecoms like AT&T and Verizon as well as with some of the consumer discretionary names like Disney and Netflix. It’s quite a shift, and it might take time for some of us old-timers to get used to the new landscape.

Oil Rallies Ahead of OPEC Meeting: One factor getting ignored a little is crude oil, which is looking like the untold story of the week. U.S. crude futures reached nearly $71 a barrel early Friday ahead of the OPEC meeting this weekend. The meeting comes as Iranian production falls and other OPEC members have been raising output. Investors might want to keep an eye out for any possible headlines coming out of OPEC over the weekend that might affect Monday’s session. Many investors seem worried about tariffs, but if you listen to CEOs, they’re talking about the dollar and energy.

TD Ameritrade® commentary for educational purposes only. Member SIPC.

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