Alert: Short the S&P 500 ETF (SPY:AMEX) and buy put options (SFBRM)

Dear Wall Street Eliter,

The holidays have brought us into the New Year and it’s great to finally be back in Baltimore and in touch with you. In addition to having the electricity out during Christmas, I was delayed at Midway airport in Chicago on my way back home.

It absolutely blows my mind to think that these airports do not offer free wireless Internet or enough plugs to power up the good ‘ol laptop. To make matters worse, I waited over two hours in line to check in my luggage, only to sit on the plane for another two hours while the baggage was loaded.

But wait… it gets better!

After living in the airports from dusk till dawn, I flew into BWI here in Baltimore only to discover that just one of my two bags made it back. So, this is the way I kicked off 2008 — what a drag.

I’m sure at some point in your life you’ve experienced the same thing, unless you’re smart and do the carry-on option when possible. If only the luggage operation was outsourced to Fedex or UPS — they seem to have the whole supply-chain management thing down.

With my back against the ropes, I was eager to find out how the markets did while I was bogged down in the snow. Well, a 200-point drop in the Dow wasn’t the news I was looking for. Talk about kicking a guy while he’s down… sheesh.

A common phrase in the market goes something like this, “Look for the first week of January to get a good feel as to how the market will perform for the year.”

I’m not sure about the historically accuracy of this statement, but if it’s true, then the markets could very well spill over into a recession that all the bearish gurus have been talking about.

Out of curiosity, I had to perform a long-term analysis on the Dow Jones Industrial Average to get a sense of where things are likely to go in the coming months.

This morning I brought up a one-decade monthly chart of the major index and found something quite disturbing on the Moving Average Convergence Divergence (MACD) technical indicator.

The MACD just signaled a long-term sell!!!

I had to go all the way back to the sell signal of early 2000 to find such bearish sentiment in the economy. If you remember, it was during the 2000 year when everything started to unravel. By 2001, we were in a full-blown recession.

Nothing is a guarantee here, but I am working to balance the portfolio, allocating more trades to short and put option opportunities as they arise.

I’m wasting no time getting into our next play. It was just this morning that I discovered a technical breakdown in the S&P 500 Spider ETF (SPY:AMEX). On a multi-year monthly chart, the MACD indicator turned sour on the index and you can be sure we’ll take advantage of the situation immediately.

Now, you could keep your money in cash, but who wants to hold onto a collapsing green back like the folks who get scared with their 401k retirement fund and just want to sit in something safe for a while.

The good news is that we have some options here. You could short the S&P 500, ticker SPY, and look to gain about 10% on the deal when the index drops to roughly $130. Or, you may wish to play the options. In my opinion, the risk-to-reward ratio is much higher here. Specifically, we’re looking to buy put options, ticker SFBRM, and hold it for up to six months. Now, the move to our target price of $130 for the index could come much sooner, but just to be safe, I’ve extended our time frame out to the June ’08 contracts.

Our recommendation: Short the S&P 500 ETF (SPY:AMEX) at or near $145.11. If you would like to play the options, buy June 143 SPY puts (SFBRM) at or near $7.53.

Good investing,

Kip Morgan
Quantitative Analyst, Wall Street Elite