By John Persinos
This pandemic year, if you had fallen into a deep sleep on New Year's Day and awakened on the early morning of October 28, you'd look at the stock market's performance year-to-date and see that the Dow Jones Industrial Average is down about 5% and the S&P 500 is up about 4%. You'd think: Hmmm. Very dull. Not much has happened.
How wrong you'd be! During your stint as Rip Van Winkle, you would have missed the fastest bear market (and the fastest recovery from one) in history, with record-breaking 1,000-point swings along the way.
This week, as the contentious November 3 elections get closer, sharp volatility has returned with a vengeance. On Monday, the three main U.S. stock market indices plunged as coronavirus cases soared, Wall Street gave up hope on new fiscal stimulus, and the presidential election continued its norm-shattering ferocity.
Losses extended on Tuesday in choppy trading. The Dow fell 222.19 points (-0.80%) and the S&P 500 shed 10.29 points (-0.30%). However, the NASDAQ Composite rose 72.41 points (+0.64%), with technology shares regaining favor as investors looked to a post-COVID world dominated by Big Tech. The CBOE Volatility Index (VIX) closed above 33, a seven-week high.
In pre-market futures trading Wednesday morning, the three main indices are set to open deeply in the red, with the Dow down by nearly 500 points. Wall Street is nervous about an election that might be contested and riven by street violence. Investors also are disheartened by the failure of Washington to deliver a second coronavirus relief bill, despite the severe economic recession.
Individual investors of the buy-and-hold school hate volatility. But options traders love volatility, because it provides greater opportunities to make money. More about the power of options trading, below. But first, let's examine the turbulent investment backdrop.
Seems like forever…
It seems as if the coronavirus has always been with us, but in actual fact, the third quarter of 2020 was only the second full earnings season directly affected by the ramifications of COVID-19. Third-quarter earnings aren't projected to decline as badly as they did in the second quarter, but the contraction is bad enough.
According to research firm FactSet, third-quarter 2020 earnings for companies in the S&P 500 are projected to fall 16.5% from Q3 2019. This would represent the second biggest year-over-year decline since Q2 2009 (the nadir of the Great Recession), when earnings dropped 27%, only trailing Q2 of this year, when earnings plunged 32%.
As for Q3 revenues, the S&P 500 is reporting a year-over-year decline of -3.3%. Health care, consumer staples, and technology are leading the way in Q3 revenue growth (see chart).
The big U.S.-based banks kicked off earnings season on a largely upbeat note. Robust trading and investment banking performance drove increases in revenue, while the amounts set aside for loan defaults decreased substantially.
Bank earnings tend to establish the tone for the season and serve as a bellwether of overall economic growth. One immediate tailwind for the financial sector is the seasonality that banks typically experience in the autumn, when demand for investment services and tax planning starts to pick up.
After salting away billions for possible loan losses earlier in 2020, the big banks are expressing confidence in their ability to cope with defaults, a possible indication that stronger economic growth lies ahead in 2021. Nonetheless, despite relatively resilient operating results for Q3, financial services stocks remain among the weakest of the S&P 500 sectors, down by double digits year to date compared to the broader index's nearly 5% gain.
Flying blind…
Most companies reporting to date have beaten consensus estimates and boosted guidance as a result. But dark skies remain. The major airlines are posting horrific worse-than-feared Q3 operating results, despite slashing costs, and they may take several months to fully recover.
We still have about half of corporate earnings reports ahead of us and results could take a sharp turn for the worse. Many companies are flying blind. More than 25% of the companies comprising the S&P 500 haven't offered earnings insight for the fourth quarter or 2021, because the pandemic has rendered several traditional financial metrics useless.
A bright spot, of course, is the Federal Reserve's aggressively dovish stance. No matter who wins the presidential election, the Fed will indefinitely sustain loose monetary policy, whether it's a Trump or Biden administration.
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However, the race for the White House is taking place amid a sharply polarized electorate. If the results are disputed, stocks will probably crater.
These political risks make proactive trading more important than ever. The crashes of 1929, 1981, 1987 and the more recent tumbles of 2007-2009 are all examples of situations when complacency was punished.
That's why you should consider the innovative strategies of my colleague Jim Fink, a renowned options trader. Jim is adept at putting volatility to profitable use. He knows better than anyone that for options traders, volatility generates greater opportunities for higher risk/higher reward trading.
In his capacity as chief investment strategist of Jim Fink's Inner Circle, Jim has come up with a pre-election trade that's positioned to reap a windfall. Make this one trade before election night, and you're 95.96% likely to win. Do you like the sound of those odds? Get the details of Jim's trade by clicking here.
John Persinos is the editorial director of Investing Daily. Send your questions or comments to mailbag@investingdaily.com. To subscribe to John's video channel, follow this link.
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