• Subscribe
  • Log In
  • Home
  • Daily Diary
  • Asset Class
    • U.S. Equity
    • Fixed Income
    • Global Equity
    • Commodities
    • Currencies
  • Sector
    • Basic Materials
    • Consumer Discretionary
    • Consumer Staples
    • Energy
    • Financial Services
    • Healthcare
    • Industrials
    • Real Estate
    • Technology
    • Telecom Services
    • Transportation
    • Utilities
  • Latest
    • Articles
    • Video
    • Columnist Conversations
    • Best Ideas
    • Stock of the Day
  • Street Notes
  • Authors
    • Doug Kass
    • Bruce Kamich
    • Jim Cramer
    • Jim "Rev Shark" DePorre
    • Helene Meisler
    • Jonathan Heller
    • - See All -
  • Options
  • RMPIA
  • Switch Product
    • Action Alerts PLUS
    • Quant Ratings
    • Real Money
    • Real Money Pro
    • Retirement
    • Stocks Under $10
    • TheStreet
    • Top Stocks
    • Trifecta Stocks
  1. Home
  2. / Investing
  3. / U.S. Equity

Dancing With the Cyclicals

I am buying long-dated bull call spreads within the mining-and-materials sector.
By BRET JENSEN
May 21, 2013 | 09:00 AM EDT
Stocks quotes in this article: FCX, HL, X

I have been struggling for several weeks to articulate how I feel about the current market. Equities seem to be getting away from economic fundamentals even as the market continues to relentlessly grind higher. Luckily, Doug Kass took the time yesterday to masterfully map out how he has been right on the economic fundamentals yet very wrong on the strength of the markets. If you have not read it (notation 1), I encourage you to take the time, it is well worth the five minutes.

My outlook and concerns are very similar to Doug's. I also think the Federal Reserve is "pushing on the string" right now and is very close to doing more harm than good with its current policies. Multiples have expanded significantly over the rally of the last seven months even as profits and economic fundamentals have not kept pace with rising stock prices. I personally believe the market is overdue for a significant correction (about 5% to 15%). However, a good investor always puts some money in play in case he is wrong; which unfortunately occurs all too often. As the saying goes, "You got to get up and dance as long as the music is playing."

I see two scenarios for the market right now. The market has a substantial setback sometime before the end of the year as the divergence between stock prices and their underlying fundamentals becomes too great. This could be the result of Federal Reserve "tapering" or a series of other possible negative events that hit the economy and/or the markets. I have a solid amount of cash on hand to buy on "dips" if this scenario plays out. I have also sold some of out of the money calls on some of my positions have shot up in the rally.

The other scenario is that the market is correctly anticipating a substantial improvement in the world economy. This will buoy demand and corporate profits and justify the run-up in equity prices. In this scenario, the beaten-down materials and mining sectors, which have substantially underperformed in this rally should have major moves upward.

One of the strategies I am using right now to gain exposure if this scenario plays out is buying long-dated bull call spreads on some cyclicals within the mining and material space. Given the low volatility/tiny option premiums available in the market right now, I think this play makes a lot of sense.

Let's take a look at how this would look in practice on a position I took on silver miner Hecla (HL) when the stock traded at $3.20 a share in early trading yesterday. Like most miners, Hecla has turned in a brutal performance so far in 2013. The shares were going for double the current price as recently as late 2012. However, the shares are incredibly cheap right now, trading at just 84% of book value and roughly 6x its earnings in 2011. The company has rapidly growing revenues, is still turning a profit and has an unencumbered balance sheet with significant net cash on the books. Its production is also in geopolitically stable North America. There are many scenarios I can model in which the stock will be trading much higher 12-24 months from now.

Therefore, I initiated 50 long-dated bull call spreads on the stock yesterday. I used the January 15 $4/$5 call pair to put this strategy into play. The cost for simultaneously buying the $4 calls and selling the $5 calls was $0.20 or $20 a contract. My total outlay was $1,000 plus commissions.

By initiating this option spread, I get exposure and significant upside on ~$16,000 worth of Hecla stock while protecting myself on the downside. If I am right and Hecla is trading above $5 in January 2015, I will pocket a profit of $4,000 minus commissions. This is an equivalent to a 25% gain on buying 5,000 shares of Hecla outright while my downside is limited to just $1,000.

I like this type of play as its preserves my capital to buy the market if it goes significantly lower while giving me exposure to upside should the market prove me wrong and continue to move higher. Investors who are looking for similar bull call spreads on other cyclicals should consider Freeport McMoRan (FCX) and U.S. Steel (X) among many other options.

Get an email alert each time I write an article for Real Money. Click the "+Follow" next to my byline to this article.

At the time of publication, Jensen was long FCX and HL.

TAGS: Investing | U.S. Equity

More from U.S. Equity

Here's the Boeing Trade I Made Today

Timothy Collins
Feb 24, 2021 12:06 PM EST

I love this chart and I'm woefully underexposed in this area.

A Market Bounce Has the Potential to Fail

Guy Ortmann
Feb 24, 2021 10:52 AM EST

Insiders are increasing selling activity.

Following Some Quick Corrective Action, Stock-Pickers Are Back

James "Rev Shark" DePorre
Feb 24, 2021 7:08 AM EST

After the chaotic action Tuesday, I am looking for a renewed focus on stock-picking.

Preparing for the Next Market Move

James "Rev Shark" DePorre
Feb 23, 2021 1:42 PM EST

Now is the time to make sure you have maximum flexibility.

Some Index Support Levels Fail: Data Suggest More Downside

Guy Ortmann
Feb 23, 2021 10:03 AM EST

We are not out of the woods yet.

Real Money's message boards are strictly for the open exchange of investment ideas among registered users. Any discussions or subjects off that topic or that do not promote this goal will be removed at the discretion of the site's moderators. Abusive, insensitive or threatening comments will not be tolerated and will be deleted. Thank you for your cooperation. If you have questions, please contact us here.

Email

CANCEL
SUBMIT

Email sent

Thank you, your email to has been sent successfully.

DONE

Oops!

We're sorry. There was a problem trying to send your email to .
Please contact customer support to let us know.

DONE

Please Join or Log In to Email Our Authors.

Email Real Money's Wall Street Pros for further analysis and insight

Already a Subscriber? Login

Columnist Conversation

  • 12:31 PM EST PETER WILLSON

    Has the Short-Term Top Come for the XLF/Banks?

    The has triggered a long-term overbought signal ...
  • 10:10 AM EST GARY BERMAN

    DLTR: The Buck Might Not Stop Here, but I Am Looking for a Bounce

    Dollar Tree is trading inside our long-term boun...
  • 08:36 AM EST GARY BERMAN

    Wednesday Morning Fibocall for 2/24/2021

    SPX (Long-Term View) The 2/16 HIGH @ 3950.43 is ...
  • See More

COLUMNIST TWEETS

  • A Twitter List by realmoney
About Privacy Terms of Use

© 1996-2021 TheStreet, Inc., 225 Liberty Street, 27th Floor, New York, NY 10281

Need Help? Contact Customer Service

Except as otherwise indicated, quotes are delayed. Quotes delayed at least 20 minutes for all exchanges. Market Data & Company fundamental data provided by FactSet. Earnings and ratings provided by Zacks. Mutual fund data provided by Valueline. ETF data provided by Lipper. Powered and implemented by FactSet Digital Solutions Group.

TheStreet Ratings updates stock ratings daily. However, if no rating change occurs, the data on this page does not update. The data does update after 90 days if no rating change occurs within that time period.

FactSet calculates the Market Cap for the basic symbol to include common shares only. Year-to-date mutual fund returns are calculated on a monthly basis by Value Line and posted mid-month.

Compare Brokers

Please Join or Log In to manage and receive alerts.

Follow Real Money's Wall Street Pros to receive real-time investing alerts

Already a Subscriber? Login