November 07, 2008

Jeremy Grantham (Chairman of GMO) has turned bullish. This guy is a bear man. Stocks are cheap like the 1987 levels.

Investment grade credit is cheap. Spread between investment grade bonds and Treasuries has widened to more than 5% points, a more normal spread would be 1 pt.

Calls sold against an existing stock position is called "overwriting," or "covered call writing." This classic conservative strategy makes sense as options volatilities are high, and many stocks seem stuck fluctuating between well-defined trading ranges. Moreover, the high volatility translates to pricier options, a good thing for the investor who is selling them.

The Chicago Board Options Exchange's Market Volatility Index (VIX) was recently at about 57, a relatively high level that is driving up the call premiums that call sellers are receiving.

Say you own Apple, and want to increase the yield of the stock, but do not necessarily want to sell the stock, at least not at the current price. Selling calls helps to generate some extra money.

With the stock at about $99, you could sell the November 110 calls for $2.40, or the November 115 calls for $1.33. If the stock price pushes past $110 or $115 before, or when the stock expires Nov. 21, an investor has to sell the stock. If the stock is not "called away" because the price never exceeded the stock price, investors keep the money for selling the premium.

The downside to selling covered calls is if Apple stock exceeds expectations. The call seller is left with some income, but he has conceded the upside to the holder of the call.

Many investors like to sell options when they are richly priced because they think the volatility will decline. This is true in normal markets, but be advised that the fourth quarter of 2008 is anything but a normal market. In fact, the historical volatility of many options is higher than implied volatility. When selling options, you want volatility to decrease, not increase. The high historic volatility of many options underscores the heightened volatility risk.

Capital Projects / Spur Infrastructure: Pennsylvania voters approved a $400 million bond issue for improvements to water infrastructure and waterways across the state. The referendum includes a variety of potential projects, including sewage overflow mitigation, new construction and upgrades of water and wastewater treatment facilities and sewer and drinking water line repair and replacement.
Potential beneficiaries could include Mueller Water Products (MWA) and Northwest Pipe (NWPX) for delivery of pipe to replace existing lines and use in treatment facilities, and Layne Christensen (LAYN) for construction of new treatment facilities and upgrades. We anticipate projects will be spread over several years.