Money Life: ‘Big red flags waving’ even as stocks reach record highs

This interview has been edited for clarity.

Chuck Jaffe: I am joined by Carley Garner, senior commodity strategist at DeCarley Trading. She is also behind trading commodity options with creativity. Carley Garner, it’s great to have you back on Money Life.

Carley Garner: Thanks, Chuck. Good to be here.

CJ: We are at a really interesting time when it comes to talking with technical analysts because we’ve got a market that’s basically at record high levels. And once you get to record highs, well, there’s no upper limit to put on the charts. Is there anything that you’re seeing that is going to be monstrous that lies ahead of us or can this market keep going higher? And how do we set a level for how high it can go?

CG: Well, you know, when traders and investors are in the habit of buying dips, it’s a hard habit to break. So obviously the markets can continue to go higher. However, I see some really big red flags waving. For example, I look at RSI, the relative strength index, and the RSI on monthly, weekly charts and actually even daily, to be truthful, is showing divergence. And what that means is while the S&P and the Nasdaq are making new highs, the RSI is not making a new high. It’s on an upswing, no doubt, but it’s not higher than it was in 2021, not higher than it was in 2018. And so we’re getting a downtrend in the RSI and an uptrend in the equity market. That’s generally a sign of trouble.

That doesn’t mean we turn around in 10 minutes or tomorrow or even next week. Sometimes these things take time and they can get out a hand on the upside before that actually works out as it normally would. It’s going to be rocky. It’s going to make people doubt themselves. But I do think that we are extremely overextended and I think time will weigh on the market says as we get a little deeper into the year.

CJ: Is that setback a necessary setback, a kind of recalibrate, re-coordinate move and then we can take the next step up? Or is that setback the start of something bigger and longer lasting? And does any of this happen before Election Day?

CG: This is going to be a very, very tricky year. Election years are normally positive regardless of how they turn out. There’s obviously a lot of moving parts here. And one thing I should also mention is we’re seeing a lot of things that look very similar to late 2021. And what I mean by that, in late 2021 Tesla TSLA stock was dragging the entire market up with it. We had crypto currencies going bananas, bitcoin going bananas, and we’re seeing something very similar now with Nvidia NVDA stock dragging the market up with it and bitcoin ETF blowing up the bitcoin market and those sorts of things.

So there’s just mass hysterical speculation going on. Reminds me of 2021. We know how that ended. It ended with a very sharp correction. Will this one end the same way? I don’t think it will, to be honest. I’m not bullish up here, but I don’t think the world’s going to end either. I think we get a nice healthy correction, which is exactly what we need.

That said, in the S&P 500, that could be something as low as 4,300. This run has been so dramatic that even a 1,000-point pullback in the S&P isn’t a game changer. It still holds all the trend lines, keeps everything intact, but it’s a nice healthy digestion of what we’ve been through.

CJ: Is there a logical catalyst? Is there something that will set this in motion? I mean, since you mentioned Nvidia, if Nvidia misses earnings or does something like that, is that enough at this point to be a trigger?

CG: The reality is we don’t know until we know. We don’t know what something will come along that we probably maybe aren’t looking at now that will be the narrative a month from now or three months from now, whenever it is. It could be something in the banking system. It could just mean like right now we’re being extremely spoiled by declining inflation and strong economic numbers. Maybe those start to finally turn the corner. You know, who knows, it could be anything.

But I find that in technical analysis, sometimes when the chart says that something is a high probability, it doesn’t always work, but it works more than it doesn’t. And usually we’re finding ourselves using the fundamental narrative or the story of the day to try to explain what already happened in the chart. And so I think it’ll probably be something like that. We won’t know until it happens and then we know.

CJ: In the meantime, how are you suggesting that investors stay involved in the market? I mean, if you see trouble coming, you want to sidestep trouble. But you also said we could still see this rally for a while before trouble hits home.

CG: Yeah, timing is, you know, it’s really, really difficult to pick a market top. And so what I would suggest is I’m a futures and options broker. Most people are not speculating in futures and options, and that’s fine. Most people should not do that. It’s not for everybody, but what the average investor can do is hedge their portfolio. Believe it or not, there are ways to hedge that will give you upside potential and take away a lot of the downside risk. And we call them risk reversals.

I’ll try to keep this very simple. In the e-mini S&P, there’s an option market. You can sell call options, like let’s say, you can go out to June, so you have roughly three months of a hedge for every roughly $250,000 in stock you have. If you sell — this is hypothetical by the way — like if you sell an out-of-the-money call somewhere around 5,300 – 5,400, you can use the proceeds to purchase a put option around a 4,800 – 4,900 strikes somewhere in that ballpark, depending on how aggressive you want to hedge.

Basically, that gives you free insurance. You use the market’s money because you’re selling a call to bring in premium and buy a put option. That way you’re buying insurance, but you’re not using your own money. The opportunity cost is anything that the market rallies above the short call strike price. You’re basically leaving that on the table, but that’s not such a bad deal. I don’t think anyone would complain about that.

To listen to the full interview visit Money Life with Chuck Jaffe.