Inspiration can arrive from the oddest of places.
It can come in a simple flash of understanding to a combat soldier hunkered down in his foxhole. It can come from the sight of a baby, innocent and wide eyed, in a moment of warmth and awe.
Inspiration can come from the words of wise men and women, who’ve suffered enough in this world to know the difference between what’s important and what’s not.
But can come just as easily from the egotism of the schemer, whose life and example are anathema to us, driving us away from our own folly and selfishness toward a truth that’s all-encompassing.
Here at Normandy, we’re always looking for new sources of inspiration, new data series, new contacts from the business world and Wall Street, new ideas from far flung countries, or sometimes from just a new look at an old technical indicator to give us an edge in the trading game.
So it shouldn’t surprise anyone to see our playful nature turning up the following bit if eye-catching chartitude – a comparison of the transport sector and silver bullion that reveals a relationship that we believe could be worth some money.
To be fair, it’s a relationship that obtains between the transports (DJTA) and the whole precious metals complex – of which silver just happens to be the most pronounced representative.
Take a look here –
The relationship is anything but perfect, but it appears that for the last three months the Dow Transports (DJTA) and the iShares Silver Trust ETF (NYSE:SLV) have been moving in a sharp inverse correlative (black lines).
That relationship is actually somewhat more aged than the three months we’ve captured here. We highlight it now because it’s now focused enough to be tradeable.
The only question is how…
Our approach at Bourbon and Bayonets has always been to take a directional approach to our trades. What’s that mean? Well, for example, a simple long/short trade that bought the trannies and sold silver might or might not be successful. Should the markets rise, it’s most likely the transports would follow, outperforming the dirty metal and producing for us a profit. But what if the markets fell? We could well see silver outperforming and be forced to close with a loss on the trade.
It’s therefore best for us to consider one direction only for the initiative, i.e., a rise in the markets (or a fall) and play the trade accordingly.
Options permit us to do exactly that.
A long/short trade using CALL options, therefore, might look like this –
We buy, to open, a five or six month CALL on the iShares Dow Jones Transportation Average ETF (NYSE:IYT) and sell one of roughly equal value on SLV. The trade will gain in value on any outperformance of IYT over SLV, will close worthless if both fail to rise above their respective strikes by expiry, and will lose money if SLV rises faster than IYT.
Conversely, we could choose to play the relationship with PUT options. In that case, we would –
Buy, to open, a five or six month PUT on SLV and sell a corresponding PUT of roughly equal value on IYT. The same dynamic would therefore obtain – IYT’s outperformance would create for us a profit, the trade would close worthless if both stocks remained above their respective strike prices at expiry, and would lose money should IYT drop faster than SLV.
Not the Same Trade Whatsoever
On face, it looks like these two trade choices are exactly the same, but they’re not, and choosing incorrectly could be the difference between winning or breaking even on the one hand, and sustaining a cataclysmic loss on the other.
Your job is to determine which of the two loss scenarios is less likely – SLV rising or IYT falling.
And that’s where the technicals come into play.
Have a look at IYT –
The stock has just peeked above all its moving averages but still has some seven percent to climb before it breaks above six month resistance in the 166/168 range. RSI offers hope, but MACD won’t confirm any move higher for maybe another week (in blue).
On the other hand, here’s SLV for the same period –
Silver presents the opposite picture. She’s fast approaching her all-time lows, is below all her MAs, and as of the beginning of this week, RSI and MACD are both sub-waterline, offering an all-out bear signal for technicians.
With momentum clearly pointing lower for SLV, a rise for that stock appears a less likely prospect than a fall for IYT.
Play it accordingly.
Many happy returns!