Do This To Avoid Getting Stuck In A Sideways Market

Amber Hestla's picture

Wednesday, December 21, 2016 - 12:00am

by Amber Hestla

Trading stocks involves a combination of paying attention to present factors while also forecasting the future. And the closer we get to the end of the year, the more emphasis people seem to place on what's to come.

We already have forecasts for 2017 from more than a dozen major Wall Street firms, which I've collected in the table below. So far, analysts are thinking "inside the box," with all estimates relatively close to one another. Some firms provide an outlook for earnings per share (EPS) on the S&P 500 while others provide a price target on the index, with many firms providing both. For comparison, EPS is expected to be about $110 for 2016.

Projected EPS
Index Target
Bank of America
Credit Suisse
Deutsche Bank
Goldman Sachs
JP Morgan
Morgan Stanley

According to the consensus of Wall Street's biggest firms, we're in for an absolutely normal year of standard stock market gains.

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While I'm sure that's not surprising to many, what's striking to me is that no one seems to be anticipating a particularly extraordinary year. Since the election last month, the news has been filled with extraordinary events from around the world, any number of which could swing the stock market in 2017.

Because the market tends to surprise investors, the likelihood of a big year, either up or down, seems high. 

In my opinion, odds favor a downside surprise. At the end of 2017, the S&P 500's price-to-earnings (P/E) ratio would be about 18 based on analysts' expectations, which would be well above average. A downside target of about 2,050 for the index would be in line with the historic average. That would result in a potential loss of about 9%. But that assumes earnings meet expectations, which also seems like a risky assumption. 

Analysts expect EPS growth of about 16% next year. This would be more than twice as fast as the average rate of growth seen since 1988. It would also be the fastest growth rate since 2011, when companies were recovering from the steep declines in earnings seen during the Great Recession.

While it's possible that we'll see such strong growth, I think it's unlikely. Not only am I expecting earnings estimates to decline in coming months, but I also believe we'll see the S&P 500 fall into a trading range as the market waits to see what the new president actually does when he takes office next year.

And even if the analysts are correct and the market does rise in 2017, the table above shows they only expect average returns for the year. 

For traders who don't want to settle for that, I have an alternative strategy I've been using to generate average annualized returns of 27% per trade.

An Alternative Strategy That Yields Double-Digit Annual Returns
I'll be honest, this trading strategy may not be for you. Some may find it too far out of their comfort zone, but I've found it's the perfect way to combat the low potential returns of this market.

And not only has it produced returns of 27% per trade, but since I started showing it to members of my Income Trader service in February 2013, 134 trades out of 140 closed trades have been winners. That's a win rate of 96%.

My strategy involves options, which is a dirty word for many investors.

That's because most options, over 80% by some estimates, expire worthless, meaning the option buyers are left with nothing. 

But think about what that means for the option sellers for a second.

As an option seller, you're selling something that more than likely is going to be worthless to the buyer in a few weeks, meaning you get chance to keep the cash they paid you, known as the option premium, without any further obligation. 

You might be asking yourself, "Who would take the other side of this bet?" After all, someone is paying you for options that expire worthless the majority of the time.

The answer is simple: There are a lot of investors who make poor financial bets. 

In Income Trader, when we sell a put option on a solid, profitable company, for example, we're betting that it won't fall to fire-sale prices. We get paid up front to make that bet and keep that money no matter what. 

The worst thing that could happen is we're forced to buy a company we like at a bargain price. This happens if the stock falls below the option's strike.

As long as the stock is above the put's strike price when the option expires, though, we keep the premium as 100% profit. 

Let's walk through a real-life put sale that my Income Trader subscribers just saw expire worthless on a company I know many people would be happy to own: Apple (Nasdaq: AAPL). 

On Nov. 4, we sold a put on Apple with a $104 strike price for $55 per contract. Traders could have easily scaled up and made $110 by selling two contracts, $275 on five contracts or $550 on 10 contracts.

This option expired on Nov. 18, meaning we needed AAPL to close above $104 on that day. If it did not, we would be obligated to buy 100 shares per contract at $104 apiece -- a 7% discount to where the shares were trading at the time. 

To execute this trade, most brokers require a small margin deposit or "down payment" of about 20% of the potential obligation. In this case, our potential obligation was $10,400 ($104 x 100 shares) per contract, so our margin deposit was $2,080 (20% of $10,400). 

On Nov. 18, AAPL closed above $100 and the option expired worthless. We kept the $55 as pure profit without having to do a thing, earning a 2.6% return on our $2,080 deposit in about two and a half weeks. That works out to be a roughly 64% annualized return on one of the most profitable and widely traded companies out there.

This was our third time selling puts on AAPL since July, earning an average annualized return of 46%.

Is Put Selling For You?
If you're looking for quick triple-digit gains or hoping to turn a small bet in a hot, breakthrough stock into life-changing gains in one shot, my strategy probably isn't for you. 

But if you're looking for a conservative way to make steady income in the market and beat the meager returns analysts are predicting, then I think you owe it to yourself to at least explore this strategy a bit further.

I've put together an eight-minute training video that explains how I've used this strategy with a 96% win rate.

And if you want to begin receiving weekly put selling trades, complete with full instructions, you can sign up here at a 67% discount.

We offer a 60-day, no-risk guarantee, so if you decide it's not for you within the first two months, we'll give you a full, 100% refund.

Amber Hestla does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.