This week we will look at how the markets have run into a little slowdown which could lead to a pullback. For this reason we will dive down into the different sectors of the market and look for a pullback trade where we can short an extended sector. There are many areas of the market that find themselves extended in the short term and a brief scan through the sectors yields many different opportunities to play for a pullback.
One area that offers short term extension as well as some overhead resistance is the transportation sector. Using the (NYSE: IYT) ETF to look we can see that just since the beginning of the year the IYT has run up about 15%. Further we note that it has found an important technical resistance area being the 200 day moving average. With these two things in mind we will look for a short trade to benefit from a downside or sideways move.
Given that the ETF is fairly expensive we will look to use an options trade to play this sector. Looking out to the March monthly expiration we will look at the 191/193 short call spread to play for a downside move. Currently the trade offers a credit of about $0.95. By selling this call spread we will profit should the IYT move lower or simply trade sideways under the 200 day moving average.
Our breakeven will be about $192 (short strike plus credit) which means we could even see the IYT push a little above the 200 day moving average should there still be more upside. Ideally the IYT will start to pullback here in the short term and we can look for a quick 50% profit on the overall trade.
While this is simply a less capital intensive way to participate on the downside of the sector, one could also consider simply selling shares short. If that is the case then a pullback to the $185.50 area would be the short term target.