After some bouts of selling in May, the stock market appears to be edging higher again as we are at the end of the trading month today.
As I said in January, it will not be easy to make money this year, given the cuts in easy money flowing into the capital markets. The S&P 500 is leading the pack with a 3.46% gain as of Tuesday. If you annualized the five-month return, the advance comes out at 8.3%. I expected to see the index advance about 10% to as much as 15% this year, so we may be lucky to reach the lower estimate if the stock market can manage to move higher. (Read about some dividend-paying stocks to boost your returns in “Five Dividend-Paying Stocks for When the Market Slides Lower.”)
Growth stocks, which were the Wall Street stars in 2013, are now the dogs of Wall Street, as investors shift their capital into lower-risk big-cap stocks. The NASDAQ is up a mere 1.45% this year, while the small-cap Russell 2000 is languishing with a 1.86% decline.
Now keep in mind that we are currently in the worst six-month period for the stock market from May to October, based on historical tendencies.
This doesn’t mean there’s no hope for the stock market going forward, but again, it won’t be easy. May is looking to produce a positive advance, so there’s some optimism.
What I think will likely continue to happen is the stock market will tread cautiously in the absence of any fresh new catalyst to entice investors to buy in.
We are entering into the final month of the second quarter, so it will be interesting to see if the results for the second-quarter earnings season are better. The previous excuse of blaming corporate America’s results on the winter weather can no longer be used to the same degree.
Now, should the stock market drift for the next few quarters, you can play the sideways trading via selling covered call options on some or all of your existing long positions that have associated options. Under this strategy, you can generate option premium income from your outstanding long positions if the stock market drifts sideways and does little. The premium income can also be applied to reduce the average cost base of your stocks.
This is a strategy I use in all stock market conditions, but especially in situations in which I feel the upside may be limited. I can make some premium income at the same time.
The key is to make sure you are comfortable, just in case the stock market or your stock rallies more than you thought and you are forced to sell your stock that is written. Make sure the strike price of your covered call option is not too low; otherwise, you risk your underlying stock being taken out (exercised) too soon.
Remember, too, that the strike price is also the price at which you are willing to sell your underlying stock. Make sure you select an appropriate expiry. The nearer the expiry, the lower the premium income, and the shorter the timeframe will be. The longer out the expiry, the more the premium income, but it allows the buyer of the covered call a longer prior for the stock to reach the strike price.
The most important thing is to be comfortable in the notion that you could be forced to sell your stock if it rises above the strike price. At the same time, enjoy some premium income.