Investors are looking ahead to a slew of economic data slated for release this week. Wall Street has several indicators to keep an eye on, including the Federal budget balance, the Fed's "Beige Book," the latest round of jobless claims, as well as the Empire State Manufacturing Index. Plus, business inventories, retail sales and industrial production data will be coming out, among other relevant figures.

The earnings docket for this week is also full, with several major names set to step into the confessional, including Aphria (APHA), Bed Bath & Beyond (BBBY), Citigroup (C), Delta Airlines (DAL), Goldman Sachs (GS) and UnitedHealth (UNH), to name just a few. 

The week will kick off quietly with the Federal budget balance is due out.

JinkoSolar Holding Inc. (NYSE:JKS -- $38.86) engages in the design, development, production, and marketing of photovoltaic products. JinkoSolar Holding reported $0.11 EPS for the quarter, missing the consensus estimate of $0.36 by $0.25. The company had revenue of $1.44 billion for the quarter, compared to the consensus estimate of $1.38 billion. Its revenue for the quarter was up 5.5% on a year-over-year basis.

Looking ahead to tomorrow, investors have both the consumer price index (CPI) and the core CPI to look forward to. Separately, the National Federation of Independent Business' (NFIB) small-business index will be released. All economic dates listed here are tentative and subject to change.

Welcome back to our weekly series, Schaeffer's Cannabis Stock News Update, where we recap what happened in the world of marijuana stocks last week, and look ahead to how the cannabis industry will continue to develop in the 2021.

Investor interest in the cannabis industry is growing at an explosive growth rate, and the leading players continue to break through legal barrier after legal barrier, especially in the United States. More than 40 U.S. states legalized recreational and/or medical marijuana by the end of 2020. Now, more and more companies are starting to see the opportunity in cannabis cultivation, marketing, distribution, and technology.

Here is a quick roundup of major cannabis stock news this week:

Canopy Growth Corporation (NASDAQ:CGC) and The Supreme Cannabis Company announced on April 8 that it had entered into a definitive arrangement agreement under which Canopy Growth will acquire Supreme Cannabis in a transaction valued at approximately $435 million on a fully diluted basis.

cbdMD, Inc. (NYSE:YCBD), one of the leading and most highly trusted and recognized cannabidiol (CBD) brands, announced on April 8 that it has signed an exclusive CBD sponsorship with highly decorated yet controversial professional golfer and 9-time PGA TOUR winner, Patrick Reed, to become the latest high profile member of Team cbdMD.

FSD Pharma Inc. (NASDAQ:HUGE) received a Notice of Appeal on April 5 from FSD related to the March 5 decision by the Ontario Superior Court of Justice. The decision ordered FSD Pharma to move up the date of its previously called annual shareholders meeting from June 29 to May 14 and to retain an independent chair to preside over the meeting, and prevent directors from voting recently issued shares.

Another law firm, Rigrodsky Law, P.A and Monteverde & Associates P.C., announced on April 5 that the companies are both investigating Greenlane Holdings, Inc. (NASDAQ:GNLN) regarding possible breaches of fiduciary duties and other violations of law related to Greenlane Holding's agreement to merge with KushCo Holdings.

Organigram Holdings Inc. (NASDAQ:OGI), a leading producer of cannabis, announced on April 6 that Organigram Holding had acquired all of the issued and outstanding shares of The Edibles & Infusions Corporation ("EIC") for consideration of $22.0 million, plus up to an additional $13.0 million in shares payable upon the EIC, business achieving certain earn out milestones.

Innovative Industrial Properties, Inc. (NYSE:IIPR), the first and only real estate company on the New York Stock Exchange, focused on the regulated U.S. cannabis industry, announced on April 5 that it had amended the lease with a subsidiary of Jushi Holdings Inc. at its Scranton, Pennsylvania grower-processor facility, making available an additional $30.0 million in funding for the completion of the buildout of the existing 89,000 square foot building and approximately 40,000 square foot expansion of the facility. 

Later in the week, Innovative Industrial Properties, Inc. (NYSE:IIPR) announced its operating, investment, and capital markets activity year-to-date through April 5. As of April 5, IIPR owned 68 properties located in Arizona, California, Colorado, Florida, Illinois, Maryland, Massachusetts, Michigan, Minnesota, Nevada, New Jersey, New York, North Dakota, Ohio, Pennsylvania, Texas, Virginia, and Washington This represents a total of approximately 6.0 million rentable square feet (including approximately 2.2 million rentable square feet under development), which were 100% leased with a weighted-average remaining lease term of approximately 16.7 years.

HEXO Corp (NYSE:HEXO) launched its latest brand on April 6 called Bake Sale. Bake Sale offers Canadian consumers one of the lowest prices per gram in the country, in some cases as much as 20% less than competitor's products.

Akerna (NASDAQ:KERN), an enterprise software company, leading compliance technology provider, and developer of the cannabis industry's first seed-to-sale enterprise resource planning (ERP) software, announced on April 6 that Akerna  closed on the acquisition of Viridian Sciences, a cannabis business management software system built on SAP Business One.

Sundial Growers Inc. (NASDAQ:SNDL), a Health Canada licensed cannabis producer recognized for its small-batch-at-scale individualized room approach, announced on April 6 that Sundial has entered into a third-party production agreement with Stigma Grow to produce a variety of Sundial's hydrocarbon (BHO) concentrates.

Profitable options trading requires traders to have an edge over everyone else in their trading. One quote that should stick with every serious options trader is from the very popular investor, Warren Buffet, who said, “In markets, be greedy when other are fearful and be fearful when others are greedy.”

The entire ideology of acting against the crowd is based upon the theory of contrary thinking. Application of contrarian principle in options trading can be described most simply as taking positions in the market by purposefully opposing the majority’s sentiment.

When implementing this unique ideology in options trading, traders predict, at times when the whole market is overly optimistic or pessimistic about a stock or the market in general, that a trend reversal is inevitable. A deep dive into sentiment analysis is key here.

In this article, the team at Schaeffer’s Investment Research will provide you a detailed understanding of contrarian thinking and how we recommend utilizing it in the pursuit of huge profits from options trading with minimal risk exposure.

Understanding the Contrarian Approach to Options Trading

As mentioned above, the contrarian principle in trading is when a trader takes positions on a stock by going against the current overriding investor sentiment. The idea here is that when a simple saturation point is reached in a stock, whether during an uptrend or a downtrend, the stock has no other option but to reverse its pricing path.

Therefore, if a stock has been receiving overly optimistic attention concurrent with that stock reaching an overbought position, then a contrarian would lean toward purchasing a put option on the stock to capitalize on the correction.

On the flipside, if a stock has been receiving overly pessimistic attention concurrent with that stock also reaching an oversold position, then the contrarian would know this is the ideal time to purchase a call option to capitalize on the stock price reversal that is looming.

A great example is the 2008 housing crisis when the market was at an all-time high and investor sentiment was over-the-top optimistic. It was the time when it was believed that the only direction market could go was up and up and up. At that moment, proficient traders who used the contrarian approach to identifying options trading opportunities began to purchase put options that bet on stock price crashing within the real estate sector. The traders who were able to capitalize on this over-the-top positivity were able to make a huge amount of profit when the housing bubble popped.

Contrarian thinking is part of the core principles that we employ at Schaeffer’s Investment Research when implementing our Expectational Analysis ® approach to identifying trading opportunities. Our expertise in sentiment analysis, or analyzing crowd behavior, is key to our ability to completely and proficiently utilizing contrarian thinking in our trading.

The Proper Application of Contrarian Thinking in Options Trading

Almost all traders have had the experience of buying calls on a stock after the company outperformed expectations on quarterly earnings, and despite that positive news, the stock price continued to sink. Similarly, almost all traders have experienced buying puts on a stock that just released mediocre earnings that missed expectations and the stock price brushed off the news and continued to soar. These frustrating experiences reinforce the necessity of alternative thinking when trading, especially in the options trading space.

We understand it is highly frustrating and confusing when something that seems like an obvious reaction goes the opposite direction. These situations can cause traders to doubt their gut instincts. But that is not the right path to go down. Think about it like this: everyone knew that the stock underperformed or outperformed on earnings, that fact alone is not going to give you an edge in your trading. A proficient option trader must understand what the majority of traders expected out of earnings and the crowd’s expectations immediately prior to the earnings release to get the full picture of the stock price’s potential future movement.

A hidden aspect which very few consider is the Wall Street sentiment. Trading the stock market is not only about crunching numbers and correctly predicting how events will play out, but also understanding the inclination of market participants. The answer to the above examples can be easily understood by looking into the differing expectations surrounding the stocks prior to the event.

In the case of the stock that outperformed earnings expectations, the sentiment may have been excessively bullish heading into the report, making the shares ultimately vulnerable to a drawdown correction. There may have been a build-up of call options being purchased, or a lot of anticipatory buying of the stock, which then becomes exhausted by the time earnings are reported. Such a high-expectation environment creates a heavy burden on the stock to issue a blow-out earnings report and, even if it does, the pricing for betting against the stock will be far more compelling than that of betting along with everyone else.

For the stock that underperformed earnings expectations, there may have been a prevalent concern about a company's fundamental health and an excessive amount of put options being purchased on the underlying stock. Evaluating the sentiment associated with the underlying stock being considered for an options play is critical to trading around earnings.

With nearly 40 years of options trading experience and proven historical trading results, Bernie Schaeffer and his team of traders at Schaeffer's Investment Research have developed a 3-tier proprietary methodology called Expectational Analysis®  which combines fundamental, technical, and sentiment analysis, providing a bulletproof approach for identifying  and timing options trading opportunities.

The true pioneers of Expectational Analysis®, Bernie Schaeffer and the Schaeffer’ Investment Research team of analysts have tested and developed many different proprietary methods to measure investor sentiment. The distinguishing difference is that indicators used at Schaeffer's Investment Research do not reflect only the overall market, but individual sectors and stocks, specifically.

As an investor, there are two strategies made by companies that you should be aware of: 1) buybacks and 2) stock splits. A stock buyback, at its essence, is when a company repurchases its own stock. This typically boosts the immediate value of the stock, since there are less shares available to trade in the market. A stock split, on the other hand, increases the number of outstanding shares by splitting them (most commonly in the way of 2-for-1 or 3-for-1), which investors often see as long-term strength. 

Buybacks

One reason companies may buy back their stock is if they think it is significantly undervalued, reminiscent of currency inflation, which is certainly a bullish signal for shareholders. Two other reasons are 1) to utilize excess cash, as a way of way of returning extra cash flow back to investors and 2) for tax purposes, giving shareholders a way to defer capital gains. However, it's also important to be wary, as there are companies that will artificially boost their stock price this way, sometimes in order to raise it in the short-term. 

Stock Splits

A stock split, which again, divides one share into multiple, is usually the result of strong price action, pointing to overall health. Giving the shares more attractive prices appeals to a wider range of investors, and the move also improves the stock's liquidity, which refers to the speed at which a stock can be bought or sold without affecting its price. Though stock splits have no effect on the fundamental value of the stock, many still note positive sentiment surrounding them. 

Drilling down, here is how it works: 

For example, if stock XYZ is trading at $90 per share with 1,000,000 available common shares of stock, its market capitalization would be $90 million. Splitting its stock 2 for 1, there would now be 2,000,000 shares of stock, each shareholder holds twice as many shares, the price of each of which is adjusted to $45. The market capitalization remains the same at $90 million.

Reverse stock splits, on the other hand, are the direct opposite. As you could have guessed at this point, this is often done to raise the stock's price. In many cases following a reverse stock split, however, the stock price will actually decline, and there has been some academic research proving as much.  

The price one pays to buy options is called options premium, which is fairly straightforward. Contrastingly, the process that determines the value of this option premium is both multifaceted and complex. There are several factors that influence the value that one will pay to buy options contracts. Understanding these factors becomes pivotal in determining the most suitable time to buy or sell options. If, after completing this article, you still find yourself hesitant to trade options on your own, consider checking out one of Schaeffer's beginner's options trading newsletters. Our options trading newsletters rely on Schaeffer's experts' understanding of options and let you sit back and benefit from our 40+ years of experience. 

Extrinsic and Intrinsic Value

The ultimate goal of options trading is to make a profit, clearly. The value of this profit revolves around the strike price of the options, the price you pay as premium, and the current underlying stock price. In application, intrinsic value becomes the difference between the stock price and the strike price that helps you make a profit. The options will have the highest intrinsic value when the difference between these two variables is the greatest. If you earn no profit when exercising your options at the expiration date, that means your options had zero intrinsic value. When an option holds significant intrinsic value, it's referred to as an in-the-money option.

If a put option has high intrinsic value, you would sell the stock at a strike price higher than the current price of that stock in the market. Alternatively, for a call option, the strike price has to be lesser than the current price of the stock in order for you to gain a profit. Subscribe to the best options newsletter to understand how you can maximize your profits while keeping in mind the intrinsic value of options.

The easiest way to understand what the extrinsic value of options is to subtract the options' intrinsic value from its total value (the value you paid for its premium). An out-of-the-money option is one that possesses a high extrinsic value. If it's an out-of-the-money call option, its strike price will be greater than the underlying asset's market price. Whereas, if it's an out-of-the-money put option, its strike price will be lower than the underlying asset's market price. All of this may seem like a lot of complex information to take in, but the more you commit to understanding options, the easier all of this will come for you.

Options Volatility: Historical Volatility and Implied Volatility

The volatility of an option is the fluctuations that the market price of the stock is susceptible to. Thus, volatility becomes a very crucial factor in deciding the premium that you are going to pay for options. In a nutshell, highly volatile options have higher premiums. This is because they accentuate the probability of profits through the upward and downward potential of the options. If you own a call option, the upward volatility will increase the chances of earning a higher profit. But if you own a put option, the downward volatility will help you sell the underlying asset at a higher price.

There are two kinds of options volatility that you should know about before trading options. The first of these is historical volatility. This kind helps you understand the magnitude of the fluctuations in the value of the underlying stock statistically. The most common method employed to do this is through using standard deviations, however, there are several others too. If the stock has undergone severe fluctuations in its value in the past, it is classified as highly risky. Along with this high risk, comes the probability of earning a significant profit, and thus, valuable options.

Implied volatility is the second common type of volatility. As the name already suggests, implied volatility revolves around the predicted changes in the stock price. This type of volatility becomes extremely important because it helps you understand the market expectations through the eyes of market experts. You can then use this information to estimate the probability of the stock prices fluctuating in the future. Remember, the greater the fluctuation, the more room for you to exercise your profitable options.

Options trading may not be everyone's cup of tea. However, if you are eager to step into options trading, Schaeffer's publishes the best options newsletters that will provide the guidance required to get started.

Eaton Corporation (NYSE:ETN) has been on a steady tear higher, doubling from its March coronavirus-induced lows. Now, after a pullback to support at the 40-day moving average, it looks like ETN is poised to add to its 19% year-over-year gains.

Analysts are mostly hesitant on Eaton Corporation stock, even after the company's Feb. 2 earnings and revenue beat. More specifically, seven of the 13 in coverage carry a "hold" rating on ETN, leaving plenty of room for increased optimism that could push the stock higher.
 
There is some pessimism in the options pits as well, per ETN's 10-day put/call volume ratio of 1.23 at the International Securities Exchange (ISE), Cboe Options Exchange (CBOE), and NASDAQ OMX PHLX (PHLX). This ratio stands higher than 60% of readings in its annual range, suggesting puts have been picked up a slightly quicker-than-usual clip during the last two weeks.

That said, speculating on ETN's next move with options could be a prudent play. The stock's Schaeffer's Volatility Index (SVI) of 25% stands higher than just 7% of all other readings in its annual range, implying that options players are pricing in relatively low volatility expectations at the moment. Lastly, Our recommended call has a leverage ratio of 7.6, and will double in value on a 12.1% rise in the underlying security.

Subscribers to Schaeffer's Weekend Trader options recommendation service received this ETN commentary on Sunday night, along with a detailed options trade recommendation -- including complete entry and exit parameters. Learn more about why Weekend Trader is one of our most popular options trading services.

“Small caps may be the biggest area of opportunity, as measured by the iShares Russell 2000 ETF (IWM -- 190.30) and Russell 2000 Index (RUT -- 1,911,69).  With the IWM and SPY experiencing about the same performance in 2020, there is much more short-covering potential in the small-cap area relative to large-cap stocks.”

-Monday Morning Outlook, December 14, 2020

After year-end 2020 short interest data was released by the exchanges last week, I could not help but think about the comments that I made in the middle of December, as excerpted above. My sense, given the trajectory of moves we have seen in many individual stocks during the past few weeks, is that we have seen major short-covering rallies in the small-cap space since I made those mid-December comments.

Per the table below, this has translated into significant outperformance in small-cap equity-based exchange-traded funds (ETFs), relative to larger-cap ETFs such as the technology-focused Invesco QQQ Trust Series (QQQ – 311.86) or the broader large-cap SPDR S&P 500 ETF Trust (SPY – 375.70). 

“So how do you play this environment?  First, options can be used in lieu of stocks to reduce dollars at risk but allow leverage to work for you in the event you are playing stocks to the upside that might rally…”

          -Monday Morning Outlook, December 21, 2020

In fact, one of a few strategies that I have recommended during this past month is the use of call options as a substitute for stock plays in recognition of the bullish price action amid the sentiment-based risk, emerging Covid-19 vaccine headlines, and new strain uncertainties. Call options allow you to reduce your dollars invested, define your risk, and the leverage gives you attractive profit opportunities. 

With the above in mind, many of our subscribers benefitted directly from the small-cap, short-covering advance, taking huge profits on GameStop (GME), Bed Bath & Beyond (BBBY), SunPower (SPWR), Under Armour (UA), Shake Shack (SHAK) and Axon Enterprises (AAXN) call options. 

If the short covering continues, the best opportunities are likely to continue to be found in small-cap equities in the weeks ahead. 

While there has been short covering among S&P 500 Index (SPX – 3,768.25) components, which is likely supporting the index on pullbacks, total short interest is at a multi-year low. Plus, if you are looking at large-cap technology names, as measured by short interest in QQQ components, you may be fighting a headwind as short interest is building from a multi-year low.  

Meanwhile, short interest on Russell 2000 Index (RUT – 2,123.20) components is decreasing. From a broader perspective, total short interest on its components is nearer to multi-year highs, which leaves significant room for covering activity. Whether you are utilizing call options to speculate on individual stocks or allocating equity investments between small caps or large caps, ensure that you give the small-cap space focus.

“…despite the headlines, some of which could have given the bulls pause, the SPX never breached the rising 20-day moving average, which sits below the first level of potential support on a pullback, which is the 2020 close of 3,756.07.”

          -Monday Morning Outlook, January 11, 2021

Ahead of the long weekend, Friday’s action saw everything pull back, whether large cap, technology, or small cap. Even though high-profile banks reported much stronger-than-expected earnings and President-elect Joe Biden released his stimulus plan on Thursday evening, buyers were nowhere to be found. 

That said, last week’s pullback in the SPX can hardly be defined as one that would stir panic among traders, who have been extremely bullish during the past several weeks. Friday’s SPX low, in fact, was around its 20-day moving average, which is now sitting around its 2020 close of 3,756, which I identified last week as the index’s first level of potential support.

The CBOE Market Volatility Index (VIX – 24.34) rose slightly last week, but Wall Street’s “fear gauge” still isn’t hinting at major volatility ahead, as it remains well below its 252-day moving average. Moreover, per the first pane in the chart below, the round year-over-year 100% gain in this index acted as a “resistance” point, which has been the case since mid-December. 

Looking ahead to the end of the month, if this 100% year-over-year gain in the VIX comes into play, it will be on the heels of a surge into the 36 area in November, as it was around this time last year that it began rising from the 12 area into the 18 area, just weeks after China disclosed a novel virus had emerged in the country.

One thing we are not seeing now relative to this time last year is the emergence of a significant number of VIX call buyers relative to put buyers, per the chart immediately below. These call buyers proved prescient with respect to their timing last year, when VIX calls were being purchased at a rate of four-to-one relative to puts in the previous 20 days. At present, this ratio stands at only 1.35.

To conclude, one (or all) of the following strategies continue to be recommended:

1. Use calls in lieu of stocks to manage sentiment-based risk but also play the current trend higher.
2. Use straddles -- the simultaneous purchase of a call and put -- for the same reason as the first bullet (and to manage earnings risk).
3. If not using call options as a stock replacement, consider index puts to hedge long stock positions.
4. Emphasize small-cap stocks over large-cap equities.

Todd Salamone is Schaeffer's Senior V.P. of Research

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