Debit Spreads

Obviously a significant technical day today with several 'key' levels being breached to the upside. The strong finish was also impressive for the indices. Of course buying now seems a little risky with the unemployment data (8:30 ET) coming out tomorrow morning. Overall, I would like to see the market pullback here... as to present me with a much better entry point. I will continue to look to buy the dips on some individual stocks/ETFs.


I will be keeping POT on my watchlist. I think the pullback (almost touching its 50 day MA today) will still present a good buying opportunity. Commodities as a group have taken a beating lately, both in the media and in price. Keep in mind though that some commodities, like potash, and unlike gold, have an actual use and thus justify a higher price.
Notice the magnitude of some of the recent POT pullbacks:
1) 8/14/07 --> 20%
2) 11/08/07 --> 31%
3) 1/15/08 --> 18%
4) 4/23/08 (as of today) --> 19%
If you do consider going long, be sure to give yourself plenty of time. Notice, historically, how long these pullback recoveries tend to take and act accordingly. If the thought of purchasing all that extra time doesn't turn you on, consider financing your Call purchase with the sale of some further out-of-the-money Calls - known as a Debit Spread. Debit spread possibilities/combinations are limitless (expirations, spreads, strikes, etc).


Here is one example, if you thought POT would make another 52 week high before September expiration. What would normally cost $2,100 (SEP 200 Call) will only cost $630 when done as a debit spread. Of course there is a downside: you will limit your potential profit to $1,370.

Your breakeven point (at expiration) will be 206 with the debit spread vs. a breakeven point of 221 with the outright calls. Theoretically, the outright calls do have unlimited profit potential. If you believe that anytime before September, POT has the potential to go to 250, for example, go with the calls. Your decision between outright calls and a debit spreads should have more to do with realistic price targets than hope. Personally I like to reserve straight calls for very short-term plays or pure speculation.