The December FOMC statement still lists economic activity among the various districts as moving at a moderate pace, in line with its previous statement. The benign reality is that despite decreases in the unemployment rate, productivity and income gains have not manifested themselves throughout the entire economy.
The terrifying news for put option holders is that increases in the target for the federal funds rate are likely to occur sooner than regularly anticipated. This means that the onus is on the investor to predict movement in the trends of consumer and business confidence to estimate the appropriate exit strategies from the hedge contract.
In this market, one wants to put upon the seller at the time that the optimal market rate to utilize the option occurs. Sellers generally utilize put options to recognize a gain when there is a decrease in the value of the asset. As rates remained historically low, there was no realistic need to put upon holders of maturing and close to maturing securities to trade at the current market rate.
Now that that rate may or may not increase, holders can put upon traders to sell or utilize their options. The higher the market rate of interest, the lower the value of debt securities issued with lower interest rates. Additionally, GAAP (Generally Accepted Accounting Principals) require companies to immediately adjust income to record the value of options contracts. As bond and equity markets profit conditions move in converse, the trend of lower stock prices will also call for a re-evaluation of their[stock] hedge prices. We saw the three major indices, DOW, S&P 500 and the NASDAQ hit negatives last week, in anticipation of the FED's rate decision.
Voting in the negative were Dallas, Minneapolis, and Philadelphia Reserve Chairs. All of whom posited concerns that I agree with, although I keep to the FED's actions of naming an indeterminate time frame for the eventual rate increase.
Dallas FED chair, Richard Fisher, citing that the increases in October employment numbers accelerated the need for an increase in the federal funds rate, was a credible and real fear. I, however, prefer to see if those numbers materialize and are not negatively adjusted, post fourth quarter re-evaluations.
http://alphastrategygroup.info/673-fomc-analyssis-2014
