Small caps played some catch up again last week with the Russell 2000 (RUT) gaining about 2.7% while the large cap oriented Russell 1000 (RUI) was up 1.75%. There is still more work for RUT to do as it is underperforming RUI by about 3.6% in 2016.
VIX made a new 2016 low last week while the CBOE Russell 2000 Volatility Index (RVX) did not. This is surprising since small cap stocks outperformed large cap stocks last week, but I’m learning that how RVX and VIX interrelate doesn’t always make sense.
On Friday, there was one trader that expects small cap stocks to find a floor over the next three weeks. The floor I speak of is 1025 and the trade occurred when RUT was trading around 1037. I often write about out of the money put spreads in this space, but they are usually very far out of the money. This time the trade involves selling the RUT Mar 18th 1025 Puts at 15.50 and purchase the RUT Mar 18th 995 Puts at 7.86 for a net credit of 7.64. The risk to this trade is a new bear leg and RUT at 995 or lower which would result in a loss of 22.36. As can be seen in the payoff diagram below a drop of 4% is needed for the worst case outcome to this trade.