Gross domestic product growth improved at an annual rate of 2.3% in the third quarter, according to the third estimate released by the Bureau of Economic Analysis.  The update reflects upward revisions to personal consumption expenditures and private inventory.

Total nonfarm payroll employment rose by 199,000 in December, underperforming expectations, although the unemployment rate continued to drop sharply and now stands at 3.9%, the U.S. Bureau of Labor Statistics reported. Job growth was particularly noteworthy in leisure and hospitality, professional and business services, transportation and warehousing, construction and manufacturing.

Initial jobless claims for the seven days ending January 6 came to 207,000, a 7,000 week-over-week increase. The less volatile four-week moving average was 204,500, an increase of 4,750. These figures have begun to quaver in a narrow band – up a little one week, down a little the following week.

The Consumer Price Index for All Urban Consumers rose another 0.5% in December on a seasonally adjusted basis after rising 0.8% in November, the Labor Department reported. Over the last 12 months, the all-items index increased 7.0% before seasonal adjustment. Increases in shelter and used vehicle costs were the largest contributors as energy prices declined for once.

We made a new year’s resolution to start tracking the benchmark 10-year Treasury yield. This closely watched metric is used as a proxy for mortgage rates as well as an indicator of investor sentiment. A rising yield indicates falling demand for Treasury bonds, which means investors prefer higher-risk, higher-reward investments, and a falling yield suggests the opposite. The yield ended 2021 at 1.512%, up from 1.444% over December. It started 2021 at 0.937%.

The S&P 500 capped a stellar year with a +4.8% December increase on a total return basis; for the full year, it advanced +28.7%, assuming all dividends were reinvested. There are some storm clouds, though. Market breadth is very much a concern. Despite the index’s overall gain, 77 of the S&P 500 stocks ended 2021 down 20% or more off their recent highs. Some Wall Street watchers are talking about a “hidden bear market”.

Even so, the CBOE VIX “fear gauge” dropped sharply for the month – 36.3% -- and was down 25.7% for the year. This reading of 17.33 suggests continued investor confidence in equities.

Stocks mostly recovered from November’s worldwide retrenchment last month. In Europe, Amsterdam’s Euronext 100, Frankfurt’s DAX and London’s FTSE 100 were all up around +5% in December. For the year, Euronext advanced +21.9%, Frankfurt +14.4% and London +14.3%. In Asia, Tokyo’s Nikkei 225 rose +3.5% for the month and +4.4% for the year, while Shanghai’s SSE Composite added +1.6% in December for a 12-month +4.2% gain. The outlier was Hong Kong’s Hang Seng, which dropped -1.5% last month and -14.7% for 2021.

The Federal Reserve decided to reduce the monthly pace of its net asset purchases by about one-fourth and indicated that further inflation-curbing moves could be in the offing. It is widely speculated that the Fed will hike its target overnight rate from 0.25% to 0.5% in March, and could raise it once or twice more in 2022. Much of the central bank’s plans are contingent on those of the virus.

Oil prices erased their November drop as West Texas Intermediate crude increased +16.6% to end December at $77.15 per barrel; it was up +59.4% for the year just ended. Meantime, inflation hedge gold rose +2.1% to end the month at $1,814.10 per ounce. Surprisingly, considering that inflation was up almost 7% last year, gold actually declined -4.9% for the 12-month period.

The dollar gave back its November gains, dipping -0.1% against the euro and -1.7% against the yen. It still held steady against the pound, gaining +0.1%. For the year, the dollar declined against all these reserve currencies: -0.4% in London, -7.2% in Frankfurt and -10.0% in Tokyo.

Cryptocurrency continued its bearishness in December. Bitcoin, at $45,872 on December 31, was down -20.2% for the month -- but long-term holders shed no tears for the benchmark token, which was up +35.9% for the year.

Optional features

Equities boomed last year. A positive year was expected by many, although the extent of the upside came as a surprise to many market followers.  In addition to the surging S&P 500 performance, it was a record year for exchange-traded funds, meme stocks, SPACs, IPOs and a whole bunch of other formerly obscure instruments.

They say this can’t last forever, but they have said things like that every year for the past decade. It is still true and, even if it weren’t there’d be no way of knowing if 2022 will see a gain of 3% or of 30%.

If you want greater control over your returns and you’re not one to just park your entire nest egg in an index fund, you have the option of investing in, well, options.

(Before we proceed, we remind you that this article is for educational purposes only and we’re not recommending options trading for all readers. Consult your financial advisor before starting options trading.)

Contracts expand, but does knowledge?

A lot of people dove into options trading during the pandemic. According to the Options Clearing Corp., investors traded a record 7.5 billion options contracts in 2020 then blew past that in 2021, when 9.9 billion contracts changed hands.

Option contract volume in billions. Credit: OCC

We’re not convinced that everyone who traded an option, though, knows what one is. Let’s start there. An option is a contract giving the investor the right – but not the obligation – to buy or sell a specific security at a particular “strike” price during a given period, ranging from days to years. When that time ends, the option expires and loses all value. As expiration dates approach, options lose value.

There are two kinds of options:

1. Calls give the buyer the right to buya specified number of shares – usually 100 – of a stock or ETF at the strike price any time before the contract expires.
2. Puts give the buyer the right to sella specified number of shares at the strike price any time before the contract expires.

Options trading is complex and can be risky.

“[I]nvestors can lose as little as a small prepaid amount of the premium when a trade moves against them and seems set to expire out of the money, or they can experience as unlimited losses — their initial investment, plus infinitely more — depending on the strategy used,” Elizabeth Gravier writes for NBC Select.

Gravier points newbies toward the Securities and Exchange Commission’s options terminology explainer and online options-trading courses offered by Udemy and Skillshare.

Tools, not magic bullets

“Like all investment choices you make, you should have a clear idea of what you hope to accomplish before trading options,” Gravier cautions.

Essentially, there are two things you can do with options: maximize income from trading or minimizing the downside of those decisions you made that the market moved against.

“In terms of advantages, options trading can offer flexibility as well as liquidity. Compared to other investment options, you may be able to invest with smaller amounts of capital,” according to Ally Invest senior options analyst Brian Overby. “Options can be used to create downside risk protection and diversify your portfolio. And a savvy options trader could generate substantial returns.”

There’s a certain amount of 3D chess involved in even the most basic options trading. Experienced traders generally don’t just buy or sell an option in isolation; it’s usually part of a bigger strategy with a precise goal. Overby lists three of these strategies:

1. A covered call has two parts: You purchase an underlying asset. Then you sell call options for the same asset. So long as the stock doesn’t move above the strike price, you can realize profits by selling call options for the assets you own.
2. A married put involves purchasing an asset and then purchasing put options for the same number of shares. This approach gives you a measure of downside protection by allowing you the right to sell at the strike price.
3. A long straddle involves buying a call and put option for the same asset with the same strike price and expiration date at the same time. This approach may be used when an investor is unsure which way prices for the underlying asset are likely to move.

Failure actually is an option

Before taking on the risk of options trading, you might want to calculate the maximum gain, maximum loss and breakeven points of your strategy. Of course, you need to benchmark those against your personal risk tolerance before you can determine if dabbling in options are  a good idea.

While there are options profit calculators on the Web, you might be more confident in the quantitative rigor of your trusted financial advisor. This professional might be able to provide feedback into what your true risk tolerance is. In addition, the exercise might be helpful in determining which broker offers you the precise tradeoff of low fees, research, tools and human touch that you need to comfortably trade options.

-David

David Camarillo, CFP®, ChFC, CFS

Director of Advisory Services

David is a proud Trinity University alum, where he earned his Bachelor of Arts in English and History. He started his career in the financial services industry in 2005 at Wells Fargo, and in 2007 he joined H.D. Vest Financial Services where he consulted for the company’s top financial advisors. He held a Series 7 and 66 until 2018, and he still holds life and health insurance agent and variable insurance products agent. He obtained the Certified Financial Planner™ (CFP) designation in 2011, the Chartered Financial Consultant (ChFC) designation in 2014, and holds the Certified Funds Specialist (CFS) designation. David has been a Wealth Advisor with Smith Anglin since 2014, and in 2019 he was promoted to Director of Advisory Services.

Outside the office David stays active with his wife, Mayra, and two kids, David Jr. and Amelia. David is an avid runner, racing everything from the 5k to the marathon. He enjoys hiking nature trails with his family and their dog, Bo, and playing guitar loudly when possible. He also volunteers with Back on My Feet and the North Texas Food Bank.