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Will Emerging Markets Head Lower?

By Chris McKhann of OptionMonster

NEW YORK -- Emerging markets have been steadily drifting higher, but one enormous trade is looking for a pullback.

OptionMonster's tracking programs Tuesday detected a giant put spread in the iShares Emerging Markets Fund (EEM), which holds a wide range of companies in Korea, Taiwan, China, Russia, and Brazil. The investor bought 197,450 October 40 puts for 38 cents and sold the same number of October 37 puts for 13 cents. Volume far outstripped the previous open interest in each strike, which indicates that new positions were established.

Owning puts locks in the price where the EEM can be sold, while selling them forces them to cover that short at a certain level. Combining the two allows a $4 differential to be controlled for a tiny fraction of the cost. Tuesday's trade, for instance, cost just 25 cents and will earn 1,100% if the fund declines 10% by expiration.

The emerging-markets fund fell 0.07% to $44.20 Tuesday after reaching a 52-week high of $44.32 earlier in the session. It bottomed out at $37 in early February.

Overall option volume in the fund was six times greater than average in the session, with puts accounting for a bearish 84% of the total.

McKhann has no positions in EEM.

This commentary comes from an independent investor or market observer as part of TheStreet guest contributor program. The views expressed are those of the author and do not necessarily represent the views of TheStreet or its management.

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