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Window Dressing Can Be Ugly: Firing Line

The problem with window dressing is that the average retail investor doesn't recognize that it's happening, like the boiled frog.

BOCA RATON, Fla. (TheStreet ) -- You can set your watch to the yearly events when the financial media rolls out the regular market sages for their sound bites of wisdom.

"Sell in May and go away."

There's the "Santa Claus rally" followed by "Tax selling at the end of December" followed by "The January effect."

Then we have "The Fall fall."

No we don't. I just made that one up. Historically, the market tends to wallow or retreat when the professional folks return from summer in the Hamptons and get back on the trading desk. But this year, the markets have bucked the trend and have seen a steady upward drift, with a significant rally of late.

What gives?

To use another financial media sound bite: "Window Dressing."

Window dressing is street slang for portfolio managers who need to make their portfolios look better by selling losers before the end of the quarter and adding recent winners. This way their clients open their quarterly report, see all the recent big name winners, throw it in the trash, and then go back to sleep.

The problem with window dressing is that the average retail investor doesn't recognize that it's happening, like the boiled frog. We covered this in our

Fox3

Live Trade Brief this morning. Many of our students thought this recent string of up days was the "all clear" sign and that the time was right to jump in on the bullish side.

Not at

Fox3 Options

. We know it's time to take cover and to tighten the ejection seat straps.

At

Fox3 Options

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we conduct thorough intelligence gathering with disciplined checklists before walking onto the financial battlefield. Along with the window dressing, our reconnaissance reports show a recent pop in the VIX from 20 to 24. The VIX is usually the canary in the coal mine and it has awakened from its upper teens to low 20's slumber. Risk is creeping back into the market.

After the window dressing is complete we see a pullback a coming. There's simply nothing good on the horizon to sustain this recent lift. Unemployment and housing retain their status as the main speed breaks on any recovery. Businesses see an uncertain political climate and don't know if they're going to be the next lucky recipient of a flaming arrow from Washington. Bottom line: this cocktail hour is about to end and the hangover will be sudden and rapid.

Fortunately as options traders, we can make some money off of this potential movement.

Let's take a look at one potential high flyer --

Netflix

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. I get the business model. I get that

Blockbuster

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declaring bankruptcy is good for them (maybe). I get all of it.

What I don't get is the max performance takeoff from 120 on Aug. 31 to a recent high of 160. Or the 60-point launch from 100 at the beginning of August. The recent window dressing of fund managers adding NFLX to pad their portfolios, coupled with a short squeeze, makes NFLX a nice target to shoot down. And at

Fox3 Options

, we like shooting things down.

As options traders, we can make money three out of four ways on a NFLX bearish bet: stock stays where it is, goes up a little or goes down. We win. The only way we lose is if NFLX continues its suborbital trajectory. It can certainly happen, but we believe it's time for a breather. Let's take a look at the October 165/170 bear call spread.

With NFLX currently trading at 161, this vertical spread could be sold for 1.80 (not including commissions). The max profit is the premium collected, 1.80.

The max loss is the difference between the strikes (5), minus the premium collected (1.80), or 3.20.

Using at-the-money volatility, the probability of achieving the max profit is 60%, while the probability for max loss is 32%. Not bad odds.

The risk to reward ratio is 1 to .56 and the breakeven is 166.80, or the sold call plus the premium received. There's a 63% chance of at least breaking even.

Earnings are two days after October expiration so there may be some choppiness as we approach expiration. But with a bearish strategic mindset underlying the market, we feel confident in this target.

Firing Line: But like attempting to select the window treatments at my house, I might be completely wrong. Of course, I should've known off white plantation shutters were the way to go. Duh...

Matthew "Whiz" Buckley is a partner at

Fox3 Options LLC,

a provider of options education and practical applications for options traders of all levels. He is also the founder of Strike Fighter Financial LLC, a business-consulting firm specializing in leadership development, risk management and strategic planning for Fortune 500 companies and related organizations. Buckley flew the F/A-18 Hornet for the U.S. Navy. He's a graduate of TOPGUN, has close to 400 carrier landings and flew 44 combat sorties over southern Iraq. After leaving active duty, he served as a managing director at a Wall Street volatility arbitrage options firm and was a founder and the CEO of a financial media company. He is an internationally recognized speaker and combined his experiences in the military and corporate America in his book "From Sea Level to C Level."