Yesterday October retail sales data showed a seasonally adjusted decline of 0.3% versus expectations of a 0.1% decline. This was the largest drop since June and followed a strong 1.1% advance in September. The SPDR S&P Retail ETF, XRT, sold off 1.2% yesterday, which was in line with the S&P 500’s decline. XRT saw heavy option trading yesterday as traders rushed to buy puts, sending XRT’s put/call ratio to 50.6 for the day. The biggest trade of the day was the purchase of 23000 Dec. 60 puts for $1.67 and the sale of 23000 Dec. 56 puts for $0.49. This is known as a bear put spread and will profit if XRT is below 58.82 at December expiration. Traders use these spreads when they are bearish on a stock and sell a further out of the money put in order to subsidize the purchase of a closer to the money put. This decreases the total premium paid, which reduces risk, but also limits profits. If XRT is below 56 at expiration this spread will realize its full value of $4.00 and return a profit of $2.82 or 239% return on risk.
Digging into the numbers of the retail sales report reveals some concerns, which is why traders bought so many puts yesterday. The only sectors that saw a meaningful increase in sales were service stations and grocery stores. Auto dealerships saw a 1.5% month over month decline, the largest drop in a year. Service station gasoline sales jumped 1.4% last month, which, if omitted, mean retail sales fell an even sharper 0.5% last month. Grocery store sales were likely up as a result of Hurricane Sandy and do not represent real demand or growth. Sales that I would have expected to be up because of the storm, such as home improvement stores, actually declined. This report was clearly affected by the storm, which has increased the volatility in recent economic data. Retail sales reports are typically volatile to begin with, and it is not uncommon for large increases to be followed by declines. Therefore I am not getting short the retail sector, but I do feel that long stock positions should be protected by puts or put spreads. There is no denying that this was a poor report and that could lead to more selling in the coming days.