OPTIONS

With just a month to go before the tight Presidential election race, the staff at BigTrends.com have been collecting trading ideas on how to play the election from various options traders.

Options traders in the US stock market are getting their bets in place in case the US economy tumbles down the "fiscal cliff," or worse, if the US Presidential election is so close that the result is disputed.

The stock market has been relatively calm in recent weeks in the face of uncertainty over the November 6 election and concerns that the economy could be pitched into a new recession because of substantial tax rises and government spending cuts—the so-called fiscal cliff—due to hit early next year unless Congress agrees to cancel or delay them.

Some option traders already are starting to build up protective positions on these big risks. In an environment of subdued volatility, the cost of doing so is relatively low, making it advantageous to take out insurance in case Washington remains gridlocked for an extended period after the election and the markets are roiled.

According to InTrade, current odds show President Barack Obama will be re-elected. [BigTrends.com: Currently 64% odds on Obama, however, that has dropped quite a bit since the 1st Presidential Debate] However, expectations are Republicans should maintain control of at least the House of Representatives and possibly gain marginal control of the Senate.

Republican presidential candidate Mitt Romney's strong performance against Obama in the first of three debates last Wednesday night has improved his odds, though not yet enough to put him ahead in the polls.

The biggest shock would be if the election was so close that there was a legal battle over who won, mirroring the struggle between George W. Bush and Al Gore in 2000. That could further hurt the chances of compromise in Washington, and spook investors and the credit ratings agencies.

In the 2000 battle, Gore emerged as the winner of the popular vote, but the results in Florida were disputed. Legal arguments dragged on for a month before Bush was declared the winner in Florida by 537 votes, thus giving him a margin in the Electoral College and the presidency.

During those weeks, the CBOE Volatility Index (VIX) on an intraday basis crossed above 30 on more than one occasion, suggesting heightened anxiety. The widely watched gauge of investor anxiety ended at 14.33 on Friday, under its long-term average of 20.5 and well below the panic levels of 40 and higher seen last year during the worst of the Eurozone crisis and after the US lost its triple-A credit rating.

In 2000, the S&P 500 (SPX) fell about 5% to 1359.99 between Election Day and when the election result was finally resolved in mid-December.

Given the fiscal problems and weak economy, the impact of any disputed election would likely be greater this time around. The chances of a close call and subsequent legal disputes may have increased given there are already court battles over voter identification laws introduced in a series of states.

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Tickers Mentioned: VIX, SPX, DIA, XLV, AET