With SPY puts cheap, here is a quick case that has me contemplating purchasing some downside exposure.

The major indices hang near all-time highs, with the Nasdaq 100 (QQQ) actually pushing to a new high this morning. The SPY has held within a very narrow range between $226 and $230 and I’ve made it clear in recent notes and actions I’m essentially bullish. In fact, so far in 2017 in my 20K Portfolio, we’ve made 10 trades in individual stocks and all have had a bullish bias.

But (there’s always a but) I’m starting to pull in my horns. My concerns stem from the several growing divergences that will eventually need to be resolved before the market’s period of patience grows thin as its honeymoon period comes to an end.

1. Increased uncertainty even as volatility sits at historical lows. The uncertainty goes well beyond tweets. From a policy standpoint we really have no idea what form or when many of proposals will take effect. Just this morning word was floated tax reform will be pushed back to 2018. Right now, the only change to be counted on is a rollback of regulations, which has limited and relatively short term lift.

Globally much remains unknown about specific trade and generally alliances and the downside risks seem equal to the upside. I think many of Trump’s ideas are generally sound, but it’s in the execution, especially when diplomacy is needed, that could lead to unintended and negative consequences.

2. Increased optimism/sentiment even as economic data remains stagnant. Both business and consumer sentiment indices have climbed sharply and that can become a virtuous cycle.

But business won’t significantly increase capital expenditures, make acquisitions or hire until they have clarity on taxes and trade. The glaring weakness in Friday’s job report was no wage gains. That will crimp consumer spending.

3. Market internals are weakening even as we sit near all-time highs. Measure such as breadth, new highs/new lows, relative strength are not starting to diverge, suggesting the market is in danger of rolling over.

I am not predicting a major sell-off and certainly wouldn’t try to time it. All of the above can be resolved or could simply not come to pass. But I think it’s important to lay out the case for what could go wrong. And given the very low implied volatility level it’s probably prudent to have some low cost downside.

It would serve two purposes; 1) provide a degree of comfort for adding addition bullish positions in individual names and 2) be a means of generating some outright profits if volatility does indeed lift higher.

The type of position structure I’m looking at would be a back spread with calendar twist. That is;

Sell near-term close-to-the-money puts and buy twice as many longer dated further out of the puts.

It might look something like this:

-Sell 1 contract February (3/24) 226 Put

-Buy 2 contracts March (3/17) 222 Put

For a $180 Net Debit.

If you were to do a 2×4 contract positon it would cost approximately $360 net debit. The order and risk graph look like this:

The position benefits from both a decline in the SPY and a lift in implied volatility.