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Productivity better than expected

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This morning's economic data has productivity at many of the nations factories and businesses rising to 2.7%. That was higher than the average estimates from economists for a 2.0% rise. Higher productivity is a good thing in the eyes of the Fed as an increase helps keep inflation fears at bay. One of the concerns the Fed has been mentioning during past FOMC meetings is the lack of spending by corporations on products that actually help a corporation increase its productivity. Corporate spending has been low as cost cutting measures have been implemented at many factories and businesses to offset lower revenues due to the slower economic conditions.

Stock futures lower

Stock futures are lower this morning after yesterday's 50 basis point rate cut that has pushed the fed funds rate down to 2%, which is the lowest level since 1961. Stocks rallied strong after the rate cut, but it looks like we're in for some profit taking near the open of trading. Currently we're seeing S&P futures trade down 6 points to 1,114, NASDAQ futures are lower by 20 points at 1,516 and Dow futures are down 65 points to 9,530.

Still uncertain about the future?

It's time for another "straddle" options trade for those that just aren't sure, which things are going. All I'm doing is looking for a stock where "uncertainty" looks to be found, but where a break from uncertainty will have the stock on the move and potentially putting some profits in my pocket.

In early October, I highlighted a "strangle" trade in shares of Microsoft (NASDAQ:MSFT) when the stock was trading near the $57.50 level. We felt the stock was near a "pivot point" (a point where buyers and sellers were really in disagreement about where things were going, but movement in price away from uncertainty might have MARKET carrying a trend). For the first time since we profiled that trade, the position has turned positive and it has been the call portion that is proving the winner.

AOL Time Warner Chart -

I'll disclose my bullish bias toward shares of AOL Time Warner (NYSE:AOL), but I also think a trader that lacks conviction about the current market environment can make some money in the stock with a straddle option trade in the December $35 call and put.

The longer-term trend is bearish and currently resides near the $39 level. I think yesterday's move above the $34.25 level has the stock carrying a near-term "buy side" bias into today's trading. Six sessions ago, upward trend from the recent lows held and the stock move higher from there. This then creates what I think is a "pivot" point of uncertainty right in here at $35.

Open interest (number of contracts currently opened) on the call side for December expiration is 12,837 contracts at $35.00 (AOELG), while open interest in the December expiration on the put side is 4,710 at $30 (AOEXF).

Yesterday, call volume was heavy on AOL at the Dec. $37.50 (AOELU) strike and Jan02 $40 (AOEAH).

Here's what the straddle would look like based on last night's closing option prices. Also included is what the earlier profiled strangle in Microsoft is looking like.

Option Strategies - hypothetical investment in 1 contract each

The open interest and weighting of call/put open interest is currently bullish for AOL. For those somewhat hesitant about trying to predict market direction, I think a straddle strategy makes sense at the $35 strike. An initial position in the AOL straddle would cost a trader $525 (plus commission) based on last night closing offer prices for each call/put options contract.

Microsoft Update

Now lets quickly review the Microsoft (NASDAQ:MSFT) strangle trade as it may be time to close this one out should it hit one of our original targets. Remember, we were "neutral" on Microsoft (MSFT) near $57.50 as the stock was sitting right on 50% retracement at that time.

Microsoft Chart -

With the strangle trade of Microsoft (MSFT) now beginning to work and the position getting fractionally profitable from profiled, a trader may want to be ready to close the trade near the $67.50 level. This was the "call target." Should shares of Microsoft trade $67.50, then the November $60 call (MSQKL) should be bid (bid is what you can sell for) $7.50. Therefore, 1 contract (equal to 100 shares) would be worth $750. Total invested was $530 (call=$270, put=$260) and would have the trader locking in a 41% gain (excluding commissions).

Traders should remember that a strangle trader in the above position can still lose the total $530 investment should MSFT close between the $60 and $55 level before option expiration of Friday, November 16th. As is always the case, a profit can never be realized until the trade is closed.

Jeff Bailey
Senior Market Technician
Option Investor

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