Option Investor
Market Wrap

Big blue beat estimates but investors turned red on Friday.

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       WE 1-22           WE 1-15           WE 1-08        WE 12-31
DOW     9120.67 -219.88  9340.55 -302.77  9643.32 +461.89  - 36.56  
Nasdaq  2338.88 -  9.27  2348.20 +  3.79  2344.41 +152.22  + 29.52  
S&P-100  610.38 -  6.08   616.46 - 19.56   636.02 + 32.08  -  3.91  
S&P-500 1225.19 - 18.07  1243.26 - 31.43  1275.09 + 45.93  +  4.15  
RUT      422.44 -  4.61   427.05 -  4.18   431.23 +  9.27  + 16.42  
TRAN    3063.80 - 84.73  3148.53 -211.75  3360.28 +210.97  +108.48  
VIX       32.85            29.75            23.88            25.41
Put/Call    .54              .56              .48              .55

Big blue beat estimates but investors turned red on Friday.

The bluest of the blue chips turned red on Friday after beating analysts estimates. Even though they posted a win on the surface the numbers behind the numbers painted the true picture. IBM made $.04 a share on hedging currency. What this means is the currency of other countries went up in value compared to previous levels and IBM either made money on their currency hedge instruments or the currency their customers used had gone up in value over the value assigned when the deals were first done. If you agreed to pay 1 million Baht for a computer when the Baht was worth 125 to the dollar and by the time the computer was delivered the Baht was worth 100 to the dollar then IBM would get a windfall profit of +20%. The difference between 125 and 100 to the dollar. (The numbers used are for example only and not accurate) So IBM did not do anything to earn the extra money except be in the right place at the right time. IBM also had less sales than expected which did not go well with analysts.

After the smoke cleared IBM had lost -$17 for the day. -$16 bln in market cap. IBM accounted for over -70 points of the Dow loss for the day.

SUNW on the other hand beat estimates by $.01 and announced a split and only closed down -.44 for the day. It really was not the fault of SUNW. The Nasdaq was hell bent on following the Dow down even though it made several nice runs to positive territory during the day. Sun had a backlog of $770 million in orders and more coming in every day. The CEO said sales were expected to increase as much as +20% this year. We expect SUNW to continue upward with any Nasdaq rally.

The Clinton problem took a hard turn on Friday. With Republicans starting to defect and looking for an easy way out to avoid more negative press, the prospects of a dismissal look better every day. This would help the market some as "no change" is typically considered good news. The Byrd motion for dismissal is not likely to pass but it set the tone for the future votes.

The real culprit again on Friday was the fallout from the Brazil problem. Continued rumors of other countries possibly devaluing their currencies put a cautious tone in the market ahead of the weekend. Even though many very knowledgeable analysts said the possibility of China or Hong Kong devaluing based on the current Brazil problem was "very, very remote" the more safety conscious investors were moving to the sidelines before the close. The Brazil Bovespa recovered from earlier losses to close down only -131 or -1.8%. All the European exchanges had closed down on Friday as the increasing worry had investors taking profits there also.

Is the U.S. market going down as some bears are saying? We don't think so, YET. Without a "tail wagging the dog" news event this week we feel that positive corporate earnings will continue to move the market upward. Interest rates are going to remain flat. Inflation is flat, the economy is growing. We have no reason to sell off. The wild card is the Brazil crisis. The DOW, OEX and RUT are all sitting at support on their moving averages. The market is down -522 points in the last two weeks. We are due for another technical "relief" rally this week. With all the negative news out Friday the fact that the Dow only lost -73 points (if you take out IBM) is remarkable. The Nasdaq had recovered from a -38 point early loss and traded +15 until the end of the day "fear of darkness" sell off. This is remarkable. The buy the dip mentality is alive and well. There was strong buying at the close on Friday as well as the early morning dip. As long as buyers keep filling in the holes we will continue to build a stronger base here. Again, the wild card is Brazil and the other Latin America countries. A news flash on Monday morning could wipe out the market in a heartbeat. Until the Brazil Real gains some strength traders should consider playing smaller positions. You can still capture some gains but have less at risk should lightning strike.

We are at a pivotal point in the market. With all the major averages setting on support it will take more bad news to push us down and less good news to make it go up. There is still lots of buyers in the market. As CNBC reported Friday there is a huge "book" of buy orders at $2-$3 less than current prices for many blue chip stocks. As long as these limit buy orders stay on the books the chances of a substantial drop are slim. Institutions want to buy but not at the top of the market. They are using the "target shooting" approach we always suggest.

The target shooting approach to opening a position is simply placing a limit buy order at -25 to -50% less than the current ask and waiting for a dip to fill your order. Sometimes you can wait days for a dip but in the current market climate we are seeing dips almost every day. Normally the dips are too quick to react with manual orders but if you have an existing limit order you can get filled when it happens and sometimes at the low for the day. For instance the SUNW FEB-100 Call had a low for the day on Friday of $5.00 and a high of $8.00. It closed at $6.50. The previous close was $7.50. A limit order for -25% less than the previous close would have been $5.63. You would have filled at $5.63 and could easily have sold again for a +15% to +25% profit.

The AOL-140 Call closed Thursday at $14.00. A -25% limit order would have been $10.50. On Friday the low for the day was $10 and the high was $14.88. You would have filled at $10.50 and could have easily sold again for +20 to +30% profit the same day.

Most traders would have bought at $13 or more after AOL started back up. They would be thinking. OK, now it is moving, I will jump in now. While this is not a bad idea it is not as good as buying cheap. Once you make a decision to buy AOL or SUNW or whichever stock you want, then the next decision is WHERE to buy. If you use this method you will make fewer plays because not all options will dip -25% in one day but the plays you do make will be much more profitable. You will normally be buying in at the low for the day. Would you like to be in a position cheaper than everybody else?

We have had several serious rumors that Microsoft is going to announce a 2:1 split this week. While the MSFT CFO had said in an offhand remark several weeks ago that he would "like to wait" until the $200 range before they split again, I am being covered in emails that claim they will split either Monday after the close or sometime during this week. I have never had the volume of email on a split rumor that I had on MSFT this week. I own MSFT currently and would really be a happy trader if this comes to pass.

Watch the news Sunday for signs of the Brazilian flu and plan your trades accordingly for Monday.

Good Luck

Jim Brown

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