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Cease-fire

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Energy prices fell Monday with September Crude Oil futures (cl06u) settling down 82-cents, or -1.10% at $73.53 as the U.N.-imposed cease-fire between Israel and Hezbollah helped ease some of the geopolitical unrest responsible for oil's recent historic highs.

An improved production outlook from BP (NYSE:BP) $69.30 -0.02% regarding the Prudhoe Bay field also weighed on energy prices, with September Unleaded futures (hu06u) settling below the $2.00 level ($1.9905/-3.37%). While not certain, BP said it may be able bypass some of the corroded western oil transit line using a 24-inch high pressure gas pipeline, which is what the operator did in March, when BP was able to restart 70,000 bpd of the 90,000 bpd that was being produced at Gathering Center-2 a little over a month after the initial shutdown this spring.

A Reuters news source, close to BP, said output from Prudhoe Bay currently stands at 150,000 bpd and is expected to rise to 200,000 bpd by the end of the month once maintenance on Gathering Center-1 is completed.

Just after today's close, the EIA said U.S. June crude oil imports reached their highest monthly total ever at 10.779M bpd.

The major indices gapped higher at their open, but gains faded toward the close as traders await key economic data early Tuesday morning in form of producer prices for July.

Economists currently see July producer prices rising 0.4% m/m, with the core rate (excluding the volatile food and energy component) to have risen a more tepid 0.2%.

As that data is being released (a gauge on prices at the production level), we'll also get a regional economic report and the August Empire Manufacturing Index, which covers manufacturing activity in New York State. Consensus among economists is for a reading of 14.0 vs. 15.6 previously.

The New York Fed conducts this monthly survey that asks roughly 175 manufacturing executives to rate their business on an assortment of indicators, concerning both the present and future expectations.

U.S. Market Watch - 08/14/06 Close

Homebuilders as depicted by the Dow Jones Home Construction Index (DJUSHB) 575.21 -1.37% have been quick to relinquish their pre-FOMC gains as the benchmark 10-year YIELD ($TNX.X) is quickly back within 25 basis points of the current Fed Funds target of 5.25%.

For both Treasuries and homebuilders, tomorrow's PPI data will be closely watched. At last week's meeting, it was Jeffrey Lacker, Richmond Fed President that argued for a quarter-point increase in the fed funds rate.

A modest rise in the U.S. Dollar Index (dx00y) and decline in the StreetTracks Gold (NYSE:GLD) $62.25 -0.73% gives hint that tomorrow's economic data is a focal point.

The rise in the dollar hints some market participants still see further near-term tightening from the FOMC in the works, while that potential tightening, combined with a moderately slowing economic backdrop has gold treading water between its recent July 14 and July 24 relative highs and low of $66.42/$59.83.

The S&P Retail Index (RLX.X) held a fractional gain at the close, but was bolstered earlier this morning when Dillard's (NYSE:DDS) $33.08 +5.61% surged to a multi-year high. The department-store operator reported net income of $15.7 million, or $0.20 a share, which included $0.14 of one-time gains. Still, the figures easily surpassed analysts' estimates for a loss of $0.05 per share. Dillard's said revenues rose 1% year-over-year to $1.75 billion, with fewer markdowns helping results.

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In last week's Market Monitor at OptionInvestor.com, I once again began updating traders on this month's "Max Pain Theory" values for some of the major indices as we near August option expiration for the major indexes and stocks this Friday.

Last week, and even today I still see what I believe to be some gyrations and "fine tuning" of indices and stocks toward the mathematically derived "Max Pain Theory" values.

For those that may not be overly familiar with "Max Pain Theory," the simple explanation for "Max Pain" is the theory that a major index may tend to gravitate toward this mathematically derived value, where the value is simply the sum of open interest at various OPTION strikes, which leaves the BULK of call option and put option buyers with as little profit as possible, and the market makers of those options holding the bulk of the profits as time premium erodes into the expiration.

Last week I was jumping around and trying keep traders abreast of "what to look for," and here are some observation relative to "Max Pain Theory" that I feel are important.

There is NO GUARANTEE that an index, or stock will close AT, or NEAR its "Max Pain Theory" value, but I'm going to show you some things I've been seeing, and still see, where I think it would take a BIG SHOCK from some type of economic data, to pull the major indices too far from their "Max Pain Theory" values into the end of the week.

Dow Diamonds (AMEX:DIA) - Daily Intervals

I've placed a fibonacci retracement bracket on the more recent relative high/closes for the Dow Diamonds (AMEX:DIA) $111.15 +0.09%, where August's "Max Pain Theory" is currently tabulated at $111.00. Option strikes are in increments of $1. For those not familiar with this, there are OPTION contracts at $109, $110, $111, $112, $113, etc.. All in $1 increments.

For fibonacci traders, 38.2% and 61.8% tends to define upper-lower near-term ranges of support/resistance, with 50% being an "equilibrium" level. When looking at the DIA, relative to its $111.00 "Max Pain Theory" level, I would say the DIA is range-bound within $110.50-$113.00.

Now, let's look at some of the Dow components. Remember! The DIA is a security by itself that trades with options. But within the INDU/DIA, there are 30 stocks. Some have GREATER weighting than others, and all of these stocks trade with OPTIONS!

Dow 30 Components - Market Cap Weighted Index

The Dow Industrials, or its "tracker" the DIA is a PRICE-weighted index. That means, the stock with the HIGHEST PRICE VALUE carry greater weight that those with SMALLER PRICE VALUES.

What I've done in the above table is simply run through the 11-most HEAVILY-weighted components, jot down their current August "Max Pain Theory" values, and the increments that their options are traded on.

For instance, Altria (NYSE:MO) $80.56 -0.34% is the "most heavily weighted" stock in the DIA right now. It's August "Max Pain Theory" value is $75.00 and that "Max Pain" value is derived from OPTION strikes in $5.00 increments. Will MO necessarily gravitate DOWN to $75.00 just because its "Max Pain" is $75.00?

My answer is NO!

A stock we've traded twice the past couple of days from the short side has been American Express (NYSE:AXP) $51.80 (unch), where some work I've done, and shown in the Market Monitor suggests that should the DIA itself remain "pinned" around $111.00, that AXP might tend to "gravitate" somewhere between $50.00 and $52.50. Split that difference $52.50 - $50.00 = $2.50, then $2.50 divided by 2 = $1.25, I could derive a more "accurate" Max Pain of $51.25.

In Friday's Market Monitor is reviewed AXP's option montage, and all-be-darned if on Friday, the stock didn't trade a session low of $51.19, then bounce right back up to $51.80 by the close.

I thought traders should short it again at $51.85, but with a tight stop at $52.08, should some type of bullish news have the DIA ripping away higher from its "Max Pain Theory" value and perhaps an extensive short-covering rally take hold. While that short in AXP was stopped out this morning on the gap higher open of $52.15, I still sense a "gravitational pull" on the stock.

My point, or observation here, is to illustrate what I feel is the IMPACT of an option expiration into Friday.

33-most Heavily Weighted S&P 100 Components - Cap-Weighted Index

Now let's take a look at some of the same stocks that reside in the Dow Industrials, which also comprise the S&P 100 Index ($OEX.X). However, here we now look at a MARKET CAP WEIGHTED index. It is no long PRICE, but the SIZED of the stock's MARKET CAP that begins to determine some stocks' "importance."

Again, I show some of the August "Max Pain Theory" values, and their increments. PINK-boxed stocks are also components of the NASDAQ-100 Index (NDX.X), or QQQQ.

I do point to the 5-DyNet% to give some observation of "who is driving who" and in which direction. Last week, Cisco Systems (NASDAQ:CSCO) $20.09 +2.81% surged from the $19.50 level on upbeat guidance, and some affirmation that stock option grants to executives had not been backdated.

S&P 100 Index (OEX.X) - Daily Interval Chart

Here is the OEX with similar retracement as shown for the DIA. A little different look, and the OEX actually looks STRONGER than the DIA.

"Key stocks" here would probably be XOM thru MO, or 1-10 weighted stocks in the near-term. If the OEX is going to get "pinned" back towards its August "Max Pain" of 580, and its RISING 200-day SMA, we might look for one of the "big guns" to see weakness.

NASDAQ-100 Trust (QQQQ) - Daily Interval Chart

For the QQQQ, I still follow my "bear fit 38.2%" retracement and the persistent selling at the 06/13/06 relative low close. See the "tie?" June 13 has been "LOW CLOSE" fibonacci retracement for the DIA and OEX, but that "bear fit 38.2%" retracement shows the weakness, and how that broken level of support, still finds some willing sellers at the $37.25 level.

I'm not as convinced as some that the NDX/QQQQ has traded its "summer bottom." Volumes have been light, and with the Labor Day holiday quickly approaching, many expect traders to "head for the beach" after Friday's expiration to get in their last bit of vacation before returning thru Thanksgiving.

Is my "bear fit 38.2%" retracement technique in play? I think so as depicted by the 07/18/06 relative low, which somehow, the resultant 50% of $35.56 found buyers. Most likely, BEARS that had shorted the break and CLOSE below $37.25.

One stock I'd be monitoring CLOSELY again this week, which in all actuality is followed by most NDX/QQQQ traders, is Microsoft (MSFT). The company announced a Dutch auction July 21, where the company is willing to buy up to 808,080,808 shares at a price between $22.50 and $24.75 per share.

Since that Dutch offer, the stock REFUSES to close below $24.20 and at the time of this writing, the Dutch auction deadline is Thursday's close.

For the past couple of weeks, MSFT's shares have been bound between $24.20 and $24.64. A break much above $24.75 could really bring in some short-covering, while a CLOSE much below $24.20, could have the mid-point of the Dutch auction range ($23.63) quickly coming into play.
 

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