The Option Investor Newsletter Monday 05-21-2001 Copyright 2001, All rights reserved. 1 of 1 Redistribution in any form strictly prohibited. To view this email newsletter in HTML format with embedded charts and graphs, click here: http://www.OptionInvestor.com/htmlemail/052101_1.asp Posted online for subscribers at http://www.OptionInvestor.com ****************************************************************** MARKET WRAP (view in courier font for table alignment) ****************************************************************** 05-21-2001 High Low Volume Advance/Decline DJIA 11337.90 + 36.20 11345.70 11232.80 1.18 bln 2075/1034 NASDAQ 2305.59 + 106.71 2305.73 2198.14 2.31 bln 2603/1381 S&P 100 678.60 + 10.22 678.77 665.42 totals 4678/2415 S&P 500 1312.83 + 20.87 1312.95 1287.87 65.9%/34.1% RUS 2000 515.91 + 9.63 515.91 506.38 DJ TRANS 3004.35 + 25.40 3008.93 2970.38 VIX 23.24 - 1.02 24.82 23.13 Put/Call Ratio 0.47 ****************************************************************** NASDAQ Breakout! The Nasdaq Composite (COMPX) broke out above a key near-term resistance level Monday, led by massive gains in the big caps. What's more, volume confirmed the Nasdaq's advance. The 30-day average volume for the Nasdaq has been around 1.95 billion shares. Monday's trading activity topped 2.2 billion shares. Volume was also relatively robust on the NYSE as 1.17 billion shares exchanged. The key resistance level hurdled by the Nasdaq Monday was, of course, the 2250 level. The overhead resistance around 2250 had kept the Nasdaq contained for roughly five weeks, while the tech-laden index traded sideways in an effort to consolidate its gains from the April 4th low of 1619. And now with Monday's breakout on healthy volume, the Nasdaq Composite is poised to work its way up to 2500. Insofar as pullbacks are concerned, the 2250 level should now provide support. Also worth noting was the breakout in the Nasdaq-100 (NDX.X) - the index tracked by the QQQs (AMEX:QQQ). The NDX closed above the psychologically significant 2000 level for the first time since early March, which coincided with the QQQ contract settling above the $50 level. The NDX tracks the top 100 stocks on the Nasdaq market in terms of market capitalization. And its price action Monday epitomized the awesome gains in big cap tech stocks. For example, shares of Cisco Systems (NASDAQ:CSCO) gained 13 percent, shares of Sun Microsystems (NASDAQ:SUNW) gained nearly 15 percent and shares of Qualcomm (NASDAQ:QCOM) added 8.5 percent. There have been some rumblings recently that enterprise spending is beginning to show signs of rebounding, which has been the catalyst behind the recent advances in shares of Cisco and Sun. If we continue to hear anecdotal evidence that information technology (IT) spending is rebounding, stocks such as Cisco and Sun will continue to work higher as longs return to the beaten down big caps and shorts scramble to cover their bearish bets. The Nasdaq Composite's 4.85 percent gain Monday far surpassed the paltry 0.32 percent gain in the Dow Jones Industrial Average (INDU). But many market watchers suggested that the Nasdaq was due to play catch-up with the Dow. Furthermore, several isolated news events amongst Dow components pressured the blue chip index. Procter & Gamble (NYSE:PG) said Monday morning that it would buy the Clairol hair-care business from Bristol Myers Squibb (NYSE:BMY). PG's $4.95 billion cash purchase of Clairol resulted in its shares shedding $2.23. In addition, shares of Phillip Morris (NYSE:MO) were punished for $2.15 after a Dow Jones headline reported that the company may have violated securities laws regarding its upcoming IPO of its Kraft unit. Aside from the Phillip Morris and PG news, perhaps the greatest source of pressure on the Dow Monday stemmed from the rotation into the more aggressive issues in the Nasdaq. While it still seems early in the cycle for tech to be out performing blue chips, Monday's action may morph into a near-term trend where the Dow languishes and the Nasdaq shines. Despite the under performance in the Dow - it is a price weighted index, after all - the S&P 500 (SPX.X) charged higher, moving further away from that staunch resistance down around 1270 level. In fact, the broad market index plowed past resistance at 1300 Monday. The continued strength in the bank sector, as measured by the KBW Bank Sector Index (BKX.X), and the breakout in the Securities Broker/Dealer Index (XBD.X) bode very well for the health of the broader market and the potential perpetuation of its advance. Further, continued strength in the two aforementioned sectors will continue to lift the S&P 500. As for near-term resistance in the S&P, I'll be watching the 1325 level. But if that resistance level is cleared, the S&P could very well trade up to 1375, which is its high traced in late January. In terms of support, pullbacks to the 1300 level may offer solid entries, and thereafter the 1270 level should now serve as a floor where bulls defend long positions. With the Dow now firmly above the 11,000 level, the Nasdaq Composite and Nasdaq-100 back above key resistance levels and the S&P 500 on the high-side of 1300, sentiment has most definitely shifted to the bull camp. But there are several disconcerting developments that may beg caution in the near-term. For starters, the Arms Index, which accurately forecasted the market bottom in early April, is flashing a big caution sign with its overbought readings. The NYSE Arms reading dipped down to 0.65 Monday. Further, the CBOE Market Volatility Index (VIX.X) has been in free-fall for the past five trading sessions, and closed at 23.24 Monday, down 1.02. The VIX is a contrarian indicator and a general gauge of fear in the broader markets. The VIX at 23 Monday is telling us that fear is a rarity currently and that market participants are growing complacent. Additionally, the Nasdaq-100 Volatility Index (VXN.X) plunged below the 55 level Monday, which is far below its reading of 65, when it debuted in late January. Of course we only have four months of historical data on the VXN, but its steep slide recently does suggest that a lot of fear has been displaced from the Nasdaq-100. I think that it's also prudent to address the recent advance in the price of crude oil. The June contract for crude futures hit the key $30 mark early Monday morning on speculation that the OPEC member countries would not consider a production hike this summer. The implications of rising crude oil prices are such that it could impact the bottom-lines of many of the cyclical companies, whose shares have been powering the Dow and the S&P 500 higher recently. Finally, we are entering into second-quarter earnings warning season. I think it's important to point out that the recent advances in the broader market averages, especially the Nasdaq Composite, were predicated upon an improvement in business conditions. And we have been hearing of anecdotal improvements from the likes of the data storage sector and the uttering of the "bottom" word by the likes of Cisco Systems officials and Applied Materials (NASDAQ:AMAT) officials. However, if the earnings warnings and lowering of guidance resurface in the coming weeks, the markets may be setting up for an extended pullback. Then again, the aforementioned issues I just addressed may be the perfect building blocks for the proverbial wall of worry, which the broader market averages steadily climb over during the coming weeks. Eric Utley Assistant Editor ************** NEW CALL PLAYS ************** EXTR - Extreme Networks $39.50 +3.81 (+3.81 this week) Extreme Networks is engaged in the design, development, manufacture and sale of high performance networking products based on Gigabit Ethernet technology. The company's next- generation (Layer 3) switches transmit more information faster, and enable enterprises such as network service providers and content providers to migrate from older networks to current technologies. The company's Summit and BlackDiamond switches share a common hardware, software, and management architecture that facilitates a relatively short product design and development cycle, reducing the time-to-market for new products and features. It took a long time for EXTR to come back to earth, but the popping of the Internet bubble certainly sped up the process. Now that the economy has slowed down enough to get the Fed to loosen those purse strings, we are seeing capital start flowing towards select Networking companies like EXTR. Buyers have been piling into the stock over the past four days, lifting it for a 40% gain over that period of time. That's 10% per day, for 4 days. What's going on? It certainly isn't the analyst love fest, as the only recent coverage by that band of hooligans came from UBS Warburg on Thursday, as they initiated coverage with a soul-stirring Hold rating. Maybe the masses know something the analysts don't? No matter. We're traders and we'll take what the charts give us any day of the week. It doesn't take a rocket scientist to see the breakout over the $35 resistance level last week, followed by the push through the $38 resistance level today. Simply put, EXTR is now setting higher highs and higher lows as it heads down the road to recovery. If you're looking to take a piece of the recovery, consider dips to support at $35-36 or near $38 to provide aggressive entry points. More conservative traders will want to step aboard as EXTR trades to new relative highs; let a move through $40 be your signal. Overhead resistance will likely materialize at $43, 45 and then $50. Place initial stops at $35. BUY CALL JUN-35 EUT-FG OI=2312 at $7.40 SL=5.25 BUY CALL JUN-40*EUT-FH OI=2270 at $4.20 SL=2.50 BUY CALL JUN-45 EUT-FI OI= 418 at $2.00 SL=1.00 BUY CALL SEP-40 EUT-IH OI= 404 at $9.80 SL=7.00 BUY CALL SEP-45 EUT-II OI=1356 at $7.80 SL=5.50 BUY CALL SEP-50 EUT-IJ OI= 875 at $6.20 SL=4.25 SELL PUT JUN-35 EUT-RG OI= 387 at $2.70 SL=4.50 (See risks of selling puts in play legend) Average Daily Volume = 5.99 mln http://www.premierinvestor.com/oi/profile.asp?ticker=EXTR QCOM - Qualcomm Inc. $70.99 +5.61 (+5.61 this week) QUALCOMM Incorporated (www.qualcomm.com) is a leader in developing and delivering innovative digital wireless communications products and services based on the Company's CDMA digital technology. The Company's business areas include CDMA integrated circuits and system software; technology licensing; the Binary Runtime Environment for Wireless(TM)(BREW(TM)) applications platform; Eudora. e-mail software; digital cinema systems; and satellite-based systems including portions of the Globalstar(TM) system and wireless fleet management systems, OmniTRACS. and OmniExpress(TM). QUALCOMM owns patents that are essential to all of the CDMA wireless telecommunications standards that have been adopted or proposed for adoption by standards-setting bodies worldwide. QUALCOMM has licensed its essential CDMA patent portfolio to more than 100 telecommunications equipment manufacturers worldwide. Including QCOM as a new call play feels like welcoming back an old friend, as QCOM's patented and world renowned CDMA technology is making headlines once again. After reporting revenues of $713 million for its first fiscal quarter, a 29% increase from the year ago quarter, as well as earnings of 29 cents per share on April 25th, QCOM has been range bound until last week. The 50-dma of $56.41 has acted as strong support, yet until last Wednesday, QCOM was experiencing difficulty clearing resistance at $63. However, QCOM has been releasing excellent news regarding new contracts and improved business developments in China, which have awakened renewed investor interest in this cellular telecom equipment giant. Last Tuesday, China's second largest mobile phone company, China Unicom, announced that they had signed contracts to buy $1.5 billion worth of telecom equipment from Lucent, Motorola, Nortel, and Ericsson. QCOM stands to win big from this, as they will receive royalty patents and licensing fees on mobile phones made in China. Lucent, Motorola and others will join together to build China's first CDMA wireless network. QCOM has worked many years to establish a presence in China, and this announcement has been a dream come true for QCOM's management team as well as their shareholders. Adding to the momentum Monday was an announcement that QCOM had signed a commercial license with ZTE corporation, another telecom equipment manufacturer in China, by which ZTE will sell CDMA2000 equipment in China and worldwide. Investors could hardly contain their enthusiasm, as buying pushed QCOM up past its 200-dma of $69.38 for the first time in months. While Monday's volume came in lighter than the 3 month average daily volume of 18 million shares, it was higher than the 10 day average of 12 million shares. A pullback in the Nasdaq seems likely, and could provide an entry point, possibly at the $70 support level. The next support level of $68.50 could also serve as a possible entry point, if the Nasdaq and others in the wireless sector like NOK and MOT are strong. We are setting a liberal closing stop at $65, as QCOM is currently a very strong play. BUY CALL JUN-65 AAO-FM OI= 6511 at $ 8.10 SL=5.75 BUY CALL JUN-70*AAO-FN OI=12811 at $ 5.00 SL=3.50 BUY CALL JUL-65 AAO-GM OI= 5178 at $10.50 SL=7.50 BUY CALL JUL-70 AAO-GN OI= 8832 at $ 7.80 SL=5.75 Average Daily Volume = 18.3 mln http:www.premierinvestor.com/oi/profile.asp?ticker=QCOM PDLI - Protein Design Labs Inc. $74.97 +4.87 (+4.87 this week) Protein Design Labs Inc. is a leader in the development of humanized monoclonal antibodies for the prevention and treatment of disease. The company has licensed rights to its first humanized antibody product, Zenapax, to Hoffman LaRoche, Inc., and its affiliates, which markets it in the U.S, Europe, and other countries for the prevention of kidney transplant rejection. The company has announced seven other humanized antibodies in clinical development for automimmune and inflammatory conditions, transplantations, and cancer. Positive sector sentiment and a stellar earnings report are just two of the reasons for the strong rally in shares of leading monoclonal antibody Biotech firm PDLI. Since early April, the Biotech sector, as measured by Merrill Lynch's Biotech HOLDR (BBH), has surged, responding to rate cuts from the Fed and in sympathy with the broader markets. In turn, PDLI has trended ever higher, helped by bullish news from sector peers such as AMGN, DNA and GILD. Last Tuesday, the company reported results for the first quarter, and the result was a blowout, with earnings per share doubling Street estimates. With that, Credit Swisse First Boston analyst Mierav Chovav raised her price target on the stock , from $70 to $80. The company commented that the better-than-expected results were due to revenue growth outpacing research and development costs. Having taken out resistance from the 50 and 100-dma (now at $51.37 and $57.42 respectively), the last major moving average left to stand is the 200-dma, sitting just overhead at $78.23. If continued buying pressure takes PDLI above $75, this could allow conservative traders to jump in. Just be aware that on the road to the 200-dma, the stock may encounter resistance at $76.50. For higher risk players, entries on pullbacks may be forthcoming if PDLI bounces off support at $74, $72 and our closing stop price of $70. BUY CALL JUN-70 PQI-FN OI=2609 at $ 9.80 SL=7.00 BUY CALL JUN-75*RPV-FO OI= 350 at $ 7.00 SL=5.00 BUY CALL JUN-80 RPV-FP OI= 515 at $ 4.20 SL=2.75 BUY CALL JUL-75 RPV-GO OI= 0 at $10.60 SL=7.75 Wait for OI!! BUY CALL JUL-80 RPV-GP OI= 0 at $ 8.40 SL=6.00 Wait for OI!! SELL PUT JUN-65 PQI-RM OI= 129 at $ 2.30 SL=4.00 (See risks of selling puts in play legend) Average Daily Volume = 1.66 mln http://www.premierinvestor.com/oi/profile.asp?ticker=PDLI ************ NEW PUT PLAY ************ No new puts tonight. ***************** STOP-LOSS UPDATES ***************** ADBE - call play Adjust from $41 up to $42 BA - call play Adjust from $66 up to $67 CAT - call play Adjust from $53.75 up to $54 EBAY - call play Adjust from $59.50 up to $61 GE - call play Adjust from $51 up to $52 HAL - call play Adjust from $46 up to $47 QLGC - call play Adjust from $49 up to $55 VIGN - call play Adjust from $9 up to $10 VRTS - call play Adjust from $70 up to $74 ************* DROPPED CALLS ************* GDW $61.44 -1.29 (-1.29) GDW has given us a good run during its tenure as a call play here, as the stock reached a high of $64.75 last week before dropping back. However, today's rally looks like it may start a new trend of technology buying, as the Nasdaq captured the spotlight from such sectors as defensive stocks and some niche financials like savings and loans. At this point, we feel it is appropriate to drop GDW as a call play. MO $50.26 -2.11 (-2.11) Unfortunately, Dow Jones newswire released news this morning pertaining to the Kraft IPO which was not received well by the market. According to the report, Philip Morris may have run afoul of some securities laws regarding IPO issuance. Specifically, an IPO pre market report may have been incorrectly released. This news cast a pall on the shares, which had been rallying due to strength in the tobacco sector, as well as the anticipation of a cash windfall from the upcoming IPO. While the details of their plans are no longer clear, and the IPO may still be released in June, the stock has clearly lost momentum, and may remain under water until this issue is cleared. In addition, capital flowed out of defensive issues during Monday's session and into more aggressive tech names, which pressured MO. ************ DROPPED PUTS ************ CIEN $60.79 +3.44 (+3.44) A bullish day for all things Tech helped shares of fiber optic equipment maker Ciena to surge, gaining 6 percent to begin the trading week. Large cap Tech stocks were in demand today, as traders eagerly bid up the four-letter stocks. While volume on today's rally was below average, and CIEN is still inside its neutral wedge formation, the close above our stop price of $60 suggests that this may be a good time to step aside. With that we are closing out this play. ************** TRADERS CORNER ************** But It Worked Out On Paper By David Popper I have read plenty of books on trading. I am familiar with most technical indicators. If I had to take a test, I could easily describe each indicator, oscillator, chart pattern, and moving average and probably get an A+. Unfortunately, all of my head knowledge does not always translate into good performance. True, I made 100% in 1999, but that was riding a bike downhill. Many people did much better. Last year, I lost 20%. Many people did much worse, but others recognized trouble and made a fortune on the short side. I know that my execution is sometimes poor. This is why I do not get into situations that I do not handle well. In fact the longer that I play this game, the more I realize that for me, trading is not just about charts, but it also consists of recognizing market sentiment, sector sentiment, and sentiment regarding the particular stock. When motivating factors exist, either positive or negative, I recognize that the stock will probably move on a short term basis in the direction of the motivating factor in spite of the chart. For example, Johnson & Johnson (NYSE:JNJ) announced a stock split. There was also positive news about some of its drugs. It was identified by one brokerage house as "the single best investment idea" (at least for this week) and sure enough J&J is on the move. It will fluctuate each day but it is moving up. It is probably a safe bet until the split in mid June. Yes, the chart is bullish, however, it is merely confirming all of the news. Some people claim that the chart incorporated all of these possibilities already. They would claim that because the 50 day moving average crossed the 200 day moving average on strong volume, that it was obvious that something positive was happening. They would claim that an entrance based on the chart pattern alone would have caused an even earlier entry into the stock thus yielding better results. They may be right, if they happened to catch a view of the J&J chart before the news alerted them. There have been many failed breakouts lately, however, so for me a good chart is only a part of the equation. So how do I use charts? Well sometimes when a pattern is clear, I play it. Usually, when I notice motivating factors affecting a particular stock, I will then check the stock to decide how aggressively I should play it. For example if great news comes out on a stock when it is in a downtrend, I may not play the stock or I may choose a lesser position. Likewise if the stock appears extended on the upside. If, on the other hand, the chart looks positive and not extended, then I will be more aggressive. In other words, the chart tells me whether this will be a shorter term or longer term play and how large a position I should consider. Because I am using a chart only to get a general idea of where a stock falls on its cycle, I am only interested in longer term indicators such as long term moving averages (50 day and 200 day) and long term trend lines. The long term trend line analysis can in itself cause quite a stir. For example, William O'Neil of the Investor's Business Daily wrote an open letter to all investors last week proclaiming that the bear market is over. Mr. O'Neil was using a 12 month chart in reaching his conclusions. Damon Vickers, a popular radio talk show host, proclaims that we are still in a long term bear market. Who is right? They may both be right. On a short term basis, we may be in a bull market. The 12 month charts testify to this. Additionally there are many sentiment factors that may help us such as interest rate cuts and tax cuts. Further, since earnings have been so poor, soon there will be easy year to year comparisons, which will probably generate enthusiasm for "better" earnings. Mr. Vickers, however, looks at 5 and 10 year charts and those charts testify to the fact that the long term uptrend has been violated. In other words, on a long term basis, the market takes on a completely different picture and appears dangerous. Further, he argues that most stocks are still under their 200 day moving average and by his definition those stocks are in a bear market. From my perspective, if you ignore those beautiful short term charts, you will forgo great profits. You have to respect the longer term chart, however, and not give your stock too much leeway, because no one can know for sure if the long term trend will recover or whether it will accelerate out of control. In spite of all the good feeling out there, it wouldn't take much to rekindle the long term downtrend. One simple way to trade in these cross currents is to trade stocks that have motivating factors such as a stock split, earnings run, presentation at a conference and trade that stock if the short term chart is also positive. If the motivating factor ends on a particular day, such as a stock split, I use split date or ending day as my sell signal. This isn't technical and it is not complicated, but it usually works in real life for me. I am not out to be the best technician, I just want to be profitable most of the time. I don't want a system that just works for me on paper. ********************** PLAY OF THE DAY - CALL ********************** ADBE - Adobe Systems $45.49 +2.98 (+2.98 this week) A long-time leader in desktop publishing software, ADBE provides graphic design, publishing, and imaging software for Web and print production. Offering a line of application software products for creating, distributing, and managing information of all types, the company generates nearly 75% of sales through publishing software products such as Photoshop, Illustrator, and PageMaker. Its Acrobat Reader, which uses portable document format (PDF) is popping up all over the Internet, as businesses shift from print to digital communications. In addition, ADBE licenses its industry standard technologies to major hardware manufacturers, software developers, and service providers, as well as offering integrated software solutions to businesses of all sizes. Most Recent Write-Up Software stocks consolidated their gains on Friday as traders finished squaring their positions ahead of the weekend. The Software index (GSO.X) is facing resistance at $236, but if the bulls are still in control next week, the move through this level could come quickly. ADBE actually held up rather well, consolidating for much of the day just above the $42 level (the site of the 30-dma), and never once dipped as low as the $41 support level. As would be expected ahead of the weekend, volume was downright anemic, running only 40% of the ADV. Buyers will have to take another run at the $44 resistance level, but if they are able to break through, it will provide an attractive opportunity for conservative traders to initiate new positions. Until then, continue to use intraday dips above our $41 stop to gain entry into the play. ADBE announces earnings on June 14th, but that event is far enough away that it is unlikely to have an effect in the near term. For now, ADBE will be subject to the whims of the broader technology market and the GSO.X specifically. With the daily Stochastics oscillator in ascent mode, increasing volume and a positive NASDAQ could be all ADBE needs to continue its climb. Comments Since bouncing from the $40 level late last week, shares of Adobe have been working steadily higher. The stock appears poised to make its way to the $50 level in the near-term, where traders may look to book gains. In the meantime, new entries can be found on light volume pullbacks to the $44 level, or lower near $42. Momentum traders might look for a high volume breakout above the $46 level. BUY CALL JUN-40 AEQ-FH OI= 681 at $6.80 SL=5.00 BUY CALL JUN-45*AEQ-FI OI=1260 at $3.50 SL=1.75 BUY CALL JUN-50 AEQ-FJ OI=1233 at $1.50 SL=0.75 BUY CALL JUL-45 AEQ-GI OI=1665 at $5.50 SL=3.50 BUY CALL JUL-50 AEQ-GJ OI=1520 at $3.30 SL=1.75 SELL PUT JUN-45 AEQ-RI OI= 331 at $2.85 SL=4.50 (See risks of selling puts in play legend) Average Daily Volume = 5.41 mln http://www.premierinvestor.com/oi/profile.asp?ticker=ADBE ******************* FREE TRIAL READERS ******************* If you like the results you have been receiving we would welcome you as a permanent subscriber. The monthly subscription price is 39.95. The quarterly price is 99.95 which is $20 off the monthly rate. We would like to have you as a subscriber. You may subscribe at any time but your subscription will not start until your free trial is over. 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