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Daily Newsletter, Monday, 08/13/2001

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The Option Investor Newsletter                   Monday 08-13-2001
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******************************************************************
MARKET WRAP  (view in courier font for table alignment)
******************************************************************
        08-13-2001        High      Low     Volume Advance/Decline
DJIA    10415.90 -  0.40 10445.80 10367.10  842 mln   1661/1425 
NASDAQ   1982.20 + 25.80  1986.33  1951.46 1.13 bln   2013/1669
S&P 100   610.49 -  0.92   612.46   607.88   totals   3674/3094
S&P 500  1191.29 +  1.13  1193.82  1185.12
RUS 2000  477.60 +  2.08   478.89   474.88
DJ TRANS 2935.41 - 25.36  2964.47  2815.45
VIX        23.24 +  0.43    23.86    23.08
Put/Call Ratio      0.54
******************************************************************

Six Days and Counting...

Did anyone else have a hard time staying awake today?  Several
times throughout the day I could have sworn my charting program
had stopped responding, as the movement in the markets was nearly
flat.  As you can see by the table above, there was virtually no
movement in the broad markets on Monday.  The summer doldrums
continue, with the bears apparently going back to sleep and the
bulls waiting for the next catalyst (any positive news will do!)
to propel the major indices towards the upper end of their
recent range.  It seems nobody other than Abbey Joseph Cohen
expects a breakout of the recent range any time soon.

Light volume is still the rule of the day as investors wait for
something to move the markets and maybe the Fed meeting next
Tuesday will do the trick.  The weakening of the economy
continues and recent reports have shown that inflation is not a
concern.  In fact the word "deflation" is starting to make the
rounds in the press.  All this has led bullish traders to hope
for a 50-basis point cut in August and maybe even another cut
in October.  The bond market is reflecting this sentiment with
the 10-year Bond hitting a low of 49.32 on Monday, its lowest
level since early April.  Falling bond yields does not paint a
cheery picture for equities, but nonetheless all the major
indices managed to hang onto their gains from last week, while
the NASDAQ actually eked out a small gain.

There was a bright spot in the major indices today as breadth
remained positive, even if the margin was narrow.  On the NYSE,
advancers squeaked by decliners by a 6 to 14 margin, while the
picture was a little better over on the NASDAQ, where advancers
led the charge with a 20 to 16 ratio.  But all of this is just
confirming that traders don't know which way to jump next.
Nearly even advance/decline ratios, light volume and all the
major indices stuck in the middle of their recent ranges.
Hmmm...seems like another boring summer Monday.




While it wasn't a roaring gain, the NASDAQ managed to advance
with the help of the daily Stochastics which is pointing to a
continued advance...at least until the descending trendline at
2060 is reached again.




Stuck in the middle of its recent range, it is hard to make a
case for a sustained move in either direction right now.  Daily
Stochastics point towards a continued advance for the next few
days, but then the bulls will need that elusive catalyst to
power through the 10,600 resistance level.

The only significant market moving news (if you can call analyst
ratings news anymore) came in the Semiconductor sector as
Goldman Sachs entered the fray, moving their recommendation for
the sector to Overweight.  Bullish traders nibbled at the bait,
helping the Semiconductor index (SOX.X) to once again reclaim
the $600 level.  Like the broad markets, the SOX is stuck in the
middle of its recent range with solid support at $550 and solid
resistance at $650.  It's hard to find a winning play in this
sector, although Broadcom (NASDAQ:BRCM) seemed to lead the
charge higher today with a nearly $3 gain.  For the record, BRCM
is a current OIN Call play and is today's Play of the Day.

So if there wasn't much market-moving news today, let's see what
is on the horizon this week.  It is a big week for retailers,
with Walmart (NYSE:WMT) getting things started tomorrow morning
before the open.  The company is expected to earn $0.37 per
share compared to $0.36 in the year-ago period.  The stock has
been under pressure again over the past week after failing to
power through the $56 resistance level.  Over the past 2 weeks
I have been pointing to weakness in the Retail sector, which I
expected to continue due to the almighty consumer beginning to
slow their spending habits.




Despite hope for brisk business from the back-to-school crowd,
the results so far appear to be rather disappointing.  This
afternoon Dow Jones reported that WMT is experiencing sluggish
back-to-school sales.  What happened to all that tax rebate
money consumers were supposed to be spending?  As a bellwether
for the Retail sector, I'll be watching the company's earnings
report and conference call in the morning.  Along with Home
Depot (NYSE:HD) who also reports its earnings in the morning,
we could have the catalyst for a significant sector move
through the rest of the week.  .  Of course we don't want to
forget the Retail Sales report due out before the market open
as well.  Although I don't expect it, WMT and HD could gang up
on the bears, beating estimates and leading the RLX out of
near-oversold territory

The Volatility Index or VIX isn't giving us any strong clues
either as it continues to meander in the 22-24 area, reflecting
a decided lack of fear in the market, but also a lack of strong
bullish sentiment.  The smart investors seem to be on vacation,
waiting for the return of solid volume after Labor Day.  In the
meantime, we are left with a low-volume, rangebound market that
jumps on the slightest news item but lacks the follow through
to continue the initial move.

Rounding out the event calendar for the week, we have the CPI
report on Wednesday and New Housing Starts on Thursday with the
Preliminary Michigan Sentiment on Friday.  When there isn't a
high-odds trade to be had and there are potential land-mines
wherever you look, there is no shame in staying on the
sidelines.  In fact, sometimes the smartest decision you can
make is to not trade today.  Investors may just be biding their
time until they see which way the Fed is going to move, and we
only have 6 more days until we will find out.

Trade only when the reward/risk ratio is in your favor.


Mark Phillips
Research Analyst


*******************************************************************
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******************************************************************


****************
MARKET SENTIMENT
****************

Chips Play Second Fiddle
Jeffrey Canavan

Goldman Sachs tried to light a fire under semiconductor stocks by
saying, "The recovery writing is on the wall, and we don't see
how investors will be able to resist this inflection point."
Perhaps we will be able to resist this inflection point because
next week some other analyst will come out and say, "After
conducting channel checks, we see no reason to believe that the
semiconductors have bottomed."  I believe Ari Weinberg at The
Industry Standard sums it up best by saying, "Given the recent
debate about the semiconductor industry, it's clear that the only
companies with a clue on the state of chips are Frito-Lay and
Toll House."

Biotechnology Index Daily Chart



When investors resisted the semiconductor inflection point this
morning, Biotechnology stepped up and took the lead, gaining 4.67
percent.  On Thursday the Biotechnology Index (BTK.X) bounced off
of support at the top of the April double bottom pattern at 473.
Friday the index failed to mount any kind of follow through, but
finally did today.  Tomorrow biotechs will have to deal with the
recent downtrend, and the resistance at 550.

Gold and Silver Index Daily Chart



Today's honorable mention award goes to the Gold Index (XAU.X).
Thursday's big moved looked like a one day wonder when the index
failed to clear resistance at 56.41 and sold off on Friday.  But
more talk of a falling dollar, and rising gold futures had gold
stocks shining again today.  Today's 2.68 percent gain put XAU
above resistance at 56.41, but I would like to see it close above
that level for a few days before I get excited about gold stocks.
Most of the gains in gold futures are being attributed to short
covering, and not any shift in demand.  The World Gold Council
reported a 3% drop in demand for gold in the second quarter.
Take your pick, technicals or fundamentals.

Retail Index Daily Chart



The sector to watch tomorrow is retailing.  Another batch of
retail sales is released at 8:30 EST, and Wal-Mart, J.C. Penny,
Office Max and Home Depot report earnings before the bell.  Wal-
Mart has already come out and said that back to school sales are
slower than expected, so a bearish tone could be set early.  Keep
an eye on support at 877.54 for the Retail Index (RLX.X).


*************************Sector Watch****************************

            Support                Close              Resistance
DJIA       |10,200  |      |      |10416 |      |      |  10,600|
NASD       | 1,940  |      | 1982 |      |      |      |   2,125|
S&P 500    | 1,170  |      | 1191 |      |      |      |   1,240|
Rus 2000   |   465  |      |      |  478 |      |      |     495|
Semis      |   535  |      |      |  603 |      |      |     660|
Biotech    |   473  |      |      |  518 |      |      |     550|
Internet   |   121  |      |      |  139 |      |      |     160|
Networking |   300  |      |  322 |      |      |      |     365|
Software   |   174  |      |  180 |      |      |      |     200|
Banking    |   650  |      |      |  677 |      |      |     685|
Retail     |   858  |      |  881 |      |      |      |     920|
Drugs      |   380  |      |      |  397 |      |      |     410|

Support Alerts: Internet, Software, Retail
Resistance Alerts: Banking
            _______________________________________________
           |   Long    |   Short   | Strength  | Relative   |
           |   Term    |   Term    |    of     | Strength   |
           |   Trend   |   Trend   |  Trend    | vs S&P 500 |
DJIA       |  Bearish  |  Bearish  |   Weak    |  Neutral   |
NASD       |  Bearish  |  Bearish  |   Weak    |  Neutral   |
S&P 500    |  Bearish  |  Bearish  |   Weak    |    --      |
Rus 2000   |  Bearish  |  Bearish  |   Weak    |  Neutral   |
Semis      |  Bearish  |  Bearish  |   Weak    |  Neutral   |
Biotech    |  Bearish  |  Bearish  |   Weak    |  Neutral   |
Internet   |  Bearish  |  Bearish  |   Strong  |  Negative  |
Networking |  Bearish  |  Neutral  |   Weak    |  Neutral   |
Software   |  Bearish  |  Bearish  |   Gaining |  Negative  |
Banking    |  Bullish  |  Bullish  |   Gaining |  Positive  |
Retail     |  Bullish  |  Bearish  |   Weak    |  Neutral   |
Drugs      |  Neutral  |  Neutral  |   Weak    |  Positive  |

            _____________________________________
           | Short-Term  |          | Point and |
           | Overbought/ | Momentum |   Figure  |
           | Oversold    |          |   Signal  |
DJIA       | Oversold    |  Flat    |   Sell    |
NASD       | Oversold    |  Flat    |   Sell    |
S&P 500    | Oversold    |  Flat    |   Sell    |
Rus 2000   | Oversold    |  Flat    |   Sell    |
Semis      | Oversold    |  Rising  |   Buy     |
Biotech    | Oversold    |  Rising  |   Sell    |
Internet   | Oversold    |  Flat    |   Sell    |
Networking | Oversold    |  Flat    |   Buy     |
Software   | Oversold    |  Flat    |   Sell    |
Banking    | AP OS       |  Rising  |   Buy     |
Retail     | Oversold    |  Falling |   Sell    |
Drugs      | Neutral     |  Rising  |   Buy     |
             AP OB = Approaching Overbought
             AP OS = Approaching Oversold

*****************************************************************


**************
TRADERS CORNER
**************

Stochastics - Beyond the Theory
Mark Phillips

After putting everyone to sleep last week with my theoretical
treatise on the Stochastics oscillator, I hope you are all
looking forward to my usual graphical treatment of the tools of
the trade we know as "The Market".  Although it was a dry
article, I think we have set the groundwork in place to have a
meaningful and useful discussion of how we modify and use this
staple of technical analysis for our day-to-day work in the
trenches of trading.  If you missed last week's article, it is
archived for posterity and can be accessed from the following
link: Stochastics - A Primer <http://www.OptionInvestor.com/traderscorner/080601_1.asp>.

To quickly recap what we covered last week, the Stochastics
Oscillator consists of two lines which move (or oscillate)
between a minimum of 0 and a maximum of 100.  The oscillator's
originator, George Lane specified that it could be considered
overbought above 80 and oversold below 20, and entire books have
been written on how to tweak, use and interpret it's movement.
There are three possible parameters that we can modify to
influence the behavior of the two Stochastics lines %K (Fast)
and %D (Slow).  The first parameter defines the period of the %K
line, the second refers to the slowing of the %K line (smoothing
by a moving average of the defined period), while the third
parameter represents the period of the moving average that is
used to slow the %K line (slowed) to produce the Slow %D line.

All of the examples I am going to go through are daily charts
out of the Qcharts charting program, which allows me to modify
each of the three parameters.  So for me, a typical Stochastics
setting might be Stochastics (10(3),5).  That means the %K
period is 10 days with a 3-day smoothing.  Then a 5-day moving
average is applied to that slowed-%K to produce the Slow %D
line.  Not all charting applications are this flexible, with
many only providing 2 parameters to modify.  If that is the case
with your charting program, you can ignore the second parameter,
as your oscillator will take the form of Stochastic (10,5),
where the %K slowing is set to 1, nullifying its effect.

What is actually displayed when the Stochastics oscillator is
applied to a price chart is the slowed %K (Fast line) and the %D
(Slow line).  The stochastics oscillator can essentially be
regarded as an improved moving average crossover system, with
the added benefit of overbought and oversold regions to help
give us stronger trading signals.  So let's dive into some
charts and see what they look like and what we can do to
optimize them.  I'll stick with daily charts in my examples,
but the information we cover here applies to any time frame
from monthly all the way down to 1-minute charts.

Stochastics and other oscillators typically perform at their
best when the equity in question is trading in a range, as the
oscillator will regularly travel from overbought to oversold
and back again while the price oscillates between the limits of
the range, giving fairly reliable trading signals.  When we are
faced with a rangebound market, Stochastics are one of the best
friends a short-term trader will find.  Take a look at the
following chart of the NASDAQ Composite and look at the signals
Stochastics have given us in the past few months.  Let's start
with a setting of Stochastics (10(3),5), and then we'll see if
we can improve things from there.




The NASDAQ Composite price chart shows that we clearly have a
rangebound market, so this should be fertile ground for the
Stochastics oscillator.  But we can see that with the (10(3),5)
setting, the signals generated leave something to be desired.
The %D (Slow) line lags too far behind the %K (Fast) line to
provide the crisp trading signals necessary for trading the
choppy NASDAQ.  So let's start tweaking and see what we can
accomplish.




Well now, that's a good start.  By reducing the %D period from
5 to 3, we can see that most of the lag is removed from our
Stochastics oscillator and we are starting to get crisper
signals.  Recall that we are looking for the fast line to cross
over the slow line and then emerge either from the overbought
or oversold territory to give us a good entry point.  Let's
look at some of them in detail.




Well we clearly have some solid entry points with Sells in the
fourth week of May, first week of July and first week of August.
Only one decent buy signal occurred in the third week of June
(we ignore the one in the second week of July due to the huge
gap up).  We would expect more solid Sell signals with the
overall trend still headed down.  But too many of the inflection
points are occurring outside the overbought/oversold regions
keeping us out of many of the good moves.  This is a classic
example of using too long a primary period for %K, so it's time
to go a-tweaking once again.




Shortening the %K period from 10 to 5 has an amazing effect,
giving us a plethora of entries both to the long and short side.
The only questionable Buy signal is the Buy in the second week
of July - even though the signal was good, the opening gap the
next day made the move unplayable in my opinion.  And then the
Sell signal the next week didn't occur in oversold territory -
even though it was profitable, conservative traders likely
would have let that one go.  What about that upturn in the fast
line happening right now?  Based on the recent trading pattern,
do you think that might make a good short-term trade?

Thus ends an abbreviated journey, showing how I have arrived at
the settings I use for Stochastics on my daily and weekly
charts.  But don't take my word for it - experiment on your
own with charts you are familiar with.  Who knows, you may find
a set of settings that provides even better signals.  Reading
is only the first stage of education.  The real power of
learning is when you apply your new-found knowledge in order to
develop the strongest and most valuable part of learning -
personal experience.  And don't forget to experiment with
different settings for different timeframes.  You may find that
you get better performance from the Stochastics on intraday
charts with different settings than you arrive at for the daily
chart.

Here's one last chart showing how excessive tweaking can take
us past that optimal point.  I've reduced the %K smoothing
period to 1 (removing the smoothing effect) and you can see
how the Fast line becomes much choppier, resulting in more
false signals.




Not only does the Fast line get choppy, but so does the Slow
line, because it is really just a slowed and smoothed version
of the Fast line.  What we have here is equivalent to the Fast
Stochastics available from several charting applications with
a setting of (5,3).  This is why we prefer to use the Slow
Stochastics on charting applications that only give us 2
parameters to modify - with smoothing comes stability, and
with stability come more profitable trading decisions.

So dig into your charting toolbox and see what nuggets of wisdom
you can unearth through experimentation.  Like everything else
worthwhile, valuable trading experience comes through
application of knowledge.  Remember how the saying goes - "Good
judgment comes from experience, and experience comes from bad
judgment".  Don't be afraid to experiment - but do your
experimentation with paper trades.  The lessons are much
less expensive.

Happy Charting!
Mark


*************
NEW CALL PLAY
*************

No new calls tonight


************
NEW PUT PLAY
************

No new puts tonight


*****************
STOP-LOSS UPDATES
*****************

No updated stops tonight


*************
DROPPED CALLS
*************

No dropped calls tonight


************
DROPPED PUTS
************

ADBE $35.85 +1.80 (+1.80) ADBE treated us well over the past
week as it broke down through long-term support at $37,
declining all the way to $33 on Friday.  With the broad markets
staging an impressive rebound Friday afternoon, we figured the
prudent move was to tighten up that stop.  And we were proven
right today as ADBE found buying support, buoyed by the
resilience in the Technology sector.  We're happy to take our
gains and move on to the next play.

DIGL $17.97 +0.18 (+0.18) Keeping us on pins and needles all day
Monday, DIGL rallied right up to $18.40 (the location of our
stop is $18) before the bulls ran out of steam.  Although there
was enough selling toward the close to push DIGL back under our
stop (by 3 cents), with the daily Stochastics giving a clear buy
signal, the stock looks like there is more upside in store.
We'll take pre-emptive action tonight and remove DIGL from the
playlist.

VRTX $37.69 +2.05 (+2.05) That was quite a reversal!  Helped
along by the Biotechnology index (BTK.X) rebounding back above
the $500 level, VRTX gained better than $2 on Monday and the
buying volume was increasing right up to the closing bell.  With
both the stock and its sector moving back into the bulls' camp
and our $36 stop violated, there is no choice but to issue a
drop for the play tonight.


**********************
PLAY OF THE DAY - CALL
**********************

BRCM - Broadcom $45.37 +2.82 (+2.82 last week)

Broadcom Corporation is a leading provider of highly integrated
silicon solutions that enable broadband digital transmission of
voice, video and data. For the 3 months ended 3/31/01, revenues
rose 62% to $310.5M. Net loss totaled $356.9M, vs. an income of
$38.6M. Revenues reflect increased volume shipments of
semiconductor products. Net losses reflect a $109.7M in-process
R&D charge and a $200.7M amortization of goodwill charge.

Most Recent Write-Up

BRCM's weak price action is disconcerting.  The stock has recently
begun under performing both the COMPX and SOX, on a relative price
basis.  What's more, it's relative lows continue getting lower.
That being the case, bullish traders should be cautious before
entering new call plays in BRCM going forward.  At the very least,
stringent risk management should be employed by those trading
BRCM.  The stock twice bounced from the $41 area in as many days
late last week; but that is not much consolation due to the fact
that our stop is in place at the $42 level.  BRCM was barely
able to close above that level last Friday, and reinforces our
cautious bullish stance currently.  Of course the stock could
easily reverse course, and fast.  But until the Nasdaq and SOX
show signs of stabilization, BRCM is likely to remain under
pressure.  There's a possible catalyst next week in the form
of CIENA's earnings report that, if positive, could reverse the
direction of the Networking sector and those companies closely
tied to it such as BRCM.  And there's also the earnings report from
Applied Materials.  So there are a few possible bullish catalysts
on the horizon.  Perhaps the most prudent strategy would be to
wait for BRCM to advance past $44 and break its string of
relatively lower highs before considering new entries into the
play.

Comments

Assisted by bullish comments from Goldman Sachs Monday morning,
the Semiconductor sector (SOX.X)continued its tenuous recovery,
clawing its way back over the $600 level in the final hour of
trading.  BRCM led the charge throughout the day, gapping up to
$44 and then building on those gains right up to the closing
bell.  Adding to the significance of the move was the fact that
volume was only slightly below the ADV while the NASDAQ saw its
second lightest trading day of the year.  A weak-volume dip to
the $44-45 level followed by a bounce still looks attractive
for fresh entries as the daily Stochastics oscillator recovers
from oversold territory.

BUY CALL SEP-45*RCQ-II OI=4017 at $5.00 SL=3.00
BUY CALL SEP-50 RCQ-IJ OI=1412 at $2.95 SL=1.50
BUY CALL SEP-55 RDZ-IK OI=1089 at $1.60 SL=0.75
BUY CALL NOV-45 RCQ-KI OI=1170 at $8.00 SL=5.75
BUY CALL NOV-50 RCQ-KJ OI=4000 at $5.90 SL=4.00
BUY CALL NOV-55 RDZ-KK OI=1182 at $4.20 SL=2.50

Average Daily Volume = 9.90 mln



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