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Daily Newsletter, Monday, 12/03/2001

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The Option Investor Newsletter                   Monday 12-03-2001
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******************************************************************
MARKET WRAP  (view in courier font for table alignment)
******************************************************************
        12-03-2001        High      Low     Volume Advance/Decline
DJIA     9764.00 - 87.60  9848.90  9703.90 1.20 bln   1272/1870	
NASDAQ   1904.90 - 25.60  1925.35  1898.98 1.48 bln   1324/2282
S&P 100   578.66 -  6.14   584.80   576.77   totals   2596/4152
S&P 500  1129.90 -  9.55  1139.45  1125.78
RUS 2000  457.03 -  3.75   460.79   455.51
DJ TRANS 2483.06 - 28.72  2512.68  2471.24
VIX        26.00 -  0.14    27.04    25.82
Put/Call Ratio      0.62
******************************************************************

Mid-East Violence Prompts Profit Taking

On the heels of another suicide-bombing attack in Israel over
the weekend, Israel retaliated by launching rockets at Yasser
Arafat's headquarters in the Gaza Strip and on the West Bank
city of Jenin.  Laying the blame at Arafat's doorstep, Israeli
Prime Minister Ariel Sharon likened his country's reprisal to
the United States' efforts to root out terrorism wherever it
exists.

Fears that the ongoing Middle East conflict could spiral out of
control sent the broad markets spiraling lower at the opening
bell, a decline from which they never recovered.  Despite
several attempts throughout the day, there was no conviction in
the bullish camp, keeping the DJIA below the 9800 level all day,
while the NASDAQ Composite meandered in a tight range between
1900-1925.

This was in spite of potentially positive economic data out this
morning in the form of Consumer Spending.  Exceeding the
consensus expectations of +2.3%, the actual report showed
continued strong spending completely offset the September
decline with at rise of +2.9%.  Given the previously released
strong Retail Sales report, the sharp rise in Consumer Spending
was likely already factored into the market, making the Middle
East violence the dominant factor as the markets opened.  Half
an hour after the open, the NAPM numbers came out (44.5% vs.
42% expected), but the potential bullish effect of that report
was shrugged off as light trade saw a modest downward move by
the end of the day.

By the closing bell, the DJIA had trimmed its losses to a little
over 87 points, while the NASDAQ Comp. ended the session with a
25 point loss.  Volume was moderate on the Big Board and
downright anemic over at the NASDAQ, with decliners solidly
trouncing advancers throughout the day on both exchanges.  While
it would be natural to blame the weakness on the Mid-East
situation, I tend to think that isn't the case, given the light
trade.

Let's face it, there were some more significant developments in
the business world, and that is before we even consider the
approach of earnings warning season.  Starting in the Automotive
sector, the news just keeps getting worse over at Ford (NYSE:F).
Despite strong sales due to the zero-percent financing
promotion, the car maker announced cutbacks in retirement and
health benefits for 45,000 white-collar workers along with plans
to lay off an additional 630 workers.  The CEO said these cuts
probably won't be the last as the firm seeks to return to
financial health.

The meltdown of Enron (NYSE:ENE) continued with the firm
formally filing bankruptcy and suing former merger partner
Dynegy (NYSE:DYN) in the amount of $10 billion for terminating
the proposed buyout/merger that was widely viewed as ENE's last
chance to avoid bankruptcy.  DYN responded with its own
counter-suit, showing that the demise of once mighty ENE will
not be a simple matter.  But the markets have largely discounted
this process, and it is likely not going to have a significant
effect going forward until investors can see what the collateral
damage is to other market participants, most notably in the
Financial sector.

Widely viewed as a leading indicator for the broad Technology
market, the Semiconductor sector had several notable news items
on Monday, starting with the Semiconductor Industry
Association's (SIA) data showing that the 38% year-over-year
decline in orders was worse than the September decline of 29%.
While still better than the low in August, these data suggest
that there will not be a V-shaped recovery in Semiconductors.

Lehman analyst Dan Niles, commenting on this data suggested that
buying stocks at the bottom for year/year declines in orders
might not work this time like it did in 1986 and 1991.
Seemingly in contrast to this view, Niles raised his price
target on shares of Compaq Computer (NYSE:CPQ), due to the firm
having a strong October and November.  He cited that the
consumer market has bounced back since the September terrorist
attacks and that corporate customers have stuck with the firm
despite the uncertainty of the pending merger with
Hewlett-Packard (NYSE:HWP), which he still gives a 75 percent
chance of success.

Weighing in ahead of the chip giant's mid-quarter update on
Thursday, Jonathan Joseph of Salomon Smith Barney made bullish
comments on Intel (NASDAQ:INTC) Monday.  Citing market
acceptance of the new P4 chip, and anticipated recovery in the
microprocessor market.  Mr. Joseph expects INTC to be at the
high end or exceed their $6.2-6.8 billion revenue target for
the current quarter.  INTC ended the session down 62 cents at
$32.04.

In the Biotechnology arena, MedImmune (NASDAQ:MEDI) agreed to
acquire Aviron (NASDAQ:AVIR), the maker of a promising
nasal-spray flu vaccine.  The $1.5 stock deal values AVIR at a
13% premium to Friday's closing price of $37.  Shares of MEDI
dropped nearly 12% to $38.83, while AVIR rose to $41.42.

One other interesting development while we're talking about
individual equities is the recent price action in shares of
General Electric (NYSE:GE).  Largely regarded as a proxy for
the broad market due to its participation in virtually every
sector of the market, the stock has been trading particularly
poorly over the past week.  After the breakout over $40, GE
began weakening considerably last week and has lost more than
10% in just the past 4 days.  That brings the stock very close
to major support near $36, and should it break down below that
level, it could be a leading indication of pending broad-market
weakness.  GE will be updating their outlook at their
mid-quarter update on December 17th.

Speaking of the broad market, I think it is worthwhile to
re-examine some of the sectors that have been leading the recent
rally to try to divine where the broader market may be headed
from here.  We have looked at each of these in recent weeks, so
I'll keep my comments brief.  I think you'll see the emerging
theme, with very little comment necessary.  Each of these
sectors, Biotechnology (BTK.X), Internets (INX.X), Networking
(NWX.X), Semiconductors (SOX.X) and Software (GSO.X) have been
tracing a solid and reliable uptrend over the past 2 months.
That picture has been changing somewhat over the past few
sessions, as can be seen most clearly in the daily charts below.

GSO and NWX indices:




SOX and BTK indices:




The one remaining sector of technology that has not yet violated its
ascending trendline is the Internet sector, but we are seeing signs of
weakness here too.




After falling back from the double-top near $145, also the site
of the 38% retracement from the May highs (not shown).  This
could just be a healthy pullback (ideally to the $120 support
level), before the sector continues to recover, but judging by
the 4 other Technology sectors shown above, bullish traders need
to proceed with caution here.  All of the above sectors, as well
as the broad market indices have seen strong advances off their
September lows, largely on hopes that the worst of the economic
weakness is in the past.  Whether that is the case remains to be
seen, but with earnings warning season looming large in the
viewscreen, prudence demands that the bulls exercise caution.

The DJIA spent all day today below the bullish trigger level
(9800) that Jim listed over the weekend, while the NASDAQ and
S&P500 spent the session above their respective triggers, 1900
and 1125.  Continue to use those levels as your first-level
filter for staying long.  Then use the behavior of the sector
index related to your trade, to determine whether the risk is
weighted to heavily to the downside.  If everything is lining up
against your bullish bias, it just might be time to switch to
puts.  Afterall, that approach has worked for every rally we
have seen for the past year, and that is a formidable pattern
to bet against.

Preserve your capital by keeping a market-neutral bias.
Remember, the market is neither good, nor bad.  It just is.

Mark Phillips
Research Analyst


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

The Long Butterfly Spread - Picking the Right Candidate
By Mark Phillips
Contact Support

We've been covering different types of Spread strategies in this
column for the past several weeks and last week I introduced one
of my favorite neutral strategies, the Long Butterfly Spread.
To review, this strategy consists of buying 2 Calls (or puts)
and selling 2 Calls (or puts) at different strike prices to
create the Risk/Reward curve shown below.





As I stated last week, this is a limited risk, limited reward
trade, where we are betting on the stock trading near 'B' at
expiration. Maximum reward (B-A-cost to initiate the trade)
would occur at 'B', while maximum loss (defined as the cost to
initiate the trade) would occur either at 'A' plus the cost of
the spread or 'C' minus the cost of the spread.  In these
trades, most of the profit develops in the month prior to
expiration, so we prefer to initiate the position with front
month contracts in the first two weeks of the expiration cycle
and next-month contracts in the last two weeks of the expiration
cycle.

Since we covered the details of how to set up the trade last
week, let's dive right into a real-world example and see how the
numbers add up.  We can then place a paper trade as of today's
closing prices and then revisit it after expiration Friday in
December and see how the trade would have fared.

Since we are looking for a stock that is likely to be rangebound
between now and the time the options expire, the first task is
to find a stock that is already demonstrating a propensity to
trade in a given range.  In my research, I found several stocks
that have been rangebound lately and here is the list that I
came up with.  The reason that I've listed them all is so that
you can pull them up in your favorite charting program and see
what we are looking for in terms of rangebound behavior.  While
we want to have a definable range, a stock that is just trading
flat, isn't necessarily the best choice.  We need to have some
price volatility to make the math work out, allowing us to
structure the trade for an acceptable risk/reward ratio.

Here's an example of a stock that just plain wouldn't work for a
Long Butterfly spread.  Rambus (NASDAQ:RMBS) could have been the
poster-child of momentum stocks 2 years ago, but for the past 6
months has traded between $6-10, except for a couple of
short-lived aberrations.  If we were to put on the trade on RMBS
using December strikes, here is how the math would work out:

Buy  1 DEC-5.0 Call ('A' strike) for $3.70 ask
Sell 2 DEC-7.5 Calls ('B' strike) for $1.05 bid
Buy  1 DEC-10 Call ('C' strike) for $0.25 ask

Total cost to put on the spread = 3.70 - 2(1.05) + 0.25 = $1.80
Maximum Risk = Total Cost = $1.80
Maximum Reward = Strike 'B' - Strike 'A' - Total Cost
               = 7.5 - 5.0 - 1.8 = 0.7

So putting on the RMBS Butterfly spread means that we are
risking $1.80 in order to make a maximum of $0.70.  In my world
that is a pretty lousy risk/reward ratio.  So let's look at that
list of candidates that gives us better odds.

IBM - Caught in a trading range between $112-117 for a month.
AFFX - Rallied right to $38 resistance; now stuck between $35-38.
QQQ - Rallied right to resistance; now rangebound for 3 weeks.

The best risk reward ratio for Butterfly spreads on these three
stocks comes from IBM.  I'll walk through the math and set up
the paper trade that we can revisit after expiration Friday.
I'll leave the details of the AFFX and QQQ calculations to the
enterprising student.  I've always wanted to say that, as I
hated it when my engineering textbooks did that.  Usually they
skipped the work on the really confusing problem after giving a
simple example.  But in this case, you can copy exactly what I
do on the IBM trade and you should be able to come up with
reasonable numbers.  If you have any problems, feel free to send
me an email and I'll be happy to help.

So, on to IBM.  Assuming we are doing the trade with December
contracts, it would look like this:

Buy  1 DEC-110 Call (IBM-LB) for $6.10 ask --- Strike A
Sell 2 DEC-115 Calls (IBM-LC) for $2.40 bid -- Strike B
Buy  1 DEC-120 Call (IBM-LD) for $0.85 ask --- Strike C

Total cost to put on the spread = 6.10 - 2(2.40) + 0.85 = $2.15
Maximum Risk = Total Cost = $2.15
Maximum Reward = Strike 'B' - Strike 'A' - Total Cost
               = $115 - 110 - 2.15 = $2.85

While it is certainly much better than the RMBS trade, I still
have a hard time getting excited about risking $2.15 to make
$2.85.  There just isn't much more than a 1:1 ratio, and there
are better trades to be had.  But look what happens when we go
out to the January strikes.  Remember that most of the money
made in long Butterfly spreads is made in the last 30 days, so
maybe we are already too close to expiration to get maximum
benefit.

Using January Strikes:

Buy  1 JAN-110 Call (IBM-AB) for $8.10 ask --- Strike A
Sell 2 JAN-115 Calls (IBM-AC) for $4.70 bid -- Strike B
Buy  1 JAN-120 Call (IBM-AD) for $2.75 ask --- Strike C

Total cost to put on the spread = 8.10 - 2(4.70) + 2.75 = $1.45
Maximum Risk = Total Cost = $1.45
Maximum Reward = Strike 'B' - Strike 'A' - Total Cost
               = $115 - 110 - 1.45 = $3.55

Now that's a lot more like it!  Risking $1.45 to make $3.55
gives me nearly a 2.5:1 reward/risk ratio.  That's not bad for
a limited risk and limited reward trade.  I'll come back to this
trade over the next several weeks (all the way up to expiration
in January) and we can see how the trade progresses.  So long as
IBM remains between $111.45-118.55 at expiration in January,
we'll either break even or make money.  Stay tuned!

Hopefully this gives you an idea of when to apply the strategy
and how to calculate which stocks would provide an attractive
risk to reward ratio.  Play around with some other rangebound
stocks and do some sample calculations.  That will give you a
feel for how the math works and help you to notice when a stock
is a favorable candidate for a long Butterfly spread.

I'm sorry we didn't get to the Short Butterfly spread this week.
As usual, I got a bit carried away with my examples.  But I
promise next week, we'll devote the whole article to that
strategy, along with at least one example of an attractive
trade.

Have a great week!

Mark Phillips
Contact Support



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

No new calls tonight


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

No new puts tonight


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

SEBL - put
Adjust from $25.50 down to $24.50


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

JNPR $23.22 -1.36 (-1.36) Weakness in the Networking sector was
too much for the bulls to handle on Monday and JNPR finally gave
up the $24 support level after struggling to hold above that
point for the past few days.  The stock has continued to weaken
after once again failing to push through resistance near $27.50.
With our violated stop, we're left with no choice but to drop
JNPR from the call list tonight, even though the selling did
come on rather light volume.  Use any rebound tomorrow as an
opportunity to exit the play at a more attractive level.



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

No Dropped Puts tonight



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

IMCL – Imclone Systems $71.25 -0.75 (-0.75 this week)

Engaged in the research and development of novel cancer
treatments, IMCL focuses on growth factor inhibitors,
therapeutic cancer vaccines and angiogenesis inhibitors.  The
company's lead product candidate, IMC-C225, is a therapeutic
monoclonal antibody that inhibits stimulation of a receptor for
growth factors upon which certain tumors depend.  Phase I/II
clinical trials have been promising.  The lead candidate for
angiogenesis inhibition, IMC-1C11 is an antibody that binds
selectively and with high affinity to KDR, a principal
Vascular Endothelial Growth Factor (VEGF) receptor, thus
inhibiting angiogenesis.

Most Recent Write-Up

While the Biotechnology sector (BTK.X) has been one of the
leaders of the NASDAQ rally off the September lows, the sector's
nearly 50% rise over the past 2 months is not nearly as
impressive as the rally in shares of IMCL.  While the stock is
'only' up 44% from late September, IMCL didn't so much as flinch
while the rest of the market tanked after the September attacks.
Take a look at the charts of IMCL vs. the BTK and you can see
the relative strength.  So we've got a strong sector that looks
like it wants to continue northward, and a stock within the
sector that is outperforming.  Sounds like the perfect recipe
for a call play, don't you think?  IMCL blasted through the $63
resistance level 2 weeks ago and then vaulted through the $67
resistance this week.  Now clearly in breakout territory, IMCL
is trading at levels not seen since March of 2000.  Have you
seen any other stocks trading that strongly lately?  Clearly,
this is a momentum run that we're looking to take advantage of,
and as such, pullbacks to support are likely to be fleeting.
Support and resistance can currently be defined by the ascending
channel the stock has been trading in for the past 2 weeks, with
support currently at $71.50.  Target either intraday bounces
from the supportive trendline or a breakout to new yearly highs
above $73.50.  Of course, IMCL might not remain in this
aggressive channel for long, and we'd consider it a gift to get
a pullback near intraday support at $70 or even $68.  Place
stops initially at $67.

Comments

Biotechnology stocks took a beating on Monday, with the
Biotechnology index (BTK.X) giving up a non-trivial 3.25%, and
falling right to the ascending trendline that has been providing
support since the September lows.  While there was some profit
taking in shares of IMCL, investors shrugged off most of the
weakness, holding the loss to only 1%, as the stock once again
found support near $71.  This has been a popular level over the
past week, and could be the consolidation point that will launch
the stock through resistance to new yearly highs.  Continue to
look for entries on a bounce from the $71 level or even $68
should more substantial profit taking occur.  The stock has been
outperforming the BTK index and as long as the bullish trend
continues, will likely challenge the $73 highs from last week.
Just remember to keep a sharp eye on the BTK index.  If it fails
to hold above its descending trendline, the rally in shares of
IMCL could have problems.

BUY CALL DEC-70 QCI-LN OI=1524 at $3.50 SL=1.75
BUY CALL DEC-75 QCI-LO OI=3481 at $1.30 SL=0.75
BUY CALL JAN-70 QCI-AN OI=1204 at $5.90 SL=4.00
BUY CALL JAN-75 QCI-AO OI=1319 at $3.30 SL=1.75
BUY CALL JAN-80 QCI-AP OI= 870 at $1.65 SL=0.75

Average Daily Volume = 2.15 mln




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