The Option Investor Newsletter Wednesday 02-13-2002 Copyright 2001, All rights reserved. 1 of 2 Redistribution in any form strictly prohibited. Posted online for subscribers at http://www.OptionInvestor.com ******************************************************************* MARKET WRAP (view in courier font for table alignment) ******************************************************************* 02-13-2002 High Low Volume Advance/Decline DJIA 9989.67 +125.93 9998.25 9856.99 1.09 bln 1520/1560 NASDAQ 1859.16 + 24.95 1862.42 1844.12 1.59 bln 1708/1804 S&P 100 567.79 + 5.28 569.64 562.51 Totals 3228/3364 S&P 500 1118.51 + 11.01 1120.56 1107.50 RUS 2000 476.33 + 4.32 476.33 472.01 DJ TRANS 2711.59 - 19.17 2744.14 2702.93 VIX 22.44 - 1.07 23.60 22.14 VXN 44.17 - 1.28 45.59 44.08 TRIN 0.93 PUT/CALL 0.76 ******************************************************************* Split Decision Austin Passamonte As noted in my last three Index Wrap sections, we have expected rising index prices this week. Indeed our charts were correct and higher levels prevail, but it's not been a straight-up ascent. Along the way we endured tough to read intraday charts that are the lifeblood of short-term traders but merely market noise to those with longer-term plays in mind. I do get mail from readers who confuse the two, wondering why we see bullish charts in the Wrap sections and bearish looking intraday charts within. Two completely different topics of discussion for separate market players entirely. This nightly section is designed to offer guidance towards the next few sessions ahead and we usually focus on weekly/daily time frame charts within our little corner. No change in that approach tonight, so let's see what the mid-term future may hold. (Weekly/Daily Charts: SPX) First up, big index. Weekly chart at left shows why the 1119 area acts as such a price magnet; it's roughly 50% retrace from 2001 high to low span. A break & close above there could bring the 1160 area into play, and all stochastic values are still bullish right now. No reason to try shorting this one from here by any means. (Weekly/Daily Charts: NDX) The Nasdaq is rather subdued these days and not likely to be the mover & shaker market it was for a brief moment in time. Still, plenty of tech addicts exist and their comfort zone for this sector will linger far into the future. For now we see bullish stochastic values, a pending break from it's 2002 descending channel and clear sailing up to the 1600 area where both 50 and 200 DMAs lie in wait to halt upward progress there. (Weekly/Daily Charts: Dow) Likewise the Dow seems to be movin' on up, but weekly chart shows both moving averages and 62% retrace of year 2001 span clustered at 10,125 zone. Stochastic values are bullish, and all seems well for continuation higher for now. Nothing bearish about these charts we've reviewed at all. (Weekly/Daily Charts: SOX) The SOX continues to power higher as well. This is one of tech addict's favorite romper rooms and makes for a lovely sector to trade because of that. These momentum players knee-jerk to every analyst call that comes down the pike, injecting plenty of volatility and directional movement for us to game. Looking full- bull ahead for now and the upper line of its weekly channel (blue) may be the next upside target ahead. I Know, I Know... The VIX Is Low Plenty of reader's email flowed in today asking if we've seen the VIX and other volatility levels behavior today. Yes, we all know the VIX, VXN and QQV are falling back down to recent lows but that in itself is not a reason to get short today. Trust me, they can all fall much lower than here and don't be surprised if the VIX touches 20.00 or lower before the next market top is in place. That won't be far off and should arrive below recent highs in early January. The last two selloffs when VIX broke below 22.00 were not long-term bottom events by any means. This is a very weak market on fundamental and technical basis due for a relief rally in bear market fashion for now. If it sticks & stays for months on end, great! We'll trade the upside with glee and buy every dip. But the volatility levels have not blown off to enough extent after continually returning to low readings in the historical range. As we've repeated in this section since last summer and fall, the past two March/April periods have produced significant market declines right after February rallies where market pundits assured us it was straight up higher from there. That period is a mere three to four weeks away right now and no one can tell if history will repeat or not. But we can bet there are plenty of others looking at the same charts noting that pattern as well. Emperor's Naked For Years Now Since the late 1980s we've seen "relaxed" accounting methods to measure company performance. Salary incentives to corporate officers based on stock prices meant well, as that should have equated to strong company growth. But with all things that concern money, the human mind pushed by greed finds a shortcut to reach the payoff regardless its cost to others. What does that mean in English? It means we have been told the sky is red for well over a decade and everyone put on rose-colored glasses to agree. Stock valuations are based on some synthetic set of values apart from traditional basis. The sky is red. Eventually the masses must admit the sky is not red, it's blue. Once that realization comes about, it changes the entire spectrum of color, now doesn't it? Once the companies who've survived and even grown since inception using "red sky" fuzzy math are forced to report their valuation in blue it could cause quite an asset reallocation for the real basis. Would you agree? Stock players all lie to themselves about PE valuations because that's what keeps the IRAs and 401Ks afloat. By any means necessary keep those plates in the air. Say, do or think whatever it takes to keep stock prices going up or at the very worst not going down. Right or right? Know anyone who lies awake at night with a decimated retirement portfolio praying to their Maker that stock prices will "come back"? Think they can bear to face the possibility that a reshuffling of accounting practices could reshuffle the major indexes and big cap stocks that push the pile in a serious way? Nope... most market players right now cling to every word of economic recovery equals higher stock markets like a drowning man grasps for the shore. And that is where this dirty little reality shall remain, hidden away via fear & pain for now but not forever. Summation Do I think the market will return to new recent highs or crash thru September lows straight ahead? I honestly don't know, and anyone else who assures you either way doesn't know either. I do hope & pray you prepare yourself for any scenario possible, as that is the only way to survive and prosper in the treacherous profession we love. Weekly/daily charts tell me price action wants to go higher from here. Up to where and for how long remains to be seen, but I see no reason to short anything more than intraday scalps and short term plays such as this via the indexes. Individual stocks are another matter, as some are always rising & falling in unison. I will keep buying any dips so long as these chart signals and patterns remain bullish above all us. History and personal experience long ago pounded that discipline in me at a costly price. Time to buy the dips when offered as chart signals continue higher and play the path of least resistance until our next fork in that road is reached. Bullish For Now, austinp@OptionInvestor.com ************************Advertisement************************* Tired of waiting on trades to execute? Does your broker offer Stop Losses on Options? Trade instantly with Stop Losses at PreferredTrade Inc. Stop Losses based on the option price or the stock price. Move your trading into the next millennium with PreferredTrade. Anything else is too slow! http://www.PreferredTrade.com/CF/Home.CFM?ID=OIN ************************************************************** *********** OPTIONS 101 *********** Back to the Olympians of Old By Mark Phillips mphillips@OptionInvestor.com You know, the Greeks. Ok, I know it's a bit of a stretch, but I'm in a jaunty mood today. In late January, we had been talking about the various Greeks like Delta and Gamma, with an eye towards understanding how each of these factors influence the price of options we are interested in trading. While I think we have pretty much exhausted the subject of Delta and Gamma with my last two articles on the subject, I know many of you (because of the volume of email I have gotten on the subject) are anxious for me to tie the topic of Strike Selection in with selection of the proper expiration month. For any latecomers that happened to miss the Delta/Gamma articles the first time around, here are the links for everyone's convenience. The Greeks, Part I - Delta and Gamma Application of Gamma and Delta to Strike Selection Now that we've laid out a process whereby traders can pick the strike that provides the best risk-reward ratio, we need to turn to the concept of time. The next Greek, Theta, encompasses the issue of time decay as it pertains to option pricing. We've all heard that options are a wasting asset, losing value with each day that passes. While that isn't exactly true for all conditions, we can restate the axiom in a more accurate manner. Options are wasting assets, that lose TIME VALUE with each passing day. That's all well and good, but in order to make an informed trading decision based on that knowledge, we need a way to quantify the effect of time on the option we wish to trade. Just knowing that we are losing time value in our option as expiration approaches is not enough; we need to know how FAST it will disappear in the future. Just as we looked at Delta and Gamma values for IBM in the previous 2 articles in our attempt to quantify which strike gives the best balance of risk and reward, so too we can look at different options and determine how much of the price is made up of time value. This is actually a much simpler exercise than what we went through with Delta and Gamma, as all we need to do the rudimentary math is a simple option chain. By comparing the value of the same strike price over various expiration months, we can determine the rate at which an option will lose time value in the future. It is a rough estimate, but more than adequate for our purposes. Let's stick with our IBM example, since I've grown rather fond of it. By the way, have you noticed how little the stock has moved since we started this discussion back on January 23rd. It closed at $107.90 on that day, and here we are 3 weeks later with IBM trading at $108.07. A whopping 17 cents. Aren't you glad you didn't actually implement a trade on the stock when we started talking about it? Ok, let's get some raw data to work with. I'm going to work with the $110 strike for March, April, July and January 2003 for our discussion. Mar 2002 $110 Call - $2.95 Apr 2002 $110 Call - $4.80 Jul 2002 $110 Call - $8.00 Jan 2003 $110 Call - $12.80 Since we are 2 days away from February expiration, we can treat March like the front-month contract. Since the $110 strike is technically out of the money (we're treating it as the ATM, since it is the closest to being truly At The Money), all of the premium for this contract is time value. So we can make some quick deductions, based on the assumption that the price of IBM does not move at all. That price will move, but by making this assumption, we can isolate the effect the passage of time has on the price of our option. 1. The final month of an IBM ATM option's life will see it lose $2.95 of time value. 2. The second to last month of an IBM ATM option's life will see it lose $1.85 (4.90-2.95). 3. On average, an IBM ATM option will lose $1.07 per month (8.00-4.90 divided by 3) in time value during the period of time that it is between 2-5 months from expiration. It is a 3 month span of time, so we divide the difference between the option prices by 3. 4. On average, an IBM ATM option will lose $0.80 per month (12.80-8.00 divided by 6) in time value during the period of time that it is between 5-11 months from expiration. It is a 6 month span of time, so we divide the difference between the option prices by 6. Notice how the monthly value for time decay increases as we get closer to expiration. One word of caution - I have treated the concept of time value as though it were linear. This is just a matter of convenience, that works sufficiently well when we are far away from expiration. But time value actually is a function of the SQUARE of the time remaining until expiration. It is an exponential relationship. While I didn't want to confuse this issue with a bunch of math, I feel it is important to point out that I have taken some literary license here. The important thing to remember is that time decay accelerates the closer you get to expiration. So now we have a way to quantify how fast our option will lose value IF THE UNDERLYING STOCK DOES NOT MOVE. Obviously, that is not the situation we want as option buyers. We want the stock to move in our direction. And fast! But it doesn't always work out that way. Sometimes a stock just sits there for 3-4 weeks (like IBM) before it gets moving. Obviously, if we bought FEB $110 calls on IBM back on January 23rd, we are likely to lose money on the deal with expiration a mere 2 days away. We wouldn't have bought enough time. But how much time would be enough? Aaahhh, now there's the real heart of the matter, now isn't it? If we know exactly how long a move will take to occur, then we know exactly which strike and expiration month to buy, now don't we? Unfortunately we don't have such a crystal ball...or do we? Jeff Bailey frequently talks about the PnF charts and the statistical studies that have been done, showing the odds of successful trades following specific patterns on the PnF charts. And to top it all off, the statistical results include the amount of time (on average) that the projected move took to run to completion. WOW! Did you get that? There is a whole list of PnF chart patterns that will project a likely %Rise (or drop) in a stock following a particular chart formation, and give an estimate of how long it should take for the move to happen. Those of you that took advantage of the great annual renewal offer will be getting all of that data in Jeff's PnF charting book. What a bargain! Ok, so now we have a way to quantify how long a move in the underlying stock should take, and we can determine from the stock's option chain, how fast a given option is likely to lose time value. How do we pick the right month to buy? While it is rather subjective, I like to plan my long-term trades so that I can give my trade enough time to work and still exit with 30-45 days of time before expiration. So if I expect IBM to move up $10 in the next 3 months, then I would likely purchase July contracts. Three months from now, they will still have 60 days of time remaining until expiration. It's a subjective measure I know, but what I'm after is avoiding holding onto an option through the expensive portion of the time decay curve. When using LEAPS, I always close out the position when the LEAP has less than 6 months until expiration. Of course, for shorter-term trades, my criterion is a bit different. If I'm trading front month contracts, I want the amount of time I hold the position (the time period in which I am losing money due to time decay) to be short, relative to the amount of time remaining until expiration. For instance, if I were trading FEB contracts this week, my hold time would be measured in hours, not days. And there is no way I would be holding over the close unless I was expecting a large move (in my direction) at the open the following day. Of course, that would be done with 100% risk capital, as Austin frequently reminds us. Next week though, we'll be back into the first week of the expiration cycle and I could see myself buying March contracts and holding them for up to a week. That's only 25% of the amount of time remaining until expiration, so I still am only subject to a relatively small amount of time decay. I don't need to go through an analysis of time decay on each and every trade. I've gone through the process enough times and traded enough that I have boiled my rules for handling Theta down to one simple premise -- KEEP THE HOLD TIME OF ANY POSITION SHORT, RELATIVE TO THE AMOUNT OF TIME REMAINING UNTIL EXPIRATION. Using that rule keeps me from being on the losing end of the Theta equation almost every time. Hey, there are exceptions to every rule, right? Buying extra time with options is kind of like buying fire insurance on your house. It costs you extra money, but provides a bit of a safety net in return for that expense. But it DOES NOT give you immunity from loss. If the stock that you have bought options on trades sideways for a couple months, your position will lose money at the rate of time decay. This is the benefit of a LEAP, in that it allows you the flexibility of time to wait for expected move to materialize without incurring a huge penalty due to time decay. If you bought a 2-year LEAP and the expected move takes place in 3 months, then take your profits and move on. The LEAP provided the "insurance" you were looking for when you bought that initial time. I can't emphasize this enough. The most important factor influencing the price of your option is the price movement of the underlying security. If the stock is falling, then so is the price of your option, in accordance with the relationship between the Greeks as defined by the Black-Scholes pricing model. (Please don't ask me for details of that model -- the details are available from numerous books already in print, and now that I've left the engineering world, I try to avoid unnecessary exposure to equations. My wife says it makes me more pleasant to spend time with.) Let's come back to the insurance analogy for a minute. You hold the insurance policy IN CASE your house ever catches fire, but you hope that it won't. If you sell the house and there are still 6 months until the renewal of your insurance policy, are you going to continue to keep the policy in place, just in case there is a fire after you sold the house? Of course not! As soon as you sell the house, you are going to terminate the policy and get a refund for the unused portion of the term of the policy. This is precisely the same for the buyer of a LEAP who is expecting a $20 move in a stock. He/she may expect the move to develop in 3-4 months, but want the extra "insurance" provided by a LEAP, just in case the move takes longer than expected. If their stock moves up $20 in just 6 weeks, will they continue to hold the LEAP, just because there is plenty of time until expiration? I hope not. I know I would be exiting in a hurry and taking my profits. When we sell an option prior to expiration, the time-value component of the option price is equivalent to the refund on the unused portion of our insurance policy. We didn't use the time, so we get the premium back. This insurance analogy works for another important point I'd like to make. If we bought extra time for insurance against flat trading over the near term, what does that extra time do for us if the stock falls sharply? NOTHING! If the stock falls sharply, so does our option, driven by the movement of Delta and Gamma. Theta has no effect. Expecting extra time to provide insurance against a drop in the price of the stock is like buying a fire insurance policy on your house, expecting it to protect you against theft. It makes no sense. Imagine the holder of a fire insurance policy calling his insurance agent to report a robbery. Ridiculous? No more so than investors that bought $100 2003 LEAPS on JDSU and never sold them because "there's plenty of time left". Sheer lunacy, but I'll bet there are people reading this right now that have done something similar. Heck, I even made mistakes like that in the early days. It comes from a lack of understanding of what the purpose is behind buying more time. It simply allows you more time to be right (for the stock to move in your direction), but it does not give you license to be lazy (fail to honor your stops because you hope there will be plenty of time for the stock to come back later). I know I hit the last couple points pretty hard, but I hope it was worth it. The reason I'm covering the various Greeks is so that you will have a better idea how each of them affect the price of the option you are considering trading. Better informed is better armed. I am way over both my time and space limits for today, so I'll end it there. Questions are always welcome! Mark ************************Advertisement************************* If you trade options online, then you need an online broker that: offers true direct access to each option exchange offers stop and stop loss online option orders offers contingent option orders based on the price of the option or stock offers online spread order entry for net debit or credit offers fast option executions PreferredTrade offers these online option trading features and more; call 1-888-889-9178 or click for more information. http://www.PreferredTrade.com/CF/Home.CFM?ID=OIN ************************************************************** *********************** INDEX TRADER GAME PLANS *********************** IS Swing Trade Model: Wednesday 2/13/2002 A Struggle Toward Session Highs News & Notes: ------------ Call plays from the opening bell stalled out early and bounced their way to higher lows all session. We entered & exited call plays tracked for tiny gains or breakeven on entry cost at worst, while indexes continue their consolidation efforts. Featured Markets: ---------------- [60/30-Min Chart: OEX] New & larger wedges continue to form. With stochastic values poised near overbought extreme and looking weak to bearish from here, a high-odds call play setup would occur if price action rolls down to the lower pink line of support and hold there while stochastic values turn bullish near or within oversold extreme. That would be near the OEX 564 area on Thursday. [60/30-Min Chart: SPX] Likewise for the SPX near 1111 area if price action reaches there while stochastic values turn bullish in unison. Long plays on support would be high odds, but not using Feb SPX option contracts that cease trading Thursday night and settle in value upon Friday's open. Switch to the OEX for Feb option contracts instead. [60/30-Min Chart: QQQ] The QQQ is a conundrum itself. This is a bullish triangle that should break to the upside but stochastic values are weak to bearish at best. A break higher above 37.25 is tradable, but not on a gap-thru open. If the index gaps open above this level, wait for price action to pull back and touch or "kiss" the 37.25 line of resistance then turned support and test longs from there. Summation: --------- No explosive session today... just a gap higher open and modest advance from there. Perhaps Thursday offers something more than what we saw, and call plays on a pullback look best to us from here. Again, zero dollar stops will be applied... this is 100% risk loss capital only from here until the closing bell on Friday. Do not buy more option contracts than you are willing to lose 100% of the total cost on! Trade Management: ---------------- Option traders may choose listed In-The-Money (ITM) or Out-The- Money (OTM) contracts by personal preference. They are selected based on volume, open interest and "Delta" values in that order. Our preference is usually OTM contracts except for the last few days of expiration when ATM or ITM contracts are preferred. Entry triggers are points where plays are tracked when price action breaks above for calls or below for puts. Stops are the exact opposite of that. Sell targets are points to exit based on index levels or %gain on option contract price as noted. *No entry targets listed mean the models are idle at that time. New Play Targets: ---------------- QQQ DJX Feb Calls: 36 (QQQ-BJ) Feb Calls: 99 (DJV-BA) Long: BREAK ABOVE Long: BREAK ABOVE Stop: None – 100% risk loss Stop: None – 100% risk loss Feb Puts: 36 (QQQ-NJ) Feb Puts: 98 (DJV-NT) Long: BREAK BELOW Long: BREAK BELOW Stop: None – 100% risk loss Stop: None – 100% risk loss ===== OEX SPX Feb Calls: 570 (OEB-BN) Feb Calls: 1125 (SPT-BE) Long: BREAK ABOVE Long: BREAK ABOVE none Stop: None – 100% risk loss Stop: None – 100% risk loss Feb Puts: 555 (OEB-NK) Feb Puts: 1100 (SPT-NT) Long: BREAK BELOW none Long: BREAK BELOW none Stop: None – 100% risk loss Stop: None – 100% risk loss Open Plays: ---------- QQQ DJX Feb Calls: 36 (QQQ-BJ) Feb Calls: 99 (DJV-BA) Long: BREAK ABOVE 36.72 Long: BREAK ABOVE 98.50 Exit: 36.80 Exit: 99.25 Closed Closed OEX SPX Feb Calls: 570 (OEB-BN) Feb Calls: 1125 (SPT-BE) Long: BREAK ABOVE 564.00 Long: BREAK ABOVE 1110.00 Exit: 567.00 Exit: 1118.00 Closed Closed IS Position Trade Model: Wednesday 2/13/2002 Edging Upwards Again News & Notes: ------------ Markets moved higher, dooming our open Feb put plays to expected loss while March contract calls edge upwards in value. Featured Plays: -------------- None Summation: --------- We will track Feb put option contracts following the 100% risk- loss capital method in lieu of stops right into expiration. If the market dives this week they have a chance. If not, we took the maximum loss possible right at the point of entry so no harm done. March contracts also use 100% risk capital and no stops. We will initiate stops if/when gains accrue above entry in order to manage capital from there. Trade Management: ---------------- Option traders may choose listed In-The-Money (ITM) or Out-The- Money (OTM) contracts by personal preference. They are selected based on volume, open interest and "Delta" values in that order. Position Trade model usually tracks OTM contracts with several weeks of time premium left until expiration for buy & hold plays. Entry triggers are points where plays are tracked when price action breaks above for calls or below for puts. Stops are the exact opposite of that. *No entry targets listed means the model is idle at this time. New Play Targets: ---------------- None Open Plays: ---------- Feb Puts: 36 (QQQ-NJ) Feb Puts: 96 (DJV-NR) Long: BREAK BELOW 36.00 Long: BREAK BELOW 96.50 Entry: 1.10 Entry: 1.30 Stop: 100% risk-loss capital Stop: 100% risk-loss capital Feb Puts: 540 (OEB-NH) Feb Puts: 1075 (SPQ-NO) Long: BREAK BELOW 549.00 Long: BREAK BELOW 1083.00 Entry: 5.40 Entry: 14.00 Stop: 100% risk-loss capital Stop: 100% risk-loss capital QQQ SMH March Calls: 36 (QQQ-CJ) March Calls: 44 (SMH-CI) Long: BREAK ABOVE 36.25 Long: BREAK ABOVE 44.00 Entry: 2.10 Entry: 2.15 Stop: 100% risk-loss capital Stop: 100% risk-loss capital BBH HHH March Calls: 125 (GBZ-CE) March Calls: 30 (HHH-CF) Long: BREAK ABOVE 117.75 Long: BREAK ABOVE 31.00 Entry: 2.10 Entry: 2.50 Stop: 100% risk-loss capital Stop: 100% risk-loss capital PPH OIH March Calls: 95 (PPH-CS) March Calls: 60 (OIH-CL) Long: BREAK ABOVE 95.00 Long: BREAK ABOVE 56.75 Entry: 2.20 Entry: 1.50 Stop: 100% risk-loss capital Stop: 100% risk-loss capital Sector Share Trade Model: Wednesday 2/13/2002 Trudging Higher News & Notes: ------------ Broad markets moved higher today and edged up values of many long share plays. However, few seem to close on their session highs as we'd like to see as a signal of upwards strength. For now we'll leave stops tight and no new plays to track. Featured Plays: -------------- None Summation: --------- Management mode from here and likely into next Monday as expiration volatility will probably chop current plays around as markets gyrate these next two sessions. Trade Management: ---------------- Entry triggers are points where plays are tracked when price action breaks above for calls or below for puts. Stops are the exact opposite of that. Sell targets are points to exit based on index levels or %gain on share price as noted. No entry targets listed mean the model is idle at that time. * Asterisk means stop-loss level changed since prior posting New Play Targets: ---------------- None Open Short Plays: ---------------- IYR Dow Jones U.S. Real Estate Short: BREAK BELOW 80.00 Stop: Break Above 80.50 Open Long Plays: --------------- LONG QQQ Long: BREAK ABOVE 36.25 Stop: Break below 36.00 SMH Long: BREAK ABOVE 44.00 Stop: Break below 44.00 * BHH Long: BREAK ABOVE 3.80 Stop: Break below 3.20 * BDH Long: BREAK ABOVE 14.00 Stop: Break below 13.90 HHH Long: BREAK ABOVE 31.00 Stop: Break below 30.25 IAH Long: BREAK ABOVE 35.00 Stop: Break below 34.50 TTH Telecom Long: BREAK ABOVE 39.00 Stop: Break below 38.00 OIH Oil Services Long: BREAK ABOVE 56.75 Stop: Break below 56.00 MKH Market 2000+ Big Caps Long: BREAK ABOVE 57.25 Stop: Break below 57.00 IYH Healthcare Long: BREAK ABOVE 59.75 Stop: Break below 60.00 * PPH Drugs Long: BREAK ABOVE 94.75 Stop: Break below 96.00 * BBH Biotech Long: BREAK ABOVE 117.75 Stop: Break below 120.00 * XLB Basic Technology Long: BREAK ABOVE 22.00 Stop: Break below 20.50 ************************Advertisement************************* ”If you haven’t traded options online – you haven’t really traded options,” claims author Larry Spears in his new compact guide book: “7 Steps to Success – Trading Options Online”. Order today and save 25% (only $15) by clicking on PreferredTrade and clicking on the link to the book on its home page. http://www.PreferredTrade.com/CF/Home.CFM?ID=OIN ************************************************************** ************** TRADERS CORNER ************** Fresh Horses and Dividends For My Men Buzz Lynn buzz@OptionInvestor.com Yep, even the best gun-slingers needed a break from the shoot-em- up riggers of the Old West. That's undoubtedly why John Wayne asked for "fresh horses and whiskey for my men" in a John Ford Western, the title of which escapes me. But for those of you wanting a bit of hard-earned relaxation following days (heck years) on the dusty trail of trading that equals any financial dangers of the Old West, how about a nice a nice slug of dividends? Maybe even a fifth? Sorry, those are available only to ENE executives! All kidding aside, dividends can really take the edge off an otherwise risky portfolio. Oh sure, I can hear it now. "Those stocks are boring. They never move. How will I ever make money with those boring things?" Easy to say, but how would your portfolio look if you owned them in February 2000? Would you have incurred any loss of principal owning these? Probably some, but how much more did we get whacked with the outdated thinking that tech stocks would be back when we get our V-shaped bottom in the last half of 2001 - no, first half 2002 - OK, second half 2002 - whatever. Newsflash: the recovery isn't here yet. While signs are encouraging that the economy may have already bottomed, an actual recovery is an entirely different matter. But back to why I think dividend paying stocks are great thing. By and large, they are safer against risk of principal loss than a fallen technology angel. Why is that? A few reasons First and foremost, it generally means that said company MAKES MONEY. A company cannot pay dividends if it doesn't first make money. That means that ALL its expenses, including interest, taxes, depreciation, and amortization are less than its gross receipts. It's called a profit, which is the reason that I invest. Generally speaking, once a dividend is in place, it is a vote of management's confidence in the company's future ability to earn profits for its owners. It shows visibility, stability, predictability - whatever we choose to call it - and makes the equity share more like the revenue stream accorded bonds. This is especially true for preferred shares, but that's for another column. Did you catch the significance? A predicable stream of earnings that can be distributed to owners can also be capitalized into a net present value representing that stream of predictable - hopefully long term - income. That said, it's pretty darn hard to crater the stock price of a dividend-paying stock as long as the earnings stream, and hence the income available for distribution, or dividend in not threatened. Are there ever cases where dividends are threatened? You bet. Just because a stock pays a dividend does not mean it can't be killed with possibly permanent and fatal bad news. Think AT&T (T)or Ford (F), both of which have cut and/or eliminated dividends within the last year. We want to be careful of companies that pay too much dividend too. One example that comes to mind is Eastman Kodak. More able competitors like Japan's Fuji Film and Germany's AGFA are cleaning their camera. To boot, their digital imaging strategy has not met much success and I believe that juicy 6.5% dividend paid by EK is in danger of being cut or eliminated if the company is to survive. Otherwise it appears destined to meet an untimely death as did Polaroid. That size dividend is not as enticing if it is not safe. Any company, no matter how seemingly safe the business, can still get into trouble for a number of reasons. As noted in earlier paragraphs, dividends aren't a guaranty of safety. But they do provide a margin of comfort from price volatility. The other reason I like dividend-paying stocks is more directly related to the strongest force in the universe - compound interest. See, with dividends, that 5% annual return gets compounded, which using the rule of 72, and assuming revenues never go up and the stock price remains flat, still doubles my money every 14 years. Sure, it's slow. But I can be a comatose or nearly dead investor and my money still grows. Sure beats owning CMGI, MFNX, GX,CMRC or LVLT! For more on the value of compound interest, see the Traders Corner article from January 8, 2002 titled simply, "Compound Interest". http://www.OptionInvestor.com/traderscorner/010802_1.asp OK, for peace of mind and a no-brainer (to be fair, "little- brainer") growth of the ole nest egg, dividends can provide the ballast that keeps your portfolio upright and always growing. The real beauty is that if share price never grows and sales never increase, dividends still build portfolio value. OK, Buzz, that all sounds nice, but what do you like? Glad you asked! Let me make a distinction though. What I own, what I like now, and what I might be interested in later are three separate line items. That said, - full disclosure - I don't any of these yet, and may never own them at all. They are merely intriguing as would be the beautiful young woman at the dance to the young man on a mission. She may not be the right one, but the perfume is nice! For starters, I still like the sin stocks. U.S. Tobacco, makers of smokeless tobacco and also the owners of Chateau St. Michelle Wines pays a handsome 5.45% and currently sells for $34.06. There is little exposure to tobacco settlements as well. Philip Morris also has my interest as I've noted in previous articles. It still owns over 95% or Kraft Foods (KFT), which makes a nice slush fund from which to draw cash should tobacco litigation rear its head again. Meanwhile, MO pays a 4.63% dividend and sells for $50.65. Personally, I would be a buyer of MO at a later date when the price is more attractive as determined by chart oscillators. It is currently overbought across all timeframes and is looking ripe for a fall to lower levels. Support looks good around $45-$46; $43 if you want to press the entry. But it may never get there. Also interesting to me are some of the power companies - yes those stodgy old utilities. American Electric Power (AEP) is a holding company whose subsidiaries produce power for some eastern, mid- western, and southwestern states. At $41.98, it yields 5.78%. Take a look at DTE Energy (DTE), the holding company for Detroit Edison - $41.36 with a 4.98% yield. Autos may be struggling, but Detroit is not going away and it will always need power, if even just to light those beautiful Grosse Pointe and Bloomfield homes! Really want stodgy? How about metal bender Worthington Industries (WOR) that trades at $14.69 and yields 4.4%. PE at 30 is a bit high for my liking, but it's worth a look. Ever heard of WD-40? Probably not a man alive that doesn't have a can or two of the stuff in his possession. And why not? It can be used by fisherman to spray the human scent off the bait - just one of the 1001 uses! But did you know they also own Lava Soap, 3 In One Oil, X-14 products, Carpet Fresh, and 2000 Flushes? It's good for a yield of 3.94% and sells for $28.16. Finally, there's Sovran Self Storage (SSS). Never heard of them? Neither had I until I saw that they owned over 12.4 mln square feet of storage space in 21 states that operates under the kitschy "Uncle Bob's Self-Storage" brand name. Nice 7.46% yield on a $31.53 stock. Yes, this is a REIT. Well, there you have it. Take a load of that trading saddle and settle in for some financial relaxation with dividend-paying stocks. It may not be as tasty as a good belt of whiskey (or as invigorating as fresh horses for the ride, but done right, dividends will help you get all the horses and whiskey you could want. Tomorrow we tackle another episode of Q-Charts. Until then, keep your wings level and trust your instruments! ******************* 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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The Option Investor Newsletter Wednesday 02-13-2002 Copyright 2001, All rights reserved. 2 of 2 Redistribution in any form strictly prohibited. ************************Advertisement************************* Tired of waiting on trades to execute? Does your broker offer Stop Losses on Options? Trade instantly with Stop Losses at PreferredTrade Inc. Stop Losses based on the option price or the stock price. Move your trading into the next millennium with PreferredTrade. Anything else is too slow! http://www.PreferredTrade.com/CF/Home.CFM?ID=OIN ************************************************************** ***************** STOP-LOSS UPDATES ***************** ASYT - call Adjust from $15.50 up to $16 TRW - call Adjust from $41.75 up to $42.90 ************* NEW CALL PLAY ************* IBM - Int'l Business Machines $108.07 +1.50 (+3.08 this week) International Business Machines Corporation (IBM) uses advanced information technology to provide customer solutions. The Company operates using several segments that create value by offering a variety of solutions, including, either singularly or in some combination, technologies, systems, products, services, software and financing. Organizationally, the Company's three hardware product segments are comprised of Technology, Personal Systems and Enterprise Systems. Tech bulls are growing confidence after the recent strength displayed by the group. Positive earnings reports have helped to revive sentiment. Applied Materials (NASDAQ:AMAT) beat estimates when it reported yesterday night. Network Appliance (NASDAQ:NTAP) also beat estimates and said good things about its business going forward. Hewlett-Packard (NYSE:HWP) reported quarterly profits late today that also handily beat expectations. The combination of positive earnings news could build some momentum in technology shares and has us turning to IBM. The company is a bellwether for technology and if the group rallies so too should IBM. The company is linked to both Network Appliance and Hewlett-Packard, so the positive earnings news from both could have a positive impact on IBM in the days to come. The stock is in the process of retracing its sell-off associated with its earnings report that disappointed earlier in January. Further bullish sentiment in the technology sector could see IBM continue to work higher. Bullish traders can look for strength in the broad market and the Nasdaq early tomorrow and consider entry points at current levels. Momentum traders might wait for a strong breakout above the $110 level before initiating positions. If the stock does pullback on market-related weakness, watch for a rebound from the $106 area of a potential entry point. Our stop is initially in place at $105. BUY CALL MAR-105 IBM-CA OI= 6003 at $5.90 SL=4.00 BUY CALL MAR-110*IBM-CB OI= 5890 at $2.95 SL=1.50 BUY CALL APR-105 IBM-DA OI=11859 at $7.90 SL=5.75 BUY CALL APR-110 IBM-DB OI=13333 at $4.80 SL=3.25 Average Daily Volume = 7.03 mln ************* DROPPED CALLS ************* TYC $28.90 -1.60 (-0.98) Tyco issued a profit warning during Wednesday's session that shocked investors. The company said that its earnings could fall below consensus estimates because some of its customers have cancelled orders due to the controversy surrounding the company. Investors responded by selling TYC as low as the $28.10 before the stock rebounded. Given the new revelations and weakness Wednesday, we're dropping coverage this evening. Traders with open positions can use any bounce early tomorrow to exit plays. ************ DROPPED PUTS ************ ADI $40.62 +0.37 (+1.79) Analog Devices is slated to report earnings after the bell tomorrow. The company is expected to have earned 11 cents per share during the quarter, with revenue estimates ranging from $390 million to $410 million. The stock traded poorly relative to its sector Wednesday, but the overwhelming strength still helped the stock to finish fractionally higher. Look for weakness ahead of the report tomorrow to exit plays. MMS $33.25 +0.65 (+2.89) MMS continued higher in Wednesday's session on relatively light volume. The strength in the broader markets contributed to the short covering taking place in this stock. Although MMS did stage a big reversal from its intraday high at $34.60, the stock did manage to settle above its 10-dma, right on our coverage stop at $33.25. Given the close above the 10-dma, we're dropping coverage this evening. Look for a decline below the 10-dma intraday tomorrow to cut losses. KLIC $16.62 +0.77 (+1.93) The market's reception of AMAT's earnings report and guidance was most bullish early today. The news helped carry the Semiconductor Sector (SOX.X) to a 3.89% gain on the day. The sector strength carried KLIC higher and above its short-term congestion. While a rollover is possible from current levels, we're dropping coverage in light of the violation of our upside stop. ************************Advertisement************************* If you trade options online, then you need an online broker that: offers true direct access to each option exchange offers stop and stop loss online option orders offers contingent option orders based on the price of the option or stock offers online spread order entry for net debit or credit offers fast option executions PreferredTrade offers these online option trading features and more; call 1-888-889-9178 or click for more information. http://www.PreferredTrade.com/CF/Home.CFM?ID=OIN ************************************************************** ********************* PLAY OF THE DAY - PUT ********************* KSS - Kohls $69.10 +0.79 (+2.40 this week) Kohl's Corporation currently operates 354 family oriented, specialty department stores that feature quality, national brand merchandise priced to provide value to customers. The Company's stores sell moderately priced apparel, shoes, accessories and home products targeted to middle-income customers shopping for their families and homes. Kohl's stores have fewer departments than traditional, full-line department stores, but offer customers dominant assortments of merchandise displayed in complete selections of styles, colors and sizes. Most Recent Update There's a growing debate in the retail sector. It centers around the group's cost cutting efforts which have boosted sales. The question concerns at what expense the sales numbers were achieved. Take Kohls, for example, who reported same store sales growth of 11.5 percent for the month of January. The sales numbers were indeed impressive given the economic environment. However, it remains to be seen what impact, if any, the deep discounting used to achieve those sales numbers has on the bottom-line. Bears are arguing that the retailers are going to have margin pressure this year in the wake of massive mark-downs. Robertson Stephens recently used that argument to downgrade its investment rating on shares of Kohls. The brokerage house cut its rating to a buy from strong buy, citing the company's heavy discounting in addition to costs from expansion as impediments on earnings growth this year. From a technical perspective, shares appear to be under distribution noting the recent series of relatively lower highs and lows. The market related rebound in the last week could have provided traders with an opportunity to enter bearish bets on KSS as the stock is near significant resistance. The $70 level should contain any strength from current levels, offering traders a close stop level. Our coverage stop is in place at $70.25. To the downside, if the pattern of lower lows continues, the stock could have downside to the low $60s. The 200-dma at $61 is a possibility. The risk to reward is favorable in this play over the short-term. Comments January's retail sales numbers were positive. Ex-autos, sales grew by 1.2% in the month. The retail sector (RLX.X) finished 1.06% higher on the news. KSS moved higher towards its $70 resistance level, which positioned the play for a better entry point. We like the risk/reward that put entries offer at current levels in KSS. While the RLX.X could continue higher, dragging KSS along with it, the risk is easy to manage with a tight stop just above $70. Use any weakness in the RLX.X early tomorrow to take entries in KSS at current levels. Use a very tight stop just above $70. BUY PUT MAR-70*KSS-ON OI= 372 at $3.10 SL=2.25 BUY PUT MAR-65 KSS-OM OI=1251 at $1.25 SL=0.75 Average Daily Volume = 1.78 mln ************************************************ BIG-CAP COVERED CALLS, NAKED PUTS & COMBINATIONS ************************************************ Recovery Rally Underway! By Ray Cummins Industrial stocks soared today after a solid retail sales report boosted investor optimism of a future economic recovery. Analysts said the new data suggests consumer spending is showing initial signs of broadening while continued improvement in labor market conditions and the public's attitudes should help further the economic rebound. The Dow Jones Industrial Average advanced 125 points to 9,989 after rising as much as 135 points and coming within a whisker of the 10,000 level. Among the blue-chip index's winners were General Motors (NYSE:GM), Alcoa (NYSE:AA), American Express (NYSE:AXP), Home Depot (NYSE:HD), and Johnson & Johnson (NYSE:JNJ). In the technology group, chip, hardware and Internet stocks led the NASDAQ 24 points higher to a solid finish at 1,859. The broader market S&P 500 index closed up 11 points at 1,118 on strength in retail, financial and cyclical stocks. The brokerage group also rallied despite a sector downgrade and insurers were among the day's biggest upside movers. Limited selling pressure was focused primarily on oil service and airline issues. Trading volume totaled only 1.20 billion on the NYSE and 1.58 billion on the NASDAQ. Market breadth was bullish overall, with advancers defeating decliners 2 to 1 on the NYSE and 4 to 3 on the NASDAQ. The 10-year Treasury note was off 6/32 to yield 5% percent while the 30-year government bond erased 7/32 to yield 5.47%. *************** MAILBAG - Reader's Comments & Questions *************** Ray, Thank you as always for the wonderful service you and OIN provide. A quick investment philosophy question concerning credit spreads. I see two approaches one could take on a regular basis: 1. Small credits from several trades deep out of the money. Less risk of the trades going against you. But smaller credits provide less protection when one trade goes against you. You could wipe out months of successful gains with one bad trade. 2. Larger credits from trades closer to the money. There's more risk of a trade going against you, but a few months of these credits can provide some relief in the case of a bad trade. I'm at odds, since I see the benefits and drawbacks of both. Perhaps diversity is the answer through establishing several positions? Any insight is appreciated! ER Regarding Position Selection: Your observations are correct! And, in reading your comments on both strategies, it sounds as if you already understand the advantages and drawbacks to the different (more conservative versus more aggressive) approaches. The basic questions are: how much downside are you willing to risk in return for the (relatively small) profit achieved, and are you the type that manages his positions more aggressively, with a focus on limiting losses before they become substantial. In addition to defining the core attitude in your portfolio, the first question relates directly to option pricing theory, because we know that the prices are determined from historical and statistical data, and that in all but the most unique cases, the market trades inside the 2nd standard deviation of a normal distribution. Strangely, that area is generally equivalent to the 3%-5% monthly (annualized) return in strategies such as deep-OTM credit spreads. So, if you want to have a very high probability of making a low profit (one way, but not necessarily the best method of option trading), target plays that are in that range. The second part of the question is probably more important since it relates to the fact that success with a low profit-high probability approach to the market is based on limiting losses to a minimum. There are never any big winners to offset the big losers, so there simply can't be any big losers. Strategies such as OTM credit spreads (as well as many common trading techniques), need to have some type of exit point in case the market/stock/sector turns in the opposite direction from that which is expected. Obviously, a gapping issue will occasionally wipe out a portion of previous gains and there is nothing you can do about it. But, at the same time, you must manage the remaining positions effectively or there will be no profits to offset the rare catastrophic losers. So, my point is, there is no absolute correct position with credit spreads. The key to success is more dependent on the position management that follows the initial trade. Always remember: traders become successful when they learn to take small profits regularly and they don't let losing plays significantly erode capital. Good Luck! *************** Summary of Current Positions (as of 02-12-2002): *************** Covered Calls: (Margin not used in calculations) Stock Strike Strike Cost Current Gain Potential Symbol Month Price Basis Price (Loss) Mon. Yield SEBL FEB 27.5 25.25 34.33 2.25 6.0% MU FEB 32.5 30.04 37.80 2.46 5.5% MRVL FEB 32.5 30.36 38.80 2.14 4.8% WGO FEB 40 37.57 39.32 1.75 4.6% *** Winnebago (NYSE:WGO) has recovered from recent selling pressure and appears to be in a new bullish trend. The first major test of the recovery will be the near-term resistance at $40. Naked Puts: Stock Strike Strike Cost Current Gain Potential Symbol Month Price Basis Price (Loss) Mon. Yield ACDO FEB 40 39.10 54.58 0.90 6.5% EMLX FEB 35 33.85 43.09 1.15 8.8% MRVL FEB 30 29.35 38.80 0.65 6.0% SYMC FEB 30 29.45 35.10 0.55 5.1% SEBL FEB 27.5 26.65 34.33 0.85 8.8% BRKS FEB 40 39.15 47.00 0.85 6.0% ACDO FEB 40 39.50 54.58 0.50 4.6% WGO FEB 35 34.50 39.32 0.50 4.3% SEBL FEB 27.5 26.95 34.33 0.55 9.3% MRVL FEB 32.5 32.10 38.80 0.40 5.7% INVN FEB 30 29.20 39.07 0.80 16.6% INVN MAR 25 24.20 39.07 0.80 7.2% MU MAR 30 29.20 37.80 0.80 7.5% NVDA MAR 47.5 46.45 62.20 1.05 6.4% KLAC MAR 50 48.55 57.41 1.45 7.4% Naked Calls: Stock Strike Strike Cost Current Gain Potential Symbol Month Price Basis Price (Loss) Mon. Yield AMAT FEB 50 50.50 44.71 0.50 5.6% KLAC FEB 60 60.60 57.41 0.60 5.5% QLGC FEB 65 65.65 48.70 0.65 6.0% ADI FEB 50 50.45 40.25 0.45 6.2% VRTS MAR 45 45.80 38.00 0.80 8.2% The semiconductor sector is performing very well and any of these issues could rally in the coming sessions. Traders should watch for bullish activity supported by heavy volume and, if necessary, take action to limit losses or lock-in current profits. Debit Straddles: Stock Position Debit Target Value Gain Status QCOM FEB45C/45P 3.80 4.55 9.00 5.20 Closed The Qualcomm (NASDAQ:QCOM) straddle continued to be our big winner of the month, returning up to $9.00 credit on $3.80 invested in only two weeks. The best exit opportunity came when the issue slumped to $37.46 last week after a research note questioned the company's current accounting practices, including its method of recognizing revenue. Credit Spreads: Stock Pick Last Position Credit C/B G/L Status SII 55.12 56.17 FEB40P/45P 0.65 44.35 0.65 Open THC 62.10 64.44 FEB55P/60P 0.80 59.20 0.80 Open TRI 31.50 31.90 FEB25P/30P 0.60 29.40 0.60 Open UNH 73.00 75.56 FEB65P/70P 0.65 69.35 0.65 Open WLP 125.16 130.02 F110P/115P 0.55 114.45 0.55 Open AT 56.70 56.21 FEB65C/60C 0.60 60.60 0.60 Open MMM 103.47 114.17 F120C/115C 0.65 115.65 0.65 Open HSIC 43.26 43.88 FEB35P/40P 0.40 34.60 0.40 Open KSWS 37.38 34.40 FEB30P/35P 0.75 34.25 0.15 Open GNSS 58.68 46.85 FEB75C/70C 0.50 70.50 0.50 Open FIC 55.75 61.60 FEB45P/50P 0.40 49.60 0.40 Open NOC 106.81 109.58 FE95P/100P 0.50 99.50 0.50 Open PGR 145.17 147.99 F155C/150C 0.75 50.75 0.75 Open CYMI 41.37 38.30 MAR30P/35P 0.75 34.25 0.75 Open AZN 47.60 49.26 MAR40P/45P 0.40 44.60 0.40 Open NOC 109.32 109.58 MA95P/100P 0.80 99.20 0.80 Open PG 82.50 83.55 MAR75P/80P 1.00 79.00 1.00 Open TGH 77.00 75.14 MAR65P/70P 0.45 69.55 0.45 Open BVF 42.05 44.00 MAR55C/50C 0.60 50.60 0.60 Open WHR 65.50 66.31 MAR75C/70C 1.10 71.10 1.10 Open ROOM 54.72 46.72 MAR40P/45P 0.70 44.30 0.70 Open Hotel Reservations Network (NASDAQ:ROOM) continued to slump after our transition to March options (for a small credit) and now it seems as if closing the play might have been a better decision. The stock is at a key moment, near the 30-dma and the next few sessions will likely determine its near-term fate. Minnesota Mining (NYSE:MMM) and Progressive (NYSE:PGR) are in similar situations with both issues testing recent resistance areas. A rally in blue-chip stocks could put either position in jeopardy prior to Friday's expiration, thus traders should monitor each issue closely and be prepared to adjust or exit the plays. The bullish position in Banc Of America (NYSE:BAC), which is positive, was closed earlier in the month. Index Credit Spreads: Stock Pick Last Position Credit C/B G/L Status XAU 58.07 66.25 FEB50P/55P 0.85 54.15 0.80 Open PPH 98.60 96.35 FEB90P/95P 0.45 94.55 0.45 Closed? OIH 56.65 57.28 MAR45P/50P 0.60 54.40 0.60 Open The Pharmaceutical Holdrs Trust (AMEX:PPH) is still above the sold strike in our bullish position however the play likely would have been closed when PPH fell below $94. Synthetic Positions: Stock Pick Last Position Credit C/B G/L Status DGX 71.40 71.90 FEB85C/60P 0.10 59.90 0.20 Open WMT 59.86 60.10 MAR65C/55P 0.25 54.75 0.20 Open The bullish position in Wal-Mart (NYSE:WMT) is starting to perform as expected and Monday's close at a new high suggests the issue has further upside potential. The Merrill Lynch (NYSE:MER) play was closed in late January, when the issue moved through near-term support (and its 30-dma) at $53. Credit-Spread Strangles: Stock Pick Last Position Credit C/B G/L Status OEX 589.62 562.51 FEB640C/630C 0.80 630.80 0.80 Open OEX 589.62 562.51 FEB530P/540P 0.70 539.30 0.70 Open BBH 127.58 121.84 FEB145C/140C 0.50 140.50 0.50 Open Although it is now comfortably profitable, the bullish position (FEB110P/115P) in the Biotechnology Holdrs Trust (AMEX:BBH) was previously closed to protect profits and/or limit future losses. New Candidates: This following group of plays is simply a list of candidates to supplement your search for profitable trading positions. As with any investment, you must decide if the selections meet your criteria for potential plays. Only you can know what strategies are suitable for your skill level, risk-reward tolerance and portfolio outlook. In addition, we recommend that you avoid any strategy or technique in which you are not completely comfortable with the potential loss, the necessary adjustments and the common entry-exit strategies. (We monitor the positions marked with ***). *************** BULLISH PLAYS - Covered Calls, Naked Puts, & Combinations *************** AMAT - Applied Materials $47.93 *** Optimistic Outlook! *** Applied Materials (NASDAQ:AMAT) develops, manufactures, markets and services semiconductor wafer fabrication equipment and related spare parts for the worldwide semiconductor industry. Many of Applied's products are single-wafer systems designed with two or more process chambers attached to a base platform. The platform feeds wafers to each chamber, allowing the simultaneous processing of several wafers to enable high manufacturing productivity and precise control of the process. Applied has five single-wafer, multi-chamber platforms: the Precision 5000, the Centura, the Endura, the Endura SL and the Producer. These platforms currently support chemical vapor deposition, physical vapor deposition, etch and rapid thermal processing technologies. Customers for their products include semiconductor wafer manufacturers and integrated circuit (or chip) manufacturers. Shares of Applied Materials rallied today even after the company posted a fiscal first quarter net loss of $45 million, or 6 cents a share, on revenue of $1 billion. During the same quarter last year, net income was $156 million, or 19 cents a share, on revenue of $2.36 billion. The consensus expectation was for "break-even" results, excluding charges, on revenue of $1.01 billion. However, the company surprised investors by announcing that new orders rose for the first time in four quarters. AMAT's CEO also noted that semiconductor revenues have apparently reached a bottom because memory chip prices have risen and activity in chip factories has increased. Traders who agree with that outlook can speculate on the future performance of the chip-equipment group with these positions. AMAT - Applied Materials $47.93 PLAY (sell naked put): Action Month & Option Open Closing Cost Target Req'd Strike Symbol Int. Price Basis Mon. Yield SELL PUT MAR 40 ANQ OH 4,958 0.60 39.40 5.1% *** SELL PUT MAR 42.5 ANQ OV 7,704 1.00 41.50 6.9% SELL PUT MAR 45 ANQ OI 3,391 1.60 43.40 9.1% *************** KLAC - KLA Tencor $61.29 *** On The Move Again! *** KLA-Tencor (NASDAQ:KLAC) is a supplier of process control and yield management solutions for the semiconductor and related microelectronics industries. The company's large portfolio of products, software, analysis, services and expertise is designed to help integrated circuit manufacturers manage yield throughout the entire wafer fabrication process, from research and development to final mass production yield analysis. The company offers a broad spectrum of products and services that are used by every major semiconductor manufacturer in the world. These customers turn to the company for in-line wafer defect monitoring; reticle and photomask defect inspection; CD SEM metrology; wafer overlay; film and surface measurement; and overall yield and fab-wide data analysis. KLAC has been "on the move" in recent sessions and today's $4 rally came in conjunction with renewed optimism for stocks in the chip-equipment sector. When all was said and done, KLAC closed at a new 52-week high and the long-term technical trend is favorable. The premiums in these options provide excellent reward potential for traders who are bullish on the issue. KLAC - KLA Tencor $61.29 PLAY (sell naked put): Action Month & Option Open Closing Cost Target Req'd Strike Symbol Int. Price Basis Mon. Yield SELL PUT MAR 45 KCQ OI 2,331 0.50 44.50 4.0% "TS" SELL PUT MAR 50 KCQ OJ 3,490 1.05 48.95 7.5% *** SELL PUT MAR 55 KCQ OK 2,251 1.95 53.05 9.8% SELL PUT MAR 60 KCQ OL 6,679 3.60 56.40 13.6% *************** RTEC - Rudolph Technologies $41.34 *** Hot Sector! *** Rudolph Technologies (NASDAQ:RTEC) is engaged in the design, development, manufacture and support of unique process control metrology systems used in semiconductor device manufacturing. Its proprietary systems non-destructively measure the thickness and other properties of thin films applied during various steps in the manufacture of integrated circuits, enabling semiconductor manufacturers to increase yields and lower production costs. The company provides its customers with a flexible full-fab metrology solution by offering families of systems that meet their various transparent and opaque thin film measurement needs in applications across the fabrication process. Rudolph sells its many products worldwide to over 100 semiconductor device manufacturers including both independent semiconductor device manufacturers and foundries throughout the world. Rudolph Technologies was among the winners in the chip-equipment group today and the issue also appeared on a scan/sort for stocks with bullish trends and favorable option premiums. The current technical outlook for RTEC is favorable and our target positions offer an excellent way to participate in the future movement of the issue with relatively low risk. RTEC - Rudolph Technologies $41.34 PLAY (buy stock and sell covered call; or sell naked put): Action Month & Option Open Closing Cost Target Req'd Strike Symbol Int. Price Basis Mon. Yield SELL CALL MAR 40 UXH CH 153 3.70 37.64 6.4% *** - or - SELL PUT MAR 35 UXH OG 0 0.75 34.25 6.9% *** SELL PUT MAR 40 UXH OH 10 2.40 37.60 13.8% *************** TER - Teradyne $33.28 *** More Chips...Bring The Dip! *** Teradyne (NYSE:TER) is a manufacturer of automatic test equipment and related software for the electronics and communications industries. Products include systems to test and inspect semiconductors; circuit boards; high-speed voice and data communication, and software. Teradyne is also a manufacturer of backplanes and associated connectors used in performance electronic systems. Semiconductor and chip-equipment stocks have been among the best performing technology groups during the recent market slump and today's rally in the sector confirmed a renewed bullish trend in many issues. Teradyne appears to be one the stronger stocks in the group, based on the current technical indications, and traders who wouldn't mind owning the issue at discounted cost basis should consider these positions. TER - Teradyne $33.28 PLAY (sell naked put): Action Month & Option Open Closing Cost Target Req'd Strike Symbol Int. Price Basis Mon. Yield SELL PUT MAR 27.5 TER OY 162 0.50 27.00 6.3% *** SELL PUT MAR 30 TER OF 578 1.05 28.95 9.6% SELL PUT MAR 32.5 TER OZ 78 1.95 30.55 13.7% *************** Credit Spreads - Insurance Sector Rally! Stocks in the insurance group led the broad market higher today after analysts at Deutsche Banc said that property casualty insurers are in the early stages of a rising pricing cycle and the pricing environment is likely to be favorable for the next few years. Based on the current technical indications, many of the issues in the sector are poised for upside activity in the near-term and investors who agree with that outlook can profit from future bullish movement with these positions. *************** HIG - Hartford Financial Services $67.00 *** On The Rebound! *** Hartford Financial Services Group (NYSE:HIG) is a diversified insurance and financial services company. The Hartford is among the largest providers of investment products, individual life, group life and group disability insurance products, and property and casualty insurance products in the United States. Hartford Fire Insurance Company, founded in 1810, is the oldest of The Hartford's subsidiaries. The Hartford underwrites insurance and reinsurance in the United States and internationally, and their assets are valued at over $170 billion. The Hartford is organized into two major operations: Worldwide Life and Worldwide Property & Casualty. Within these operations, The Hartford conducts business principally in eight operating segments. Analysts say that profits for property and casualty insurers will grow in the coming months, due to the rate increases initiated after the tragedy of 9/11/01. A survey conducted by Merrill Lynch found that average price hikes have been in the 20% to 40% range across major lines and that could translate into higher revenues, allowing the leading companies in the sector to record explosive growth over the next few quarters. Hartford Financial Services is widely recognized as an industry leader and the balance sheet for the company has historically been very good. In addition, the current technical outlook for HIG is favorable and our bullish combination position offers an excellent way to participate in the future movement of the issue with relatively low risk. HIG - Hartford Financial Services $67.00 PLAY (moderately aggressive - bullish/credit spread): BUY PUT MAR-60 HIG-OL OI=192 A=$0.55 SELL PUT MAR-65 HIG-OM OI=18 B=$1.40 INITIAL NET CREDIT TARGET=$0.90-$1.00 PROFIT(max)=22% *************** PGR - Progressive Insurance $152.90 *** Revenge Play! *** The Progressive Corporation (NYSE:PGR) is an insurance holding company. They have 76 subsidiaries and two mutual-insurance company affiliates. The Progressive Corporation's insurance subsidiaries and affiliates offer personal automobile insurance and specialty property-casualty insurance and related services throughout the United States. The company's property-casualty insurance products protect its customers against collision and physical damage to their motor vehicles and liability to others for personal injury or property damage arising out of the use of those vehicles. Progressive was a "trading range" play in the BIG-CAP section just two weeks ago but today's bullish activity pushed the issue well clear of the recent resistance area and now its share value is at a new, all-time high. Based on the strong, heavy volume move through $150, it appears the issue has little chance of returning to its previous (JAN-FEB) range in the near-term and traders who agree with that outlook should consider this bullish position. PGR - Progressive Insurance $152.90 PLAY (moderately aggressive - bullish/credit spread): BUY PUT MAR-140 PGR-OH OI=45 A=$0.90 SELL PUT MAR-145 PGR-OI OI=86 B=$1.70 INITIAL NET CREDIT TARGET=$0.90-$1.00 PROFIT(max)=22% *************** XL - XL Capital $97.11 *** All-Time High! *** XL Capital Limited (NYSE:XL) provides insurance and reinsurance coverages, and financial products and services to industrial, commercial, and professional service firms, insurance companies and other enterprises on a worldwide basis. XL Capital Limited is organized into three major underwriting segments: insurance, reinsurance, and financial products and services. The company also has a corporate segment, which includes the investment operations of the Company. The company's Lloyd's syndicates, which are operated by XL Brockbank and Denham, are included in the insurance segment. Stocks in the property and casualty insurance segment rallied today on the heels of optimistic forecasts for the industry. Investors appear to agree with a bullish assessment for XL as the issue jumped almost $6 on extreme volume. The stock has excellent buying support near our cost basis and the lack of overhead supply suggests a high probability of further upside movement for the issue. Traders should target a higher premium in the spread initially, to allow for a brief consolidation from today's rally. XL - XL Capital $97.11 PLAY (conservative - bullish/credit spread): BUY PUT MAR-85 XL-OQ OI=584 A=$0.45 SELL PUT MAR-90 XL-OR OI=30 B=$0.85 INITIAL NET CREDIT TARGET=$0.55-$0.60 PROFIT(max)=12% *************** Credit Spreads - Reader's Request! *************** AHC - Amerada Hess $64.48 *** Oil Service Sector *** Amerada Hess (NYSE:AHC) explores for and produces, purchases, transports and sells crude oil and natural gas. The company's exploration and production activities take place in the United States, United Kingdom, Norway, Denmark, Gabon, Algeria, Azerbaijan, Indonesia, Thailand, Malaysia, Brazil and other countries. The company also manufactures, purchases, transports, trades and markets refined petroleum and other energy products. The company owns 50% of a refinery joint venture in the United States Virgin Islands, and another refining facility, terminals and retail outlets located on the East Coast of the U.S. One of our readers asked for a low risk position in the oil services industry, to benefit from the recent bullish activity in many of the issues in that segment. A number of stocks came up on the scan/sort for potential positions including; Smith International (NYSE:SII), Weatherford International (NYSE:WFT), BJ Services (NYSE:BJS), and Schlumberger (NYSE:SLB), but the issue we favor most (based on recent technical indications) is Amerada Hess. Traders who want to hedge their broad-market portfolio with an oil sector play should consider this spread. AHC - Amerada Hess $64.48 PLAY (conservative - bullish/credit spread): BUY PUT MAR-55 AHC-OK OI=173 A=$0.20 SELL PUT MAR-60 AHC-OL OI=184 B=$0.65 INITIAL NET CREDIT TARGET=$0.50-$0.60 PROFIT(max)=11% *************** BEARISH PLAYS - Naked Calls & Combinations *************** BGEN - Biogen $54.45 *** Trading Range! *** Biogen (NASDAQ:BGEN) is a biopharmaceutical company principally engaged in the business of developing, manufacturing and selling drugs for human healthcare. Biogen currently derives revenues from sales of its Avonex (Interferon beta-1a) product for the treatment of relapsing forms of multiple sclerosis, and from royalties on worldwide sales by the company's licensees of a number of products covered under patents controlled by Biogen. Such products include forms of alpha interferon, hepatitis B vaccines and hepatitis B diagnostic test kits, among others. Biogen continues to have an active development program related to Avonex, and is conducting several important clinical trials of the product. Biogen also continues to devote significant resources to its other ongoing development efforts. Biogen surfaced again today in a search/sort for issues with stable trading patterns and robust option premiums. Based on analysis of historical option pricing and the issue's technical background, this position meets the fundamental criteria for a bearish credit-spread. The stock has been trading in a range from $50 to $60 for almost nine months and more recently, BGEN has struggled near the bottom of the rectangular pattern. The rally earlier in the week boosted the call option premiums and we are going to take advantage of the situation with a bearish, limited-risk position. BGEN - Biogen $54.45 PLAY (very conservative - bearish/credit spread): BUY CALL MAR-65 BGQ-CM OI=203 A=$0.15 SELL CALL MAR-60 BGQ-CL OI=734 B=$0.55 INITIAL NET CREDIT TARGET=$0.45-$0.55 PROFIT(max)=9% *************** TEVA - Teva Pharmaceutical $59.99 *** Earnings Speculation! *** Teva Pharmaceutical Industries (NASDAQ:TEVA) is a fully integrated global pharmaceutical company producing drugs in every therapeutic categories. In the area of proprietary drugs, Teva has focused on products for central nervous system disorders, and the development of Teva's first globally marketed branded drug, Copaxone, a new treatment for relapsing-remitting multiple sclerosis. The company also possesses the primary manufacturing operations for active pharmaceutical ingredients (API). Teva Pharmaceuticals USA, the company's principal United States subsidiary, is a generic drug company in the United States. Teva manufactures over 130 generic products in 210 generic forms, which are distributed and sold in the United States together with 15 additional generic products in 29 dosage forms manufactured by third parties. Teva manufactures over 270 generic products in 600 dosage forms, which are sold primarily in the Netherlands, the United Kingdom and Hungary. Teva is expected to report its quarterly earnings tomorrow and based on the recent share price activity, no one is anticipating a major upside surprise. Traders say the reason may be due to concerns over possible imported generic drug delays and the potential for expenses related to probable acquisitions in the coming months. Regardless of the reason, TEVA has not been the target of rampant buying pressure ahead of its announcement and traders who think the report will be less than outstanding can speculate on that outcome with this bearish position. TEVA is hosting the conference call at 10 a.m. (Eastern Standard Time), so any trades in the position will likely need to be made soon after the market opens. TEVA - Teva Pharmaceutical $59.99 PLAY (speculative - bearish/credit spread): BUY CALL MAR-70 TVQ-CN OI=517 A=$0.30 SELL CALL MAR-65 TVQ-CM OI=2783 B=$0.85 INITIAL NET CREDIT TARGET=$0.60-$0.70 PROFIT(max)=14% *************** SUPPLEMENTAL CREDIT-SPREAD CANDIDATES *************** BULLISH PLAYS: Stock Last Short Bid Long Ask Target Monthly Symbol Price Option Price Option Price Credit Gain ANN 42.81 MAR 40P 1.25 MAR 35P 0.55 0.75 18% HD 51.24 MAR 50P 1.15 MAR 45P 0.45 0.75 18% IP 44.50 MAR 42P 0.65 MAR 40 0.35 0.35 16% DIAN 62.86 MAR 55P 1.20 MAR 50P 0.55 0.70 16% AMGN 58.92 MAR 55P 1.00 MAR 50P 0.40 0.65 14% DGX 74.20 MAR 70P 0.95 MAR 65P 0.45 0.55 12% BEARISH PLAYS: Stock Last Short Bid Long Ask Target Monthly Symbol Price Option Price Option Price Credit Gain ACS 94.00 MA 105C 1.15 MA 110C 0.60 0.60 14% BVF 43.79 MAR 50C 0.75 MAR 55C 0.25 0.55 12% SEPR 42.11 MAR 50C 0.90 MAR 55C 0.40 0.55 12% VRTS 37.50 MAR 45C 0.75 MAR 50C 0.25 0.55 12% CACI 36.57 MAR 40C 0.85 MAR 42C 0.60 0.55 12% SPW 118.38 MA 135C 2.15 MA 140C 1.75 0.50 11% *************** SEE DISCLAIMER ***************************** ************************Advertisement************************* ”If you haven’t traded options online – you haven’t really traded options,” claims author Larry Spears in his new compact guide book: “7 Steps to Success – Trading Options Online”. 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