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Daily Newsletter, Monday, 08/12/2002

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The Option Investor Newsletter                   Monday 08-12-2002
Copyright 2002, All rights reserved.                        1 of 2
Redistribution in any form strictly prohibited.

In Section One:

Wrap: On Hold
Index Trader Wrap: FED WATCH
Weekly Fund Wrap: Trading Rally or the Real Thing?
Traders Corner: Straddle The Fed?
Index Trader Game Plans: THE SECTOR BEAT - 8/12


Posted online for subscribers at http://www.OptionInvestor.com
*******************************************************************
MARKET WRAP  (view in courier font for table alignment)
*******************************************************************
08-12-2002               High    Low     Volume Advance/Decl
DJIA     8688.89 -56.56 8742.06  8582.01 1223 mln  1410/1674
NASDAQ   1306.84 + 0.72  1311.43 1286.91 1053 mln  1562/1710
S&P 100   407.88 -15.22   426.21  405.47   totals  2972/3384
S&P 500   903.80 - 4.84   908.64  892.38
RUS 2000  388.56 + 0.11   389.51  383.56
DJ TRANS 2308.67 –42.98  2350.58 2277.32
VIX        40.46 + 1.10    42.90  39.98
VIXN       56.29 - 2.41    59.13  56.09 
Put/Call Ratio 0.74
*******************************************************************


On Hold
By Steve Price

It certainly looks as though we are in a holding pattern ahead of 
tomorrow's Fed Funds rate announcement. Volume on the NYSE was a 
paltry 1.2 billion shares, while the Nasdaq traded only 1 
billion. The speculation regarding tomorrow's FOMC meeting led to 
huge gains and large trading ranges the last several days. This 
morning saw a triple digit drop, however after a 700 point 
increase over the last 4 days, this give back was not terribly 
bearish as the market has held on to most of its gains.  The 
rebound to a finish of 8688.89, down only 56.56 on the day, looks 
almost bullish.  What does look bearish is the double top 
formation of the last couple weeks.  This is not a textbook 
double top, as the second peak is actually slightly higher than 
the first, however there was a definite turn back, around the 
same point as July 29 - August 1. There is also lower volume on 
the second peak, which is bearish. The high water marks for the 
first top were 8762.14 intraday on July 30, and a close of 
8736.59 on July 31.  The second top was last Friday with an 
intraday high of 8796.68 and close of 8745.45.  Bulls may see 
this as an indication of higher highs. While that may be 
technically true, I see it as more of a sign the sellers were not 
quite as committed ahead of the Fed meeting, as they were the 
last time we reached this area.  However, the buyers ran out of 
steam and I think we will see an even tighter trading range 
tomorrow, prior to the rate announcement.  The bond market 
reflected renewed skepticism about a rate cut, as traders unwound 
positions that would be favorable for such a move.  The 10-year 
note reached levels not seen in over 30 years.

Chart of Dow Jones Formation


 


There is one interesting pattern that highlights the effect the 
FOMC meeting had on today's action.  While volatility does tend 
to increase on market drops, today's initial drop found support 
and then traded within a very tight range, compared to the wide 
trading ranges of the last few days. A comparison to the patterns 
of the last few days shows a trading band today of about half 
what it has been on a daily basis during the recent rebound. This 
would normally be reflected in a lower Market Volatility Index 
(VIX.X) reading. 

Chart of Trading Ranges


 

In spite of this lack of activity today the Market Volatility 
Index was actually higher.  This is in anticipation of a big move 
tomorrow.  Option holders will generally not want to pay high 
premiums (over 40 is considered very high) for options that could 
decay at a fast rate without market movement.  On a day when the 
market is range bound, volatility almost always drops. This was 
not true today.  Expect a big move tomorrow after the 2:15 e.s.t. 
announcement, as the VIX is telling us to expect big things.  
Because volatility increases to the downside, today's increase 
may be foreshadowing a drop tomorrow, or at least the fear of 
one.  Does this mean the Fed will not lower the Fed Funds Rate 
tomorrow?  Not necessarily.  It may simply mean that the market 
is expecting a drop, regardless of whether the rate is lowered.  
It is worth noting however, that on a day when the Nasdaq 
finished up fractionally with a gain of 0.72, the Nasdaq 
Volatility Index (VXN.X) was down 2.41 to 56.29

Chart of the Market Volatility Index (VIX.X)


 

One of the developments that sent us lower this morning was sell 
recommendations, in this weekend's Barron's, of a number of tech 
stocks, including heavy weight Intel. Other companies in the 
group were Nokia (NOK), Texas Instruments (TXN), Qualcomm (QCOM), 
EMC Corp (EMC), Sun Microsystems (SUNW) and Applied Materials 
(AMAT), which also saw its price target dropped from $27 to $21 
by Prudential.  This helped lead the semiconductor sector lower.  
The Semiconductor Index (SOX.X) reversed some of its recent 
gains, losing 3.80 to close at 312.09.  A look at the daily chart 
shows that last week the index actually rebounded to the top of 
its descending channel, begun in early May, and was turned back 
the last two days.  With no new positive news coming out of the 
sector, I expect to see a drop back toward the middle of this 
channel.  A trade below 282.75, the previous low, could be very 
bearish, as it would not only place the sector in the middle of 
this channel, with room to fall, but also establish a new 52-week 
low.

Chart of the SOX


 


Another development contributing to this morning's decline is 
renewed fear that the airlines could be facing more closures.  
The nation's seventh largest airline, U.S. Airways, filed for 
Chapter 11 bankruptcy protection on Sunday.  The stock traded 
$0.65, down $1.80 from Friday's close of $2.45. Dow Jones removed 
U.S. Airways from the Dow Jones Transportation Index and added 
Continental in its place.  This follows the recent grounding of 
Vanguard Airlines and could foreshadow continuing closures in the 
industry.  United Airlines(UAL), the world's second largest 
carrier, is currently losing $1 million per day.  United has $2 
billion in reserves, however, is facing a debt payment of over 
$900 million by the end of the year.  United is hoping for a $1.8 
billion bailout loan from the U.S. government, however this is 
far from a sure thing.  United is currently negotiating deals 
with its mechanics, flight attendants and ticket agents, with 
little progress on wage concessions.  It would seem that this 
employee-owned airline should be able to strike a deal to keep 
its "owners" employed.

The retailers also took a hit, as big shot Wal-Mart was 
downgraded, bringing Target (TGT), Kohl's (KSS) and Sears (S) 
down along with it. K-Mart (KM) is under investigation after 
revelations that two of its former executives, Chairman Charles 
Conaway and President Mark Schwartz, bargained for more money to 
support lavish lifestyles while the company was heading into 
bankruptcy.  Sounds like they'll be shopping at K-Mart soon, 
along with Dennis Kozlowski and the Rigas family.  Speaking of K-
Mart, Martha Stewart has been given until a week from Tuesday to 
provide a senate committee with telephone and email documentation 
regarding her sale of ImClone shares ahead of their dive.

Crude oil futures rallied today as reports surfaced that Iraq 
once again denied U.S. requests for weapons inspections.  There 
was also a report of U.S. helicopters moving into the Persian 
Gulf. Iraq exports about 1.8 million barrels a day, under United 
Nations supervision.  A U.S. invasion is beginning to be priced 
back into oil after the possibility had previously been 
discounted.

Heading into tomorrow morning, we can expect a market on hold.  
Unless there is specific news, it should be relatively quiet as 
the market awaits the FOMC's announcement.  There are several 
different scenarios that can take place tomorrow afternoon, 
depending on what the Fed does.  If the Fed were to lower rates 
by 25 basis points, I would expect an initial rally, followed by 
a pullback, as the buyers who have been expecting a cut have 
mostly bought into the market in the last week.   If we see a 50-
basis point cut, there may be a continued rally throughout the 
week.  If, as I believe, the Fed leaves rates at the current 
level, but announces an easing bias, we will most likely see a 
sell-off.  I think this is the most prudent action the Fed can 
take, as the September 11 anniversary is around the corner and I 
believe the Fed should save its rate cut for after this date, in 
case there are any anniversary attacks which send the market 
tumbling.  I believe that even if there is a cut, we will see a 
sell-off at the beginning of September as investors don't want to 
be holding long positions heading into that date.  There is 
usually some extreme gapping immediately following a rate 
announcement that has uncertainty surrounding it.  Be patient, as 
the market will then pick its direction within a few minutes.  
Don't get caught jumping on a gap, as it can turn by the time you 
have placed your order.  

It seems that the August 14 reporting period for CEOs to certify 
their companies' financial reports has been all but forgotten in 
the wake of the interest rate debate.  Expect a slew of reports 
the next few days regarding which companies have certified and 
which have not.  The August 14 date is not the deadline for all 
companies.  The schedule for each company can be accessed through 
the Securities and Exchange Commission Website using this link. 
http://www.sec.gov/rules/extra/ceocfo.htm
.

Betting on the Fed can be a dangerous proposition, so respect 
your stops, don't get caught in the gaps, and remember to let the 
market pick its direction before jumping on for the ride.

Steve Price


********************
INDEX TRADER SUMMARY
********************

FED WATCH
By Leigh Stevens

TRADING ACTIVITY AND OUTLOOK - 
Potential buyers remained mostly on the sidelines today before 
the Federal Open Market Committee (FOMC) Meeting tomorrow, given 
the uncertain outlook for what the FOMC will do in terms of 
changes to U.S. Monetary policy. Fed watchers also didn't want to 
SHORT stocks in case the FOMC lowered the key Fed Funds rate; 
also, buyers and sellers were cautious about taking new positions 
ahead of the Aug. 14 deadline for CEOs to sign off on their 
financial statements. 

Besides beating up on the already beaten up Airline sector (XAL: 
-7.5%), the other favorite stock group to sell were the retail 
stocks, late to the earnings "party" (they report after July is 
over) - the retail sector, as anticipated, reflected a slowdown 
in consumer spending. 

There were lowered estimates on Target and Wal-Mart, with the 
later suffering a downgrade (from a "buy" to a "hold") by WR 
Hambrecht. July retails sales figures are due out tomorrow (Tues) 
to add fuel to the fire, or not. 

The Dow's financial stocks, JP Morgan Chase (JPM) off 3.4%, 
Citigroup, down 0.7% and American Express, which gave back 1.3%.  
Some of the selling looked to be profit-taking after last week's 
strong run up in the group. 

Bond strength was fueled by a steeping yield curve, as there was 
buying of the longer maturity/high interest government bonds, 
coupled with selling the shorter maturities/lower interest 
government paper.  

The dollar lost some ground against the major currencies - the 
euro advanced .9% to 97.84 U.S. cents. This appeared to hurt 
stocks early, but the low volume and lack of aggressive sellers 
of equities set the stage for a relatively shallow sell off and 
rebound off the lows in all the indices - Nasdaq actually 
managing to climb into plus territory, but on the least number of 
shares traded all year.  

Consensus seemed to be building that: 
- the Fed would probably not ease - but everyone hoped they 
would anyway
- the market was or has put in a bottom, but that it wasn't 
"going anywhere" on the upside - "sideways" is the consensus de 
jour on the market trend ahead, especially until we get past the 
9/11 anniversary date and past the seasonally weak October 
period.  

Great, now that this is all figured out, we can just go to sleep 
until October, right!?     
 
S&P 100 Index (OEX) - Daily/Hourly charts: 


 

The 460 area is acting as resistance in the OEX.  If the index 
climbs above 460, next resistance looks like 480, where I suggest 
selling.  440 is support implied by the low end of the uptrend 
channel currently, which may be a buy if a sell off holds in this 
area.  I don't favor any new long positions given the overbought 
readings still showing on the longer hourly stochastic and the in 
the daily model.   

S&P 500 Index (SPX) - Hourly chart:


 

The low end of the hourly chart downtrend channel, around 893, 
appears to defining a support area in the S&P 500 index - or, 
maybe it would be more accurate to say that new sellers were not 
stepping up to the plate and doing new shorting on the weakness 
this morning.  If 893-890 is penetrated on the downside, we're 
looking I at potential support at the prior low at 855, which is 
also the area of my lower trading envelope line currently which 
may again define the low end of trading range for SPX.  

On the upside, SPX has to clear 912 to suggest that would see the 
index tack on another rally up toward next resistance, which I 
estimate to be in the 945-950 price zone.  

Broadly speaking, I am looking to play a 100-point range, selling 
in the 950 area, if reached, and buying around 850. 

DJ Industrial Index (1/100 of INDU) - $DJX - Daily/Hourly charts: 


 

Near resistance in apparent in the 87.6-87.9 area, at two prior 
hourly tops - more major resistance is at 90.  Near support is at 
86; if 86 is exceeded, at 84.0. 82.2 is the hourly low prior to 
today and an emerging uptrend is intact as long as DJX holds at 
or above this swing bottom. On the other hand we have a potential 
double top going here if the index cannot advance further. 

If the double top becomes the reality, a put play will be 
warranted with an objective back to the 84 area. If the prior 
highs are exceeded I would raise my target to exit calls and play 
puts, to the 90 area. 

There is the possibility of a move to 92 if the recent 
consolidation is a bull "flag" on the daily charts - however, I 
have seen so many of these flag patterns fall apart on the 
indices, that I'm reluctant to put too much credence in this 
bullish technical interpretation. We can protect the risk in puts 
somewhat by exiting at 91, assuming there is was such a move and 
going back to a bearish play if 92 was seen or adding to 
positions.    

Nasdaq 100 Trust Stock (QQQ) Daily/Hourly charts: 


 

QQQ again is trying to break out to the upside based on the 
tendency for rallies to develop on minor price dips. 23.7 is near 
Resistance (R), then 24.7.  I continue to favor shorting in the 
24.7-25 area if reached.  The hourly stochastic model on a 21-bar 
setting (uses the last 21 hourly closes - not shown) is at a 
minor overbought reading at 70 while the daily stochastic is in 
the middle of its range.  

While the tone of the market suggests some still further upside 
potential in the Nasdaq 100, QQQ has not achieved an uptrend 
until 24.7 is exceeded - such a move would then also tend to 
"confirm" the double bottom. I have some doubts based on the low 
volume.  Time will tell - possibly with price action tomorrow. 

What's to like in key Nas 100 stocks that can measure the upside 
potential of QQQ? - bullish action and consolidation in MSFT 
(Microsoft), CSCO and to some extent, ORCL (Oracle) and QCOM 
(Qualcomm). What's not to like? - Intel (INTC) looks weak.  If 
there is one stock I would "bet" on however, it's Cisco.      

Leigh Stevens
Chief Market Strategist
lstevens@OptionInvestor.com    


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****************
WEEKLY FUND WRAP
****************

Trading Rally or the Real Thing?

Investors enjoyed a positive week with the Dow Jones Industrial 
Average rising 5.2% and the S&P 500 large-cap index notching an 
impressive 5.1% weekly price gain.  The NASDAQ OTC market ended 
the week higher by 4.7%.  Contributing to the positive sentiment 
last week was hope that Federal Reserve policy makers will lower 
interest rates again to spur U.S. economic recovery.  

Below is a 6-month chart of the S&P 500 index, which is used by 
97% of U.S. money managers and pension plans.  Over $1 trillion 
is indexed to the S&P 500 large-cap index. 



 


In terms of market capitalization, the largest 100 company stocks 
were the market leaders with the S&P 100 index advancing 5.7% for 
the week.  Mid-cap stocks as measured by the S&P Midcap 400 index 
gained slightly over 4 percent for the week, while the small-caps 
as measured by the S&P Smallcap 600 index finished 4.3% higher on 
the week.

Russell's averages paint a similar picture, with the Russell 1000 
large/mid-cap index up 5.0% for the 5-day period, followed by the 
Russell 2000 small-cap index's 3.2% weekly price gain.  The total 
U.S. stock market as measured by the Russell 3000 index was 4.9% 
higher.  So the market environment for stock funds was generally 
positive during the 5-day period through Friday, August 9, 2002, 
although some are chalking it up to nothing more than a "trading 
rally." 

According to Lipper Analytical Services, all equity fund indices 
were in the black except for emerging market equity funds, which 
lost 0.3% on average last week.  Six equity fund categories rose 
by more than 4 percent on average for the week, led by the three 
large-cap categories (value, core and growth).  Large-cap equity 
funds averaged gains of almost 5 percent over the week, but fell 
short of the 5.1% return produced by the benchmark S&P 500 index.

With stocks higher, bond prices came under pressure.  The Lehman 
Brothers Aggregate Bond index finished the week with a tiny 0.1% 
loss using Vanguard's Total Bond Market Index Fund as the proxy.  
Prices varied by maturity sector, however, with short-term bonds 
down 0.2% on average, intermediate-term bonds up 0.1%, and long-
term bonds 0.6% higher over the 5-day period.  Overall, the high 
yield sector was fairly weak.

Most bond mutual funds posted 5-day returns in the negative 0.2% 
to positive 0.2% range, using Lipper's bond fund indices.  High-
yield funds lost 0.6% on average, while international bond funds 
were 0.7% lower for the week.  A stronger dollar last week hurt 
the relative performance of international equity and bond funds.

Lipper Fund Indices

The fund averages below were taken from the Lipper Index Update 
dated Friday, August 9, 2002.  Note that Lipper breaks down U.S. 
equity fund performance into twelve style boxes including three 
multi-cap (all-cap) categories.  Substantially all multiple-cap 
funds are classified as large-cap funds in Morningstar's equity 
fund universe.  Lipper's stock fund indices give you a bit more 
detail, but they're similar conceptually to Morningstar's style 
box averages.   


 Lipper Equity Fund Indices:
 
 Large-Cap Value Funds: Week +4.8%; YTD -17.1%
 Large-Cap Core Funds: Week +4.9%; YTD -19.1%
 Large-Cap Growth Funds: Week +4.8%; YTD -24.7%
 
 Multi-Cap Value Funds: Week +3.3%; YTD -13.6%
 Multi-Cap Core Funds: Week +4.3%; YTD -20.0%
 Multi-Cap Growth Funds: Week +3.8%; YTD -29.0%
 
 Mid-Cap Value Funds: Week +3.3%; YTD -13.6%
 Mid-Cap Core Funds: Week +3.8%; YTD -17.8%
 Mid-Cap Growth Funds: Week +3.5%; YTD -28.0%
 
 Small-Cap Value Funds: Week +2.9%; YTD -9.3%
 Small-Cap Core Funds: Week +3.4%; YTD -19.0%
 Small-Cap Growth Funds: Week +2.6%; YTD -28.4%
 
 Science & Technology Funds: Week +3.3%; YTD -41.9%
 International Funds: Week +2.0%; YTD -10.0% 
 Emerging Markets Funds: Week -0.3%; YTD -4.4%
 
 Lipper Fixed Income Fund Indices:
 
 GNMA Funds: Week +0.1%; YTD +6.0%
 U.S. Government Funds: Week +0.2%; YTD +6.6%
 
 Short Investment-Grade Funds: Week -0.1%; YTD +2.2%
 Intermediate Investment-Grade Funds: Week -0.1%; YTD +3.6%
 Corporate A-Rated Bond Funds: Week +0.1%; YTD +4.3%
 
 High Current Yield Funds: Week -0.6%; YTD -9.0%
 Global Income Funds: Week -0.2%; YTD +4.9%
 International Income Funds: Week -0.7%; YTD +9.8%

 
Using the Lipper equity fund indices, you can see that large-cap 
funds were the top performers last week, producing 5-day returns 
in a tight 4.8%-4.9% range.  In each capital sector, funds which 
blend value and growth (called "core" funds) had the best weekly 
average return.  So, it paid to be weighted to large-caps (truly 
the top 100 company stocks) and to be "style neutral" last week.

Using the Lipper fixed income indices, you can see the flight to 
quality last week.  GNMA and U.S. government bond funds finished 
the week on the plus side while investment-grade funds ended the 
week with narrow losses.  Riskier sectors such as high yield and 
global/international fixed income experienced moderate losses on 
the week.  

When you read an international fund prospectus, they always talk 
about the additional risks of foreign investing.  Last week, you 
got a good idea of how dollar strength and weakness can generate 
volatility in international fund returns.  For the week, foreign 
equity fund gains were about half that of comparable U.S. equity 
funds while international bond fund losses exceeded those of U.S. 
fixed income funds in general.

Largest Mutual Funds

Weekly and year-to-date returns for the largest mutual funds in 
America are presented below using data through Friday, August 9, 
2002.  Like Lipper's fund indices, these fund bellwethers can be 
seen as indicators of fund performance.  We break them down into 
three broad fund groups: equity, fixed income, and balanced.  


 Largest Equity Funds:
  
 Vanguard 500 Index (VFINX) Week +5.2%; YTD -20.2%
 Fidelity Magellan (FMAGX) Week +5.5%; YTD -21.6% 
 Investment Company of America (AIVSX) Week +3.6%; YTD -13.7%
 Washington Mutual Investors (AWSHX) Week +4.4%; YTD -12.1%
 Growth Fund of America (AGTHX) Week +3.5%; YTD -23.5%
 
 Fidelity Contrafund (FCNTX) Week +3.2%; YTD -7.7%
 Fidelity Growth & Income (FGRIX) Week +4.4%; YTD -14.8%
 EuroPacific Growth (AEPGX) Week +2.4%; YTD -12.1%
 New Perspective (ANWPX) Week +3.2%; YTD -16.1%
 Vanguard Windsor II (VWNFX) Week +5.0%; YTD -13.0%
 
 Largest Fixed Income Funds:
 
 PIMCo Total Return (PTTRX) Week -0.3%; YTD +5.3%
 Vanguard GNMA (VFIIX) Week +0.1%; YTD +6.6%
 Vanguard Total Bond Market (VBMFX) Week +0.1%; YTD +4.1%
 Bond Fund of America (ABNDX) Week -0.7%; YTD -1.3%
 Vanguard Short-Term Corporate (VFSTX) Week -0.2%; YTD +2.0%
 Franklin U.S. Government (FKUSX) Week +0.1%; YTD +5.9%
 
 Largest Balanced Funds:
 
 Income Fund of America (AMECX) Week +1.4%; YTD -6.4%
 Vanguard Wellington (VWELX) Week +2.9%; YTD -6.2%
 Fidelity Puritan (FPURX) Week +2.9%; YTD -8.4%
 American Balanced (ABALX) Week +2.8%; YTD -7.3%
 Fidelity Asset Manager (FASMX) Week +2.7%; YTD -10.8%


Vanguard Wellington Fund (VWELX), America's oldest balanced fund, 
is no longer the nation's largest balanced fund.  That honor now 
goes to The American Funds: Income Fund of America (AMECX), with 
current assets of $21.6 billion.  Vanguard Wellington Fund isn't 
far behind, with $21.4 billion in net assets using Morningstar's 
numbers.

Bob Stansky, manager of Fidelity Magellan Fund (FMAGX), recorded 
a 5.5% total return on the week, outperforming the S&P 500 index 
benchmark.  On a YTD 2002 basis, however, Stansky still lags the 
500 index by about 1.4%.  Vanguard Windsor II Fund (VWNFX) ended 
the week with a 5% total return.

The 5-day returns of the Bond Fund of America (ABNDX) and Income 
Fund of America (AMECX) reflect their inclusion of current high 
yield securities, which as a whole underperformed the total bond 
market.  The American Funds Group funds allocate a share of bond 
assets to the high-yield sector, whereas other bond and balanced 
funds invest principally in "investment-grade" debt securities.

All in all, a strong week for most stock funds and mixed results 
for bond funds depending on their average portfolio maturity and 
credit quality.  

Money Market Funds

The iMoneyNet.com taxable money market fund average fell by one 
basis point to 1.27% as of Tuesday, August 6, 2002.  The PayPal 
Money Market Fund, at 1.85%, has the highest 7-day simple yield 
among prime retail funds.  Touchstone Money Market Fund remains 
at second place, with a current 7-day simple yield of 1.75%.

According to iMoneyNet.com, the five largest retail money market 
funds sport the following current 7-day yields (August 6, 2002):


 Largest Retail Money Market Funds: 

 Fidelity Cash Reserves (FDRXX) 1.56%
 Schwab Money Market Fund (SWMXX) 1.18% 
 Vanguard Prime MMF/Retail (VMRXX) 1.53%
 Schwab Value Advantage MF (SWVXX) 1.49% 
 Merrill Lynch CMA Money Fund 1.46%


The key Fed funds rate ended the week at 1.69%, down from 1.75% 
the week earlier.  Some are calling for an interest rate cut to 
boost the U.S. economic recovery, but speculation by week's end 
was that Fed policy makers will leave interest rates unchanged.

Note stocks are lower in Monday's session as of this writing on 
diminished rate-cut hopes.
 
Mutual Fund News

In Bloomberg mutual fund news, AMR Corp., the owner of American 
Airlines that also runs a $30 billion money management business, 
will open its 12th mutual fund to individual investors starting 
in October 2002.  The American AAdvantage Emerging Markets Fund 
(currently open to private clients and institutional investors) 
will be available to individuals as well come October.  Minimum 
initial investment will be $2,500 for regular accounts.  

Investors looking to hedge some of their equity exposure in the 
volatile markets of 2002 have a new Schwab offering to consider 
called Schwab Hedged Equity Fund.  Morningstar reports the new 
hedge fund will start operations on September 3, 2002 and will 
use the firm's Schwab Equity Ratings system to pick securities, 
in which the fund will take both "long" and "short" positions.  

This ratings system, which Schwab rolled out in May, reportedly 
awards grades of "A" through "F" to more than 3,500 stocks.  If 
you want more information on the Schwab Hedged Equity Fund, you 
can call Schwab Funds at 800-435-4000, or go to www.schwab.com.  

That's it for this week's mutual fund wrap.


Steve Wagner
Editor, Mutual Investor 
steve@mutualinvestor.com


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

Straddle The Fed?
by Mark Phillips
mphillips@OptionInvestor.com

While I get numerous questions by email every week on a variety
of topics, I've noticed a marked increase in readers asking if
there is a profitable trade to be had around the FOMC meeting
tomorrow.  For any neophytes out there, you can stop worrying
about limbering up.  "Straddling" doesn't involve any contortions
on your part; it is just the term used to describe a combination
position that we can put on ahead of a known news event (the time
of the event is known, but the outcome is not) that we expect will
cause a significant move in an underlying index or equity.  

Simply stated, buying a straddle involves buying a put and a call
at the same strike price, normally with At-the-Money (ATM)
options.  This type of trade is typically done in a low volatility
environment, in advance of a significant news event where we are
expecting the underlying stock or index will make a substantial
move following the event, but we don't know in which direction the
move will occur.  That move will (hopefully) move either the call
or the put far enough to create a net profit in our account, even
after accounting for the loss we'll take on the unprofitable side
of the straddle.  

One other factor that needs to be accounted for is time to
expiration.  If expiration is far away (measured in weeks, rather
than days), then the options that will likely be considered for
the strategy will be a little pricier, but not as likely to
deflate in the day or two following the event in question.  On
the other hand, if expiration is close (as it is now, with
expiration Friday just a few days away), then the options in
question (since we always use front-month options for this sort
of trade) will be relatively "cheap".  As we all know, cheap is
a relative term, but we won't be buying much in terms of time
premium, because most of it has already melted away.

In my mind, the best time to implement an event-related straddle
is in the final week before expiration, ideally 1-2 days before
the identified event.  We have those conditions satisfied, but
the additional condition, that of low volatility, is nowhere to be
seen with the VIX once again north of 40.  That means that in
terms of volatility, option premiums are high.  To my way of
thinking, that makes a straddle trade around the Fed announcement
a dicey proposition, at best.

Straddle veterans are having no problem following me, I know.  But
indulge me for a few more minutes as I go through an example for
those that are traipsing into new territory.  We'll follow up with
what I think will be an interesting deviation from the standard
straddle trade, even if it doesn't prove to be something we want
to consider tomorrow.

Let's assume that we want to do a plain-vanilla straddle on the
DOW, using the DJX index.  The DJX is priced to represent 1/100
of the value of the DOW, so with the DOW currently at 8688, the
ATM strike for the DJX will be $87.  Checking the closing option
prices yields the following data:

DJX AUG-87 Call - $1.50
DJX AUG-87 Put  - $1.85

Doing the math, shows that for a single contract on each side of
the straddle, our net cost for initiating the trade tomorrow
morning (assuming we don't have another gap open) is $3.35.
Considering that there are only 3 days until expiration (DJX
options expire at the close on Thursday), I would deem that trade
to be exceedingly expensive.  

Let's assume that the Fed cuts rates and the DJX surges through
the $87.50 resistance level.  How far would it have to go in order
for our trade to be profitable at expiration on Thursday?  Just
to break even (not including the cost of commissions), the DJX
would have to be trading above $90.35 ($87 strike + $3.35
premium).  That's a heck of a move and one that I find very
unlikely just in response to an interest rate cut, especially
following the big move last week.

So what if the Fed refuses to cut rates and doesn't say anything
to mollify disappointed investors?  Sure we would get a drop in
the DJX, but would it be enough to move us into the profit zone?
Doing the same math as above, the DJX would have to drop to
$83.65 just to get us to break even by the close of trading on
Thursday.  That would represent a plunge under a couple of
significant levels of support that have developed in the past
week, and I would consider a move of that magnitude to be very
unlikely as well.

You can go through the math on your favorite index or equity and
I think you'll come up with similar numbers.  With the volatility
that is currently priced into options ahead of the FOMC meeting,
I think the odds of being successful with a straddle are very
low.  I wouldn't even think about it with my own money.  But
maybe there's another way to think about the straddle that
could be beneficial.

I'm a big proponent of using relative strength/weakness in
locating potential trades.  What if we deviated significantly
from the standard straddle and created a bird of a different
feather altogether.  One thing I've noticed in recent weeks is
the fact that the Biotechnology index has been handily outpacing
every other Technology sector, while the Semiconductors have been
taken to the cleaners.  Oh sure they've rebounded a bit over the
past week or so, but pretty feebly, when compared to the drubbing
they've taken since the middle of July.

So the Biotechs are relatively strong and would likely put in a
strong performance if the Fed's comments and stance on interest
rates stimulate another bullish move in the market.  On the other
hand, with the weak performance in the Chip sector, if the Fed's
comments are market unfriendly (or just less friendly than
investors are hoping for) this sector would likely be a leader
in the market decline that would likely ensue.

An interesting note here is that the Semiconductor arena is very
sensitive to the capital markets and bearish developments on the
interest rate front are going to be felt here much more strongly
than in the Biotechnology arena, which is less capital-intensive.

The scenario I'm describing here is that with good news from the
Fed, Semiconductor stocks will likely rally less than the
Biotechs due to their relative weakness.  On the other hand, due
to their reduced sensitivity to monetary policy (and of course
the recent relative strength), Biotechnology shares would likely
fall less than the Semiconductors on a less favorable
pronouncement from the Fed.

If looking to play this premise around the meeting, I would
likely err on the side of laziness and use the Semiconductor
HOLDR (AMEX:SMH) and Biotechnology HOLDR (BBH) instead of
searching for individual stocks to use for the trade.  The AUG-25
SMH Put is currently trading for $0.85, while the AUG-90 BBH Call
is trading for $1.55.  This is roughly a 2-1 ratio, meaning that
the SMH would have to fall twice as far as the BBH would have to
rise in order to make this a profitable trade.  One strategy to
bring this into balance would be to buy twice as many SMH puts
as BBH calls, which would then give us a total cost of $3.25.
Isn't it interesting how closely that cost matches the cost of
our DJX trade outlined above?  Similarly, we would need large
moves in the underlying securities, just to get to break even by
expiration Friday.  The BBH would have to rally to $93.25, or
the SMH would have to fall to $23.38 (just above its recent lows)
to get us to break even.  Either way, an unlikely scenario in my
mind.

I didn't start this article with the purpose of defining a way to
trade ahead of the FOMC meeting.  Rather, my intent was to show
that doing so (even with a straddle-type trade) is an expensive
way to go, especially with volatility as extraordinarily high as
it is right now.  I think the better way to trade the FOMC
meeting is to WAIT!  There will be plenty of time after the
meeting to determine the direction in which your chosen index or
equity is headed and then you can trade in harmony with the
prevailing trend at the time.  At least that's the strategy I'll
be employing!

Remember, there are three positions in the market; long, short,
or flat.  Flat is the only one of the three in which you can't
LOSE money.  And not losing is our primary goal.  After that
objective is satisfied, we can put our capital to work in pursuit
of the secondary goal of making money.  I hope you found this
useful!

Trade Safely, and Then Profitably!

Mark


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***********************
INDEX TRADER GAME PLANS
***********************

THE SECTOR BEAT - 8/12
by Leigh Stevens

Sectors that look like they are consolidating for a move higher 
include the Bank Index (BKX), Biotech (BTK), possibly Boxmakers 
(BMX), Cyclicals (CYC), Defense (DFI), NYSE Financials (NF), 
Forest products (FPP), possibly Home Builders (DJUSHB);  
Pharmaceuticals (DRG); Oil Services (OSX), the Russell 2000 index 
(RUT), Securities brokers (XBD), and possibly the Transportation 
stocks (INDU). 

You'll note that, for the most part, these are the sectors that 
had bullish technical patterns on Friday - not much change in 
those assessments were seen today and no definite reversals were 
seen.  However, the Gold sector (XAU) and the Health Provider's 
(RXH) look like their recent rallies have run their course. The 
Semiconductors (SOX) remain under pressure and it does not look 
like SOX can make it back up toward resistance in the 350 area 
and could fall again toward 300 - close today: 312.    

UP on Monday -


 


DOWN on Monday - 


 


SECTOR TRADE RECOMMENDATIONS -

NEW/OPEN TRADE RECOMMENDATIONS -

NONE

 
TRADE LIQUIDATIONS -

NONE



Leigh Stevens
Chief Market Strategist
lstevens@OptionInvestor.com


***********************
SWING TRADER GAME PLANS
***********************

Waiting to Inhale

The markets posted a waiting day with profit taking from last week 
in early trading and some drops from negative economic news and 
chip downgrades. The Dow stopped right at the long term down trend 
again and failed on all rally attempts. The Nasdaq was 
surprisingly strong after the chip downgrades and was no doubt 
held up by the Barrons recommendations to buy MSFT and CSCO over 
the weekend outweighing sells on INTC, AMAT, QCOM and SUNW. All of 
this will be mute until the Fed speaks.


To read the rest of the Swing Trader Game Plan Click here:
http://www.OptionInvestor.com/itrader/indexes/swing.asp


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The Option Investor Newsletter                   Monday 08-12-2002
Copyright 2002, All rights reserved.                        2 of 2
Redistribution in any form strictly prohibited.

In Section Two:
Stop Loss Updates None
Dropped Calls: None
Dropped Puts: None
Play of the Day: Call - CHIR

Updated on the site tonight:
Market Watch
Market Posture

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

None


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

None


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

None


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”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.

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


**********************
PLAY OF THE DAY - Call
**********************

CHIR – Chiron Corporation $38.92 +1.02 (+1.02 this week)

Company Summary:
Chiron Corporation is a global pharmaceutical company that is
focus on developing products for cancer and infectious disease.
The company continues to build upon its cancer franchise, which
has three dimensions; immune system modulators, monoclonal
antibodies and novel anti-cancer agents.  In the infectious
disease area, the CHIR has a broad range of products.  The
company commercializes its products through three business units,
which include biopharmaceuticals, vaccines and blood testing.
The Vaccines unit offers more than 30 vaccines for adults and
children.


Why we like it:
Given its extreme weakness over the past several months, the
Biotechnology sector's (BTK.X) outperformance to the upside in
recent weeks has been truly impressive.  Following the lows set on
July 24th, the BTK has been working its way higher in a nice
little ascending channel.  Apparently that rate of ascent wasn't
good enough for CHIR, as this stock has been a real champ over
the past four days.  In that short span of time, the stock vaulted
from the bottom of its own channel ($32.50) to as high as $38.79
on Friday afternoon before the profit taking began.  Given that
that move represented a 19% rally, it should have come as no
surprise that there was some weakness into the close.  In fact,
we pointed out on Thursday, that with the heavy congestion in the
$37-39 area, that would make for a logical point to harvest gains.
So where do we go from here?  The bullish trend is still very
much intact and after this bout of profit taking has run its
course, we'll have another dip that we can buy.  Look to buy a
mild dip near $37 (the center of CHIR's ascending channel) or a
more sizable pullback near intraday support ($35.50-36.00).
We're raising our stop this weekend to $35.  That is just below
the lower edge of the ascending channel and a close below there
would be a strong indication that the trend is coming to an end.
Traders looking to enter on strength can consider buying a rally
through the $39 level, but need to be careful due to the
overhead congestion that is spread between $39 and $41.  If
trading strength, make sure the BTK index is confirming that
strength by continuing to trade up towards the top of its own
channel, currently $395.

Why This is our Play of the Day

With all eyes on the FOMC meeting tomorrow, the broad markets
predictably sagged at the open this morning, and then moved
sideways throughout the day, with a modest rise towards the
close.  Early on, the Biotechs were the loss leader in the Tech
arena, showing as much as a 2% loss.  But conditions in this
recently in-favor area of the market improved steadily throughout
the day, with the close showing a gain of 1.7%, making the BTK
the best performing sector for the day.  Our CHIR play performed
even better, recovering from an opening dip near $37.50 to close
just below the high of the day, chalking up a 2.7% gain.  That's
not bad for a choppy, rangebound day in the market.  Normally we
wouldn't be featuring a stock  that has had such a strong move
over the week as our Play of the Day, but what catches our
attention is the relative strength.  Expect more choppy action
tomorrow ahead of the FOMC announcement and then look to initiate
new positions on a renewed dip and rebound from the vicinity of
$37.50, the current site of the center of CHIR's ascending
channel.  A more prolonged bout of profit taking could give us
an entry near the $36 level (bottom of the channel), but we only
want to take it if the rebound arrives accompanied by solid
buying volume and renewed gains in the BTK index.  Use a rally
to the $40 level as an opportunity to harvest some gains, as that
is the top of CHIR's channel.

*** August contracts expire this week ***

BUY CALL AUG-37 CIQ-HU OI=311 at $1.90 SL=1.00
BUY CALL AUG-40 CIQ-HH OI=196 at $0.50 SL=0.25
BUY CALL SEP-37*CIQ-IU OI=140 at $3.60 SL=1.75
BUY CALL SEP-40 CIQ-IH OI=192 at $2.20 SL=1.00

Average Daily Volume = 2.69 mln



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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.

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


**************
MARKET POSTURE
**************

Are You Ready?

To Read The Rest of The OptionInvestor.com Market Watch Click Here
http://www.OptionInvestor.com/marketposture/081202.asp



************
MARKET WATCH
************

On the Verge of a Breakdown

To Read The Rest of The OptionInvestor.com Market Watch Click Here
http://members.OptionInvestor.com/watchlist/081202.asp


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

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would welcome you as a permanent subscriber.

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or you may call us at 303-797-0200 and give us the
information over the phone.

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**********

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