The Option Investor Newsletter Thursday 08-22-2002 Copyright 2002, All rights reserved. 1 of 3 Redistribution in any form strictly prohibited. In Section One: Wrap: Capitulation Index Trader Wrap: IT'S GOT LEGS Market Sentiment: Turning the Corner Weekly Manager Microscope: Robert N. Gensler: T. Rowe Price Media & Telecom (PRMTX) Index Trader Gameplans: THE SECTOR BEAT - 8/22 Updated on the site tonight: Swing Trader Game Plan: I Give Up, Almost Posted online for subscribers at http://www.OptionInvestor.com ************************************************************ MARKET WRAP (view in courier font for table alignment) ************************************************************ 08-22-2002 High Low Volume Advance/Decline DJIA 9053.64 + 96.40 9077.01 8926.92 1.71 bln 2042/1136 NASDAQ 1422.95 + 13.70 1426.76 1398.83 1.82 bln 1978/1442 S&P 100 485.95 + 5.91 487.42 478.73 Totals 4020/2578 S&P 500 962.70 + 13.34 965.00 946.43 RUS 2000 409.67 + 2.88 410.92 404.86 DJ TRANS 2463.96 + 31.80 2469.91 2412.64 VIX 30.96 - 0.67 32.54 30.44 VXN 45.00 - 1.11 47.70 58.70 Total Vol 3,726M Total UpVol 2,705M Total DnVol 909M 52wk Highs 92 52wk Lows 137 TRIN 0.51 PUT/CALL .55 ************************************************************ Capitulation Bears are being converted daily and I am so close I can feel the horns starting to grow. This is probably a leading indicator of the next market crash. Bears are turning bullish and bulls are positively giddy with exuberance. The media is bubbling with excitement about the new bull market and yet another round of cautious comments about banks and techs failed to crash the market. Dow Chart Chart of the Nasdaq The morning started off with continued concerns about Moody's possible downgrade of JPM's credit rating. They are worried about current and prospective profitability and potential liabilities. With the capital markets screeching to a halt and Enron discovery heating up again Moody's was concerned about their $42 billion in debt. Last week S&P placed JPM, LEH and MWD on credit watch with negative implications due to the deteriorating profitability of the investment banking community. Merrill Lynch also lowered profit estimates on GS, LEH and MWD due to difficult credit markets. Despite this action the Financial Index (NF.x) closed with a gain of +5 points. Go figure. Merrill Lynch also issued comments that the tech recovery may not occur until 2004 or 2005. Whoa! That was the longest date I have heard yet. If this tunnel gets any longer we will lose sight of the light. It did not seem to hamper the Nasdaq as it added +14 points. The semiconductor index fell only -4 points despite some negative news. I reported on Tuesday that the book-to-bill number was not really 1.16 as reported but was probably below .95 due to the reporting method. The semiconductor group only reports the number as a three month average which distorts the current environment. VLSI, an independent research firm, reported today that the real global number was only .77 for July on orders of $1.85 billion. Of course the market ignored this obvious sign of a serious problem brewing. VLSI claims any hopes for a 4Q recovery or spike in demand, as most earnings estimates are built on, are looking very slim. They feel the earliest hope for any recovery to begin is mid-2003. After the bell ADCT reported earnings that fell -60% and warned that the timing and rate of the recovery remains uncertain. The said they would cut more workers and attempt to reduce costs even further in an effort to hit breakeven in the current economy. They posted a -$629 million loss on revenues of only $235 million. Definitely something wrong with that picture. They expected 4Q revenue to fall to only $200 million. The monthly mass layoffs continued to climb with 2,041 for July as reported today. The number of new workers laid off in July was 245,457. The manufacturing sector was still the hardest hit as demand continues to drop. This was 83,000 higher than the 161,928 employees laid off in June. More bad news for the market ignored. I reported yesterday in the Swing Trade wrap about the comments from three Fed presidents that were clear indications that the Fed was not going to cut rates any time soon. That message has filtered through the futures markets and the Fed fund futures are now factoring in only a 32% chance of a cut at the Sept-24th meeting compared to the over 80% chance just last week. Let's see if I have this right. Merrill says no tech recovery until 2004-2005. The global book-to-bill has fallen to .77 and nearly a quarter of a million workers lost their jobs in mass layoffs in July. The Fed is not going to cut rates as expected and companies are continuing to guide lower for the current quarter. The markets digested this information and the Dow gained nearly +100 points at the close. What is wrong with this picture? Nothing. When markets bottom investors are barraged with bad news and the bottoming process is the discounting of all this news. Once investors decide the news is priced in any more news is simply ignored. This is the stage we are in now. Everyone thinks the bottom is behind us and therefore nothing matters but buying stocks for the new bull market. CNBC was touting all afternoon the +20% gain by the S&P off the July lows as evidence we have exited the bear and entered a new bull market. (Obviously a prime contrarian indicator) I have no trouble buying into the concept as long as everyone remembers that September and October are known for setting market lows as earnings warnings for the weak 3Q appear. Go long, set stops and be prepared to go long again on any bottom. Sound investment principle as long as you adhere to it. My only challenge today is the +20% gain off the July lows. It is begging for another bout of selling as those institutions with 20% profits and a fear of the coming calendar take those profits off the table. Until that profit taking appears I am seen as a bear crying wolf. After losing a sizeable amount of money over the last week betting on every dip being the "big one" I have decided to switch sides for the next week. Obviously this is a clear contrarian top indicator and a warning to traders already long. A last word of caution. August of 2000 was an identical copy of this August. Traders ignored bearish news and threw money at the market thinking the bottom was behind them in July. Dow Chart August 2000 When earnings warning season heated up and everyone finally realized that estimates were too high they started selling those stocks. With the current environment no different it would probably help to see what September looked like as well. Dow Chart Sept 2000 While comparisons to Sept-2001 are impossible, investors have probably forgotten that the Dow had sold off nearly -950 points between 8/27 and 9/10. Dow chart Aug/Sept 2001 I am not going to promise that this year will be a duplicate of prior years but September has been the worst month for the Dow and S&P for the last 51 years according to the Stock Traders Almanac. I will leave you with this quote from the almanac: August is a good month to go on vacation Trading stocks likely will lead to frustration September is when leaves and stocks tend to fall For blue chips it is the worst month of all Enter Very Passively, Exit Very Aggressively! Jim Brown ******************** INDEX TRADER SUMMARY ******************** IT'S GOT LEGS By Leigh Stevens TRADING ACTIVITY AND OUTLOOK - The Market that is as the Dow powered through 9,000 and appears headed for my next target around 9200. The S&P 500 (SPX), the index which I consider to be even more key to understanding where we are in this market, broke out above 960, a key technical level. Strength in Microsoft, a key Nasdaq and Dow biggie was a big influence - I've been highlighting the stock as a "reason" to be bullish on Nasdaq overall - Airlines, trying some more "radical" measures to turn around their losses and dismal outlook, had upside follow through again today, along with biotech and the oil service sectors. Technically - backing up to SPX 960 - why this is a key level involved the one potentially bearish chart pattern still in question as to its resolution - per my weekly commentary at the beginning of the week and updated in the chart below and by my comments to a subscriber today on our Market Monitor and which I also repeat here. QUESTION - Doesn't the Oct 1998 and the Jul 2001 pattern of a Head and Shoulder's top portend a further drop of large proportions in the SPX? It seems most of OIN is Extremely Bullish? Am I Wrong? MY RESPONSE: I have been bullish up to a point - that "point" is around 9000 - possibly 9200 - in the Dow and 955-960 in SPX. However, closes over these levels would suggest an even more major turnaround than I see currently. In terms of OEX, there is a bullish case for an upside target to 490-495, maybe 500. However, the reason I focus on 960 in the S&P 500 (SPX) is that a decisive upside penetration of this level would negate the bearish rising wedge on SPX that has been traced out since its bottom. This pattern would still present a potentially bearish picture IF there was a rally failure around 960 AND, at some point a close under 930. (I know I said lower than this on one point, but you have to look at the rising support trendline where it is each day and it's a fairly steep one currently.) Based on the rising wedge pattern, such a break would suggest a rally "failure" and the start of another correction down into a possible Sept/Oct. low. On the other hand, an SPX close takes the index above the upper trendline of the wedge and "negates" the bearish interpretation that would have been had SPX been deflected in this area. A close below the lower rising trendline of the wedge then might have confirmed a downside reversal and an end to the current rally. OUTCOME? - BULLISH! Oh, and the breakout above, and ability to hold above its 50-day moving average was another bullish omen. Now, what we appear to have is a consensus forming that there is no hurry to buy this market as - of course - there will be a second test or another substantial downswing into a "typical" seasonal low in the September-Oct. period. THAT is the point to buy. If you want to be ABOVE average in trading, it seems to be necessary to not have the average majority opinion but to think, WHAT IF - what if, this is hogwash! What if, the market does not fall apart and you start watching the market climb, like many watched it decline and decline and then decline some more after the 2000 top, assuming always that it would come back at some point - most likely at a point LESS than a loss of 75% in Nasdaq for example. So, to every complacent lazy view of the market expressed by the media talking, what if this viewpoint was NOT true. Back to my response to the Viewer question - I think what you're seeing on OIN is a recognition that this rally has been pretty strong and benefit of the doubt given to the upside - until and unless key support levels are taken out and we stop having the pattern of higher highs and higher reaction lows. The point about the possibility of a multiyear Head & Shoulder's (H&S) pattern in SPX is that it is a multiyear formation, and the H&S normally develops over a 1-3 month period - this way, the Head is in "relationship" to the shoulders. What we have in the big rounding multiyear top pattern you're looking at, is an "elephant" size head on "human size" shoulders - given this, a downside measurement of the Head to neckline (for possible deduction from a neckline break) that gives a target way lower than recent lows, is probably not valid. S&P 500 Index (SPX) - Hourly chart: As I said two days ago before being out for a day, "pivotal technical resistance is 960 - as long as SPX doesn't climb above this level, look to short rallies or just come out of calls." I was early in suggesting that, of course, a market this overbought would have to correct over a period of 1-day. WRONG! WHAT IF ......?, the bulls jumped on the dip and continued to squeeze the shorts, while investor interest and volume is relatively low? That would have been the unexpected outcome. The market confounds us often. Key technical support is now up to 925 tomorrow, at the low end of the hourly uptrend channel. Of course the market is oversold, but again, per my weekly chart review on 8/18, not really on an intermediate-term basis. Buying new call positions has some risk however given some unexpected bad news. S&P 100 Index (OEX) - Daily/Hourly charts: The OEX still has the potential of reaching its implied daily chart flag objective around 495-500, especially if the lower end of its uptrend channel is not penetrated - that lower support trendline intersects around 468-470 now. Would repeat that risk to reward on new long positions is not favorable if in fact the further upside potential on the S&P 100 is 495-500, but downside risk is to 470. DJ Industrial Index (1/100 of INDU) - $DJX - Daily/Hourly charts: DJX has broken out about the triangle formation on the daily chart - sometimes a triangle pattern will form at a bottom and "act as" a reversal set up. Most often this kind of pattern is seen in the middle of a trend and is a "continuation" pattern - more on triangles in my Trader's Corner column of today. Near support is 88.3, then 87, at the lower end of the uptrend channel. I figure that next upside target is next to around 92 in the DJX index. As with the S&P 500, the move through and above the 50-day moving average was bullish. However, it should also be noted that this latest high was NOT "confirmed" by a similar new high in my longer hourly stochastic, so I remained alert for a rally failure after the new high above widely perceived resistance at Dow 9000. WHAT IF this latest move was a bull trap? Of course the cautious mood that is keeping traders on the sidelines is part of the dynamic that pushes the market higher in a way - but, on balance, I'm out when a rally gets this "extended". Let someone else fight it out for the last 200 points. Nasdaq 100 Trust Stock (QQQ) Daily/Hourly charts: The daily volume trend continues to decline, while prices go up - not the kind of rally that I want to buy into. Of course, being early on short position at 25.25, was no great shakes either - I'm out on a revised 25.7 stop. Near support is 24.8-25; then, in the 24 area, at the low end of the hourly up trend channel. Microsoft has been the driving force with an accelerated move today on an upside chart gap after an analyst upgrade. Cisco, has managed to close slightly above its prior $15 high on two days running - not by much, but it helped to. This is a key Nas 100 stock I continue to watch also. Leigh Stevens Chief Market Strategist lstevens@OptionInvestor.com ------------------------------------------------------------ WINNER of Forbes Best of the Web Award • optionsXpress voted Favorite Options Site by Forbes • Easy screens for spreads, collars, or covered calls • Free streaming quotes • Real-time option chains, charts + calculators Go to http://www.optionsxpress.com/marketing.asp?source=oetics21 Note: Options involve risk. Risk disclosure: http://www.optionsxpress.com/welcome_risk_index.htm ------------------------------------------------------------ **************** MARKET SENTIMENT **************** Turning the Corner by Steven Price Hand me the road map, because it certainly appears the we will be going forward. The Dow took out resistance at 9000 today, and appears to be ratcheting its way up the Fibonacci retracement brackets. Today's rally of 96.41 points seems to have us headed up to at least the next level of 38.2%, or 9143.79. This retracement is based on the Dow's high of 11,750.28 in January 2000, and low of 7532.66 on the morning of July 24, 2002. The series of higher highs and higher lows makes the middle of July, when we were in the midst of a precipitous fall, seem like years ago. News flash - Saturday marks only one month since that recent low. In spite of disappointing unemployment data, which showed a weak recovery, the bulls were again out in force today. The labor Department reported a drop in jobless claims for the week ending August 17, of 2,000, which is 4,000 less than expected. In addition, the claims for the previous week were revised upward. The four-week moving average reached its highest level of unemployment in a month. The total number of unemployed workers collecting from the states was 3.25 million in the week that ended August 10. There was also new data showing a 40% increase, since last September 11, in the time it takes unemployed workers to find a new job. The one weak spot showing red in today's sea of green was the semiconductor sector. This is one major sector that has been unable to follow the leader in crossing over and holding its 50- day moving average. On Monday, the Dow, Nasdaq, NDX and S&P 500 all crossed the 50-dma mark for the first time in months. These groups continued their rise following this crossover, much like the Dow did in leading us out of the 1998 Asian crisis. The Semiconductor Sector Index finally held its 50-dma at the end of Wednesday's close, but gave in today, falling below that level once again. Salomon Smith Barney cut its growth forecasts for the sector for 2002 from +4% to +0.5% and for 2003 from 21% to 12%. The danger is that this sector will continue to act as an anchor for the broader markets. This danger seemed remote this morning as Microsoft received an upgrade from Salomon Smith Barney. While this upgrade helped lift the Nasdaq and Dow, we might have seen much larger gains if not for the semis. The Retail Index (RLX.X) has continued to claw its way upward, in spite of repeated warnings about a lack of back to school sales. This is one sector to keep a close watch on, as it reflects consumer spending, which makes up 2/3 of all GDP. This index also managed to break through its 50-dma this week, and has held on to these gains. Now that the Dow has broken 9000, the Nasdaq has broken 1400, the NDX has broken 1000 and the S&P 500 has broken 950, we will have to dial up our expectations. Instead of looking for failure levels, we may need to start looking for new levels of achievement. To begin with, if the Dow can cross the 38.2% retracement level referenced above, then 9641.47 would be the next target. This would signal the Dow retracing a full 50% of its losses since its high of January 2000. The similar 50% retracement level would be 1164.27 in the S&P 500. The Nasdaq Composite and NDX have quite a ways to go before making up their losses from highs of almost 5000 in March of 2000. But we've got to start somewhere. ----------------------------------------------------------------- Market Averages DJIA ($INDU) 52-week High: 10679 52-week Low : 7702 Current : 9053 Moving Averages: (Simple) 10-dma: 8812 50-dma: 8813 200-dma: 9726 S&P 500 ($SPX) 52-week High: 1226 52-week Low : 797 Current : 962 Moving Averages: (Simple) 10-dma: 927 50-dma: 928 200-dma: 1070 Nasdaq-100 ($NDX) 52-week High: 1782 52-week Low : 892 Current : 1049 Moving Averages: (Simple) 10-dma: 984 50-dma: 993 200-dma: 1336 ----------------------------------------------------------------- The Semiconductor Index (SOX.X): The semiconductor sector was downgraded this morning by Salomon Smith Barney. They reduced growth estimates for 2002 from 4% to 0.5%, and reduced 2003 estimates from 21% to 12%. They project 17% for 2004. The index finally managed to hold above its 50-dma on Wednesday, only to give it back today following the downgrade. The fact that the sector was down, on a day when a Microsoft upgrade helped rally the Nasdaq, seems bearish and makes the index look overextended after a rally of almost 80 points in two weeks. 52-week High: 657 52-week Low : 282 Current : 357 Moving Averages: (Simple) 10-dma: 335 50-dma: 358 200-dma: 495 ----------------------------------------------------------------- Market Volatility The VIX held above 30 once again today. This is far above normal summer volatility levels, especially considering the recent upward climb of the Dow and S&P 500. Bears are eyeing the September 11th anniversary and stepping in to buy at this level. Even with no attack, there may be a sell-off, and premium at a 30 implied volatility might still be cheap if we have a significant drop in the next couple of weeks. Considering we saw levels soar past 50 on the recent drop, buying here may turn out to be a bargain. CBOE Market Volatility Index (VIX) = 30.96 -0.67 Nasdaq-100 Volatility Index (VXN) = 45.00 –1.11 ----------------------------------------------------------------- Put/Call Ratio Call Volume Put Volume Total 0.55 671,021 372,085 Equity Only 0.41 572,710 235,765 OEX 1.40 14,983 20,922 QQQ 0.09 98,759 8,474 ----------------------------------------------------------------- Bullish Percent Data Current Change Status NYSE 44 + 3 Bull Confirmed NASDAQ-100 59 + 3 Bull Confirmed DOW 60 + 10 Bull Confirmed S&P 500 58 + 5 Bull Alert S&P 100 58 + 5 Bull Alert Bullish percent measures the number of stocks in an index currently trading on a buy signal on their point and figure chart. Readings above 70 are considered overbought, and readings below 30 are considered oversold. Bull Confirmed - Aggressively long Bull Alert - Cautiously long Bull Correction - Pause or pullback in upward trend Bear Alert - Take defensive action if long Bear Confirmed - High risk if long, good conditions for shorting Bear Correction - Pause or rebound in downtrend ----------------------------------------------------------------- 5-Day Arms Index 0.86 10-Day Arms Index 1.00 21-Day Arms Index 1.13 55-Day Arms Index 1.29 Extreme readings above 1.5 are bullish, and readings below .85 are bearish. These signals don't occur often and tend be early, but when they do, they can signal significant market turning points. ----------------------------------------------------------------- Market Internals Advancers Decliners NYSE 1793 1698 NASDAQ 1901 1369 New Highs New Lows NYSE 31 69 NASDAQ 27 60 Volume (in millions) NYSE 1,651 NASDAQ 1,828 ----------------------------------------------------------------- Commitments Of Traders Report: 08/13/02 Weekly COT report discloses positions held by small specs and commercial traders of index futures contracts at the Chicago Mercantile Exchange and Chicago Board of Trade. COT data can be found at www.cftc.gov. Small specs are the general trading public with commercials being financial institutions. Commercials are historically on the correct side of future trend changes while small specs tend to be wrong. S&P 500 Commercials have reduced positions on both sides of the coin, resulting in a net change of 700 short contracts. Small Traders have reduced long positions by 3700 more contracts than shorts. Commercials Long Short Net % Of OI 07/23/02 405,969 471,704 (65,735) (7.5%) 07/30/02 430,833 482,957 (52,124) (5.7%) 08/06/02 431,590 478,879 (47,289) (5.2%) 08/13/02 427,618 475,536 (47,918) (5.3%) Most bearish reading of the year: (111,956) - 3/6/02 Most bullish reading of the year: ( 36,481) - 10/16/01 Small Traders Long Short Net % of OI 07/23/02 166,713 73,778 92,935 38.6% 07/30/02 153,858 67,451 86,407 39.0% 08/06/02 159,561 67,434 92,127 40.5% 08/13/02 155,040 66,546 88,494 39.9% Most bearish reading of the year: 36,513 - 5/01/01 Most bullish reading of the year: 114,510 - 3/26/02 NASDAQ-100 Commercials have added to long positions by 1300 contracts, while short contracts increased slightly. Small traders also added to long contracts, increasing positions by 1200 contracts, while leaving shorts virtually unchanged. Commercials Long Short Net % of OI 07/23/02 37,204 43,601 (6,397) ( 8.0%) 07/30/02 38,163 47,343 (9,180) (10.7%) 08/06/02 41,014 50,025 (9,011) ( 9.9%) 08/13/02 42,303 50,354 (8,051) ( 8.7%) Most bearish reading of the year: (15,521) - 3/13/02 Most bullish reading of the year: 9,068 - 06/11/02 Small Traders Long Short Net % of OI 07/23/02 12,756 11,152 1,604 6.7% 07/30/02 13,159 9,237 3,922 17.5% 08/06/02 11,547 8,782 2,765 13.6% 08/13/02 12,797 8,933 3,864 17.8% Most bearish reading of the year: (10,769) - 06/11/02 Most bullish reading of the year: 8,460 - 3/13/02 DOW JONES INDUSTRIAL Commercials have maintained the status quo, subtracting 600 contracts from the long side and 400 from their shorts. Small traders got decidedly shorter, dumping almost 3,000 long contracts and only 900 shorts. Commercials Long Short Net % of OI 07/23/02 22,369 14,745 7,624 20.5% 07/30/02 22,429 12,811 9,618 27.3% 08/06/02 23,491 14,290 9,201 24.4% 08/13/02 22,837 13,833 9,004 24.6% Most bearish reading of the year: (8,322) - 1/16/01 Most bullish reading of the year: 15,135 - 10/16/01 Small Traders Long Short Net % of OI 07/23/02 9,101 12,604 (3,503) (16.1%) 07/30/02 6,778 8,999 (2,221) (14.1%) 08/06/02 7,981 9,258 (1,277) ( 7.4%) 08/13/02 5,050 8,349 (3,299) (24.6%) Most bearish reading of the year: (8,777) - 10/12/01 Most bullish reading of the year: 1,909 - 1/16/01 ----------------------------------------------------------------- ------------------------------------------------------------ VOTED one of "Best Online Brokers" (4 stars)--Barron's • optionsXpress's "order-entry screens...go far beyond... other online broker sites"--Barron's • 8 different online tools for options pricing, strategy, and charting • Access to options specialists via email, phone or live chat online • Real-Time Buying Power, Account Balances or Cancels Go to http://www.optionsxpress.com/marketing.asp?source=oetics22 Note: Options involve risk. Risk disclosure: http://www.optionsxpress.com/welcome_risk_index.htm ------------------------------------------------------------ ************************* WEEKLY MANAGER MICROSCOPE ************************* Robert N. Gensler: T. Rowe Price Media & Telecom (PRMTX) This telecommunications sector fund, managed by Robert Gensler at T. Rowe Price Associates since January of 2000, has done well on a relative basis compared to other telecom funds through the bear market of 2000-2002. Part of the T. Rowe Price Funds family, the no-load Media & Telecommunications Fund (PRMTX) has total assets under management today of $425 million, using Morningstar's data, down from $675 million at the end of 2001. Since becoming the fund's lead portfolio manager in January 2000, Gensler has been faced with the difficult task of salvaging fund investments rocked by the many blowups in the telecommunications sector the last two years. This fund posted a 93% annual return for investors in 1999, ranking in the top quartile of the sector fund group. But, would this fund under Gensler give it all back and more like some other communications funds wound up doing? The short answer is no. While not impervious to losses, Gensler has avoided some of the carnage seen in the industry sector. In 2000, the fund lost 25.1% versus a loss of 31.5% for the average communications fund per Morningstar, ranking in the top quartile of the communications fund group. In 2001, Gensler limited fund losses to just 6.9% compared with a 35.1% decline by the average communications fund, ranking in the category's top 3 percent for performance. On a year-to-date basis as of August 21, 2002, the fund is down 32.4%, versus a 41.3% YTD decline by the average communications fund, ranking in the top 13% of the communications sector group. Long-term investors looking for exposure to the battered teleco sector may find this offering managed by Gensler and team to be appropriate for their investment goal. Although getting dinged somewhat, Gensler has done a better-than-average job of holding losses versus his peers through a very difficult period for the sector overall. Being a sector portfolio manager in such times is no small task. Because this fund was able to capture its fair share of returns during the bull market and limit its losses relative to similar funds through the bear market, its trailing 5-year numbers rank among the category's elite (top 1%), per Morningstar. For that reason, we take a closer look this week at Mr. Gensler and team at T. Rowe Price Associates. Additional Background The manager start date for Robert Gensler is January 14, 2000, per Morningstar's fund report. Gensler is vice president and portfolio manager at Baltimore-based T. Rowe Price Associates, which has served as adviser since the fund's launch on October 14, 1993. Note that the fund was originally incorporated as a closed-end fund, the T. Rowe Price New Age Media Fund, and was converted to an open-end fund in 1997 along with a name change. Gensler joined T. Rowe Price's equity research division in 1993 as an investment analyst, a role he still plays today. So even though Gensler's portfolio manager tenure is somewhat brief, he has been actively involved behind the scenes (doing "investment analysis") for many years, almost a decade in fact. Gensler has a B.S. degree from the University of Pennsylvania, Wharton School, and his M.B.A. degree from Stanford University. Note that T. Rowe Price Media & Telecommunications Fund has an Investment Advisory Committee made up of nine members in which Gensler serves as committee chair. Per the fund's prospectus, the Committee Chair has day-to-day responsibility for managing the portfolio, and works with the Committee in developing and executing the fund's investment program. It is a process I'm familiar with, having served a similar role in a past life as director of pension investments, reporting to and working with our company's investment committee. General oversight of the T. Rowe Price Media & Telecommunications Funds is governed by a Board of Directors that meets regularly to review the fund's investments, performance, expenses and other affairs. The majority of board members are independent of the T. Rowe Price Group. Investment Style/Strategy The fund prospectus states that fund managers (Gensler) have considerable leeway in choosing investment strategies and in selecting securities they believe will help achieve the fund objective. This flexibility may help to explain in part why Gensler has managed to limit losses compared to his category peers since 2000. The fund seeks to provide long-term capital appreciation by investing at least 80% of net assets in the common stock of companies engaged in the media and communications industries including publishing, movies, cable TV, telephone, cellular services, and technology and equipment. Generally, Gensler invests in the stocks of established large and medium-sized companies. Using Morningstar data as of July 31, 2002, the portfolio's average market capitalization was $21.5 billion (large-cap) with 70% of assets in the giant/large-cap range. There is no limit on fund investments in foreign securities. According to Morningstar, the foreign component was 21.5% at March 31, 2002, giving this fund somewhat of a global flair. In terms of style, at least as Morningstar defines it, this offering moved from the "large-cap growth" style box to the "large-cap value" style box in 2000, where it remains today. Investment valuations for the industry sector and this fund currently are very low. Morningstar's report shows average price/book was just 2.0x at July 31, 2002 (0.4 vs. S&P 500). Average P/E information was not available. Investment Performance For the 3-year period through August 21, 2002, T. Rowe Price Media & Telecommunications Funds had an average total return (loss) of 10.2% per Morningstar, 0.6% more than the market's decline as measured by the S&P 500 index. The fund's 3-year performance ranked in the 10th percentile of the communications fund category. So on a relative performance basis, Gensler's performance was strong, ranking in the category's top decile. For the five years ended August 21, 2002, the fund posted an average annualized gain of 7.0%, beating the market (S&P 500 index) by 5.1% a year on average over the same period. This fund's trailing 5-year numbers rank in the top 1% within the communications fund category. Since 1995, the fund's annual returns have ranked in the category's last quartile only once. Shifting our attention to recent performance, you can see from the chart above that the fund's net asset value (NAV) has gone from nearly $11 a few weeks ago to around $14 today. Over the past month, the fund's value has risen 17.1%, 4.4% better than market (S&P 500 index) and ranking in the category's top decile for performance. So, if you are wondering what Gensler may be capable of doing in an up market, you got a glimpse right here. This fund has the potential to outperform its category peers in both up and down market conditions, with much of the credit due to Robert Gensler's investment analysis and seasoned judgment. In relation to other specialty-communications funds, Morningstar rates fund return as above average over the past three years and high over the past five years (and overall). Morningstar grades the fund's risk as above average relative to its category peers. Overall, Morningstar awards the fund 4 stars for "above average" risk-adjusted performance in comparison to its category peers. T. Rowe Price Media & Telecommunications Fund is also recognized by Lipper Analytical Services as a "Lipper Leader" for consistent return. Lipper defines a Lipper Leader for consistent return as a fund that has generated superior consistency and risk-adjusted returns when compared to a group of similar funds. These funds, they say, may be good fits for investors who value a fund's year- to-year consistency versus comparable funds. But, as we know, if the category itself is volatile, like the telecommunications sector has been, then even a Lipper Leader fund may not be well suited to shorter-term goals or investors who are less risk-tolerant. Conclusion Sector funds like the T. Rowe Price Media & Telecommunications Fund seek long-term, maximum capital appreciation by investing principally in stocks of companies within a specific industry sector. Because of their non-diversified status, sector funds are suitable for aggressive investors who are willing to assume significant risk in exchange for higher appreciation potential. Investors wishing to bottom fish the telecommunications sector may want to look deeper into the T. Rowe Price Media & Telecom Fund, led by Robert Gensler since 2000. He's been part of the equity research division at T. Rowe Price since 1993, and over the years his investment analysis has contributed to the track record of the Morningstar 4-star rated fund. Since assuming the lead portfolio management role in 2000, Mr. Gensler has kept the fund's performance in the category's top quartile. With T. Rowe Price's vast resources to support him, Gensler has done a nice job of limiting losses during the bear market and given us a glimpse over the past month of what he's capable of delivering in an up market cycle. More information may be obtained at the T. Rowe Price site, www.troweprice.com. Steve Wagner Editor, Mutual Investor firstname.lastname@example.org *********************** INDEX TRADER GAME PLANS *********************** THE SECTOR BEAT - 8/22 by Leigh Stevens UP on Thursday - DOWN on Thursday - "DFI" is the Defense index. SECTOR NEWS - Continuing in moderate to strong technical rebounds or uptrends were Biotech (BTK), Banks (BKX), Airlines (XAL), Cyclicals (CYC), Financials (NF), Home builders (DJUSHB), Healthcare (HMO), Health Providers (RXH), Internet (INX), Natural Gas (XNG), the Oil Index (OIX), Pharmaceuticals (DRG), Networking (NWX), Oil Services (OSX), Software (GSO), Broker-dealers (XBD), the (Dow) Transportation (TRAN) and the Utility sector index (UTY). An analyst upgrade of Microsoft generated a strong continued rally in the stock and helped rally the entire Software group. The Networking group also benefited from aggressive buying while Semiconductors sat out the bull party as it lagged the market, The financial group ended with gains, even after a decline in J.P. Morgan Chase (JPM) after Moody's placed the company's long- term rating on review for possible downgrade. The dominant theme is that "growth" stocks are outperforming the blue chips unlike the more defensive period ending in July when every rally was led by the blue chips. Standard & Poor, in its weekly research piece, was of the opinion that "Investors, after enduring a long string of failed rallies since March 2000, understandably are nervous. Slower economic growth is a restraint. So is the possibility of war on Iraq, which could have unexpected consequences." CS First Boston reduced its equity weighting and increasing its cash position on belief that two-thirds of the "capitulation rally" is over. On a sector basis, CSFB also over-weighted non- cyclical growth sectors like pharmaceuticals and defense and also favors "defensive" areas such as utilities and tobacco. The brokerage cut its weightings in cyclicals, including technology. SECTOR TRADE RECOMMENDATIONS - NEW/OPEN TRADE RECOMMENDATIONS - Long SMH at 27.90 (Semiconductor HOLDR) Sell stop: 26.90 TRADE LIQUIDATIONS - NONE SECTOR HIGHLIGHT - NONE Leigh Stevens Chief Market Strategist lstevens@OptionInvestor.com ------------------------------------------------------------ We got trailing stops! • Trade online with trailing stops at optionsXpress, at no extra cost • Trailing stops based on the option price or the stock price • Also place Contingent, Stop Loss, and "One Cancels Other" orders • $1.50 /contract (10+ contracts) or $14.95 Minimum--NO Hidden Fees! Go to http://www.optionsxpress.com/marketing.asp?source=oetics23 Note: Options involve risk. Risk disclosure: http://www.optionsxpress.com/welcome_risk_index.htm ------------------------------------------------------------ *********************** SWING TRADER GAME PLANS *********************** I Give Up, Almost I am done with the constant ignoring of bad news and being stopped out on last minute buying binges. I have seen the light, almost. If the market wants to trade on irrational exuberance then let's all party. At least we can enjoy the party while we linger on the fringes with plans for a quick escape if reality strikes. To read the rest of the Swing Trader Game Plan Click here: http://www.OptionInvestor.com/itrader/indexes/swing.asp 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. 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The Option Investor Newsletter Thursday 08-22-2002 Copyright 2002, All rights reserved. 2 of 3 Redistribution in any form strictly prohibited. In Section Two: Dropped Calls: TEVA, ATK Dropped Puts: BAX Daily Results Call Play Updates: PII, IBM, ADBE, EDS New Calls Plays: ERTS, CHIR Put Play Updates: BCC, POT, GS, MXIM New Put Plays: PIXR, **************** PICKS WE DROPPED **************** When we drop a pick it doesn't mean we are recommending a sell on that play. Many dropped picks go on to be very profitable. We drop a pick because something happened to change its profile. News, price, direction, etc. We drop it because we don't want anyone else starting a new play at that time. We have hundreds of new readers with each issue who are unfamiliar with the previous history for that pick and we want them to look at any current pick as a valid play. CALLS: ***** TEVA $66.96 -0.76 (-1.43) After its nearly vertical rise to the $68 level, TEVA spent nearly 2 weeks battling with resistance near $69. Even with the Biotechnology index (BTK.X) breaking to a new recovery high on Thursday, TEVA just couldn't find any buying interest, drifting to its third consecutive loss. Our $66 stop hasn't been broken yet, but the bullish love is definitely gone. Rather than wait for a more severe drop, we're pulling the plug on the play tonight. --- ATK $66.80 -1.20 (-0.57 for the week) Alliance has not shown enough strength as the possibility of war with Iraq continues to dominate the news. President Bush's remarks yesterday that Iraq had not been discussed during his meeting on strategic defense initiatives, combined with reluctance from U.S. allies to participate in an Iraqi invasion, seemed to have taken some of the luster off of the defense stocks. The Defense Index ($DFI.X), trading 562.42, has entered a period of consolidation and has been forming a flag for the past week now. While investors are making up their minds on the sector, we would rather not watch our option premium decay further. Therefore, we will close the play and look for other opportunities. PUTS: ***** BAX $36.50 +0.51 (-1.43) Despite the recent technical breakdown under $35, BAX just refused to go lower. There is definitely an underlying bid in this market, and rather than buck that trend, we're going to pull the plug on our BAX play tonight. Even though the bears tried, they couldn't quite manage to keep it under our $36.50 stop at the close on Thursday. With the loss of bearish momentum and a violated stop, we've lost interest in the play. Use weakness in the morning to exit open positions. *********************************************************** DAILY RESULTS *********************************************************** Please view this in COURIER 10 font for alignment ************************************************* CALLS Mon Tue Wed Thu Week ADBE 20.77 0.79 -0.72 0.18 0.43 Still Strong ATK 66.80 0.98 -1.35 1.00 –1.20 Drop, no action CHIR 41.98 -0.04 0.90 1.30 0.92 New, 200 dma break EDS 43.75 1.80 -0.96 2.06 1.90 Ascending channel ERTS 67.47 3.18 -0.68 0.99 1.78 New, all-time high IBM 81.99 3.14 -1.22 -0.27 0.99 gearing up for run PII 74.31 1.00 0.85 -0.08 1.59 17 straight EPS wins TEVA 66.96 0.89 -0.61 -0.43 –0.76 Drop, rolled over PUTS BAX 36.50 1.19 -0.27 1.12 0.51 Drop, misbehaving BCC 27.80 1.05 -0.28 0.32 0.23 Poor relative strength GS 79.91 0.97 -0.99 -0.63 0.03 Sector Downgrade MXIM 61.62 0.90 -1.91 1.71 0.57 Can't overcome resistance PIXR 50.10 1.99 1.26 -0.09 –0.81 New, overextended POT 37.41 1.06 -1.95 1.02 –0.30 200-dma resistance ------------------------------------------------------------ Quit paying fees for limit orders or minimum equity • No hidden fees for limit orders or balances • $1.50 /contract (10+ contracts) or $14.95 minimum. • Zero minimum deposit required to open an account • Free streaming quotes Go to http://www.optionsxpress.com/marketing.asp?source=oetics24 Note: Options involve risk. Risk disclosure: http://www.optionsxpress.com/welcome_risk_index.htm ------------------------------------------------------------ ******************** PLAY UPDATES - CALLS ******************** PII $74.31 +1.59 (+3.31 for the week) Polaris continues to steam ahead. A look at the point and figure chart shows PII extending its bullish vertical count with each $1 plateau. The current count is $92 after today's trade of $74. Seventeen straight earnings increases has proven this company's resilience, even in tough economic times. A look at the PnF also shows that PII has broken out of a bullish flag pattern formed throughout the end of July and beginning of August. The daily chart confirms this pattern as well. The current breakout has occurred following the stock's trade above $70 and we will raise our stop loss to this level in order to protect the current trend. PII's recent rise has been very steep and the stock is likely to pause for a breath. WE don't want to be stopped out on a mild pullback, however. As the broader markets continue to show strength, PII should continue its ascent. If the company was able to make a healthy profit when we were in recession last year, they should find even more buyers of their toys for big kids as the economy improves, and consumers' brokerage accounts increase in value. --- IBM $81.99 +0.99 (+2.64 for the week) Big Blue has paused to take a breath since its recent breakout. However, the consolidation above $80 appears to be laying a new foundation. A series of inside days, a typical consolidation pattern, following the rally to a high of $82.85, demonstrates this principle. The hold above $80 gives us a new level of support, and we will raise our stop loss to $80 to capture profits in case of a breakdown. With Microsoft's upgrade rallying the tech sector, things are starting to look better for the sector. The recent semiconductor rally has also demonstrated an exhaustion of sellers. Now that the Dow has taken out resistance at 9000, as well as held above its 50-dma, the market looks to be readying itself for another run. IBM, which has recently trimmed staff in a cost cutting move, should lead the parade on another rally. On Wednesday, IBM and Hewlett Packard announced a new agreement aimed at sharing data storage technology. This is viewed as a stepping stone toward a new standard of storage called Bluefin and the common information model (CIM). IBM will also be building a new emergency response system for the Washington D.C. area, which will be funded by Congress. The system will cover police and fire departments, as well as the FBI and Capitol Police. This alliance could foreshadow additional nationwide contracts of a similar nature. Today's march back over $82, which was the minimum measuring objective based on the recent rectangle breakout, reinforces our bullish outlook for Big Blue. We will continue to look at the bullish vertical PnF count of $85 as our next target. --- ADBE $20.77 +0.43 (+0.63) Two steps forward and one step back seems to be the pattern for shares of ADBE this week. But in the end, the stock is still making upward progress. The dip over the past couple days gave us an opportunity to enter the play when ADBE rebounded from the $20 level, and here we are back near the recent highs. Traders looking to get long on a breakout still need to wait for the stock to clear the $21.25 level before pulling the trigger. But things are still looking good, with the DOW closing over 9000, and the Software index (GSO.X) tacking on another 3% gain on Thursday. Note that the stock is now finding support at its 20-dma ($19.90) and that should provide a floor over the near term. ADBE is looking like it wants to bust out above resistance again, but we need to wait for the breakout or else target a renewed dip near $20 before playing. Keep stops set at $19. --- EDS $43.75 +1.90 (+4.83) The gift that keeps on giving, EDS continues to power up the charts. After breaking out above the $37 level last week, there has been a steady stream of buying volume to propel the stock ever higher. The mild dip on Tuesday turned out to be the only dip available to buy this week as the stock continues to open at the lows and close at the highs. That pattern may be nearing an end over the near term, as EDS is approaching what is likely to be significant resistance in the $44-45 area. This is the bottom of the gap from late July, and there could be a fresh wave of eager sellers looking to get back to even. We would recommend taking at least partial profits near this level and then look for a fresh entry, either on a pullback and rebound from the $42 level (the site of mild intraday support), or a breakout over $45. That breakout would likely take the stock to the $47 area in fairly short order, where EDS will once again find firm resistance at the top of the gap. Clearly that would present another attractive opportunity to harvest gains. Note that we have raised our stop to $40 tonight, as any drop below there would indicate that this rally has run out of steam. Until then though, we can buy the dips, so long as our stop isn't violated. ************** NEW CALL PLAYS ************** ERTS - Electronic Arts - $67.47 +1.78 (+5.27 for the week) Company Summary: Electronic Arts, headquartered in Redwood City, Calif., is the world's leading interactive entertainment software company. Founded in 1982, Electronic Arts posted revenues of more than $1.7 billion for fiscal 2002. The company develops, publishes and distributes software worldwide for video game systems, personal computers and the Internet. Electronic Arts markets its products under four brand names: EA SPORTS(TM), EA GAMES(TM), EA SPORTS BIG(TM) and EA.COM(SM). Why We Like It: ERTS has experienced an extended rise, however recent consolidation activity prevents it from looking overextended. The stock had a meteoric rise from $55, pausing to test its 200- dma just below $60. ERTS found support at that level, and took off to $65. It consolidated once again, finding support at this level, and then took off on its latest run. Today's move of $1.78, up to $67.47, cleared the stock of prior resistance just under $67, which had been in place since late June. This resistance level also came into play in December of 2001. The stock has not only set a 52-week high, but an all time high as well. Therefore resistance levels are hard to determine from daily charts. A look at the point and figure chart shows a powerful bullish triangle breakout on its seventh column. The current bullish vertical count is $86, however ERTS is still adding to it with each $1 move higher. A trade of $68 would place this count at $89, whereas a three-box reversal would cement the count at the current level. On August 19, new retail sales data showed video game sales remained strong and the industry is on pace for record growth this year. Apparently with a slow economy, and higher than expected unemployment, consumers are staying in and entertaining themselves with a little "Madden 2002." With the holiday season approaching, video game makers are preparing another strong selling season, as new games will be released at that time. According to Thomas Weisel Partners analyst Matt Finnick, channel checks at more than 30 stores indicated that ERTS's college and professional football games were on pace for a 20% increase over current sales expectations. He stated that there may be some upside to current earnings estimates. More conservative investors may want to wait for a pullback and retest of $65 support to initiate new entries. OI will use the current level as a long play entry. We will place our stop loss at $64, as this would be evidence of a break in support. BUY CALL SEP-65*EZQ-IM OI=4435 at $4.40 SL=2.20 BUY CALL SEP-70 EZQ-IN OI=3029 at $1.50 SL=0.75 BUY CALL OCT-65*EZQ-JM OI= 87 at $6.10 SL=3.20 BUY CALL OCT-70 EZQ-JN OI= 215 at $3.40 SL=2.00 Average Daily Volume = 4.36 mln --- CHIR – Chiron Corporation $41.98 +0.92 (+3.33 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: The Biotechs are back! After running up to resistance in the $383-385 area last week, the Biotechnology index (BTK.X) needed to take a breather to work off its near-term overbought condition. While the profit-taking dropped the BTK briefly below the center of its ascending channel, the sharp rebound over the past 2 days is perhaps telling us of the internal strength in the group. Not only did the BTK blast up into the upper half of its channel over the past 2 days, but today saw the BTK moving through its near-term resistance, closing at its highest level since late May. A couple weeks ago, we featured CHIR on our call list on its stellar run following the breakout over the $34 level. Well, once again, the stock appears to be leading the BTK higher, surging through the $40 level yesterday and then today clearing its 200-dma at $40.91. Not only does this extend the stock's line of X's on the PnF chart (increasing the eventual bullish target into the stratosphere to $73), but it gave us a breakout above the bearish resistance line of $41. Looks like full bull ahead, don't you think? While we don't expect this rise to continue without brief profit-taking pullbacks, this trend certainly looks like it has some room to run. Take notice of the fact that CHIR has been using its 10-dma (currently $39.22) as support on each pullback. As long as that behavior doesn't change, we can use this pattern to our advantage by placing our stop at $39. The stock's rise on Thursday came to a halt just below the top of the April gap and that could be presaging a bit of a pullback and consolidation before continuing higher. Use a dip and bounce back at either the 200-dma or the $39-40 level (the site of the most recent breakout) to initiate new positions. Given the sharp rise in the stock over the past 2 days, we don't recommend taking new momentum-based entries until the stock is able to push through the $43.50 resistance level. BUY CALL SEP-40 CIQ-IH OI=476 at $3.60 SL=1.75 BUY CALL SEP-42*CIQ-IV OI= 82 at $2.10 SL=1.00 BUY CALL SEP-45 CIQ-II OI= 75 at $1.10 SL=0.50 BUY CALL OCT-42 CIQ-JV OI=572 at $3.00 SL=1.50 BUY CALL OCT-45 CIQ-JI OI=621 at $1.85 SL=1.00 Average Daily Volume = 2.75 mln ------------------------------------------------------------ optionsXpress has "...a lot of bang for the buck."--Barron's • $1.50 /contract (10+ contracts) or $14.95 Min. No hidden fees • Easy screens for spreads, collars, or covered calls! • Contingent, Stop Loss, Trailing stop, or OCO • 8 different online tools for options pricing, strategy, and charting Go to http://www.optionsxpress.com/marketing.asp?source=oetics25 Note: Options involve risk. Risk disclosure: http://www.optionsxpress.com/welcome_risk_index.htm ------------------------------------------------------------ ******************* PLAY UPDATES - PUTS ******************* BCC $27.80 +0.23 (+1.33 for the week) Three words describe this stock - poor relative strength. Boise Cascade has attempted to pick itself off the floor, as the Dow continues to set new relative highs. During a week when all major indices nave crossed their 50-day moving averages and taken out significant resistance levels, BCC has managed a gain of $1.33 in four days. This relative weakness underscores our bearish sentiment on this stock. The graph of Forest and paper Product Index (FPP.X) looks very similar to the graph of BCC. The FPP also squeezed out a mild gain today, closing at 314.48. However, there is significant resistance for the index at 320. BCC also has poor relative strength when compared to the rest of this already weak index. The stock tried to get over the $28.00 mark today, but was turned away, in spite of the late rally in the broader markets. In spite of this week's mild gain in the stock, it remains on a double bottom breakdown sell signal on the point and figure chart. However, even a three box reversal up to $29 would simply aid in the formation of a bearish flag, and would require a trade all the way up to $31 to negate the bearish vertical count of $16. We will continue to hold our short position in BCC and watch for a pullback in the broader markets. --- POT $61.62 +0.57 (+0.71 for the week) Potash attempted a rebound with the rest of the market today, but found resistance at the 200 day moving average of $61.73. This mark has turned the stock back on 4 occasions in the last week, including today's failure. While the Dow, S&P 500 and Nasdaq continue to set new relative highs, POT was unable to muster enough buyers to get over this critical level. It traded up to $61.74, before being turned back to close at $61.62. This lack of relative strength leaves us bearish on POT. The recent rally seems to have run out of steam as the buyers are exhausted and have been unable to move sellers off the 200-dma. The fact that the point and figure bearish resistance line lies just above the 200-dma, at $63, provides an added degree of resistance should the stock be able to break the average. The stock broke down below $60 the last two days, but was bailed out by a strong overall market. The fact that this level has been broken demonstrates a lack of support at the round number. On a market pullback, the next level of support may be the 50-dma of $59.03. However, below that level, $55 looks like a good possibility. --- GS $79.91 +0.03 (+0.38) Those stubborn bulls just don't want to let anything drop. There is clearly an underlying bid in the market for GS to trade as well as it has this week. After its rally from $68 to $82, Solly downgraded a fistful of the Brokers on Wednesday due to valuation concerns and continued weak market conditions. Interestingly, the firm raised their price target on GS from $82 to $88. Despite weakness in the Brokerage sector (XBD.X) this morning, both the XBD and GS battled back with the rest of the broad market to close positive. So what's a bear to do? GS still looks vulnerable to a downside correction to at least the $77 level, and we're seeing the $80 level (prior support) act as firm resistance. But its going to be difficult to post significant gains in the play, with the strong bid in the broader market. Fading another failed rally below the $82 level would make for a solid entry into the play, as risk is then easy to manage with our stop set at $82.50, just below the 200-dma ($82.40). Momentum traders will want to see a break below $78.50 (the site of the 10-dma), preferably accompanied by weakness in the XBD sector before entering the play. --- MXIM $37.41 -0.30 (+0.22) Given the robust gains in the broad market as the DOW blasted through (ok, it actually crawled) the 9000 level, the Semiconductor index (SOX.X) was notably absent in its participation on Thursday. Sure, the SOX did manage to trace a slightly higher intraday high, but then fell back to close under the 50-dma. The fact that the SOX can't seem to hold above its 50-dma is a noted divergence from the broader market (particularly the NASDAQ), and could be a sign of internal weakening. Shares of MXIM are still trying to push through overhead resistance in the $38-39 area, but without sector participation, this resistance level is going to be a tough nut to crack. Recall, that $38 is the site of the months-long descending trendline, and $39 is the bearish resistance line on the PnF chart. We want to continue fading rallies in this area, entering as the stock rolls over. Note that daily Stochastics have flattened out in overbought territory, and now we're just waiting for the rollover. Traders more comfortable waiting for confirmation before playing will want to see MXIM push back below the $35.50 support level, with the added confirmation of SOX weakness before entering the play. We're keeping our stop set at $39. ************* NEW PUT PLAYS ************* PIXR – Pixar $50.10 -0.81 (+1.69 this week) Company Summary: Pixar is a digital animation studio with the creative, technical and productions capabilities to create a new generation of animated feature films and related products. The company's objective is to create, develop and produce computer-animated feature films with a 3-dimensional appearance. Since its inception, the company has created and produced four full-length animated feature films; Toy Story, A Bug's Life, Toy Story 2 and Monsters Inc., all of which were marketed and distributed by The Walt Disney Company. Why We Like It: Media stocks haven't been a favorite among investors lately and for good reason. But there are a few companies in the sector whose stocks have dramatically outperformed the group. The reason? Earnings! Shares of PIXR rocketed through resistance at the $44 level last week following the companies upside earnings surprise and increased guidance for the full year. That was enough to send investors on a buying spree, propelling the stock as high as $52 before this rocket ran out of fuel. So why is PIXR being added to the Put list, you ask? Simple. The stock appears to have run too far, too fast. And looking at a weekly chart, we can see that there is strong resistance near the $51 level, dating back to 1999. This is not a play where we are looking for the bottom to fall out of the stock, but where we are looking to pull out a few dollars of gain as PIXR falls back to earth to gather some support before continuing higher. Did we mention that PIXR is one of those stocks with a high P/E multiple (currently 58), so it could be due for a bit of multiple compression in a broad market pullback. Daily Stochastics are just starting to tip over, and the next trip up to the $51 level would make for an attractive entry point as the stock rolls over. Of course, it helps that we can limit our risk with a tight stop at $52. The downside is likely limited to the $47 level, the site of intraday support from the run up and the 38% retracement of the recent rally. For that reason, we need to be very careful in trying to enter the play on a breakdown. If that's your style though, look to enter on a breakdown under $49, but only if volume remains brisk. BUY PUT SEP-50*PQJ-UJ OI=269 at $2.10 SL=1.00 BUY PUT SEP-45 PQJ-UI OI=138 at $0.80 SL=0.25 Average Daily Volume = 374 K ------------------------------------------------------------ WINNER of Forbes Best of the Web Award • optionsXpress voted Favorite Options Site by Forbes • Easy screens for spreads, collars, or covered calls • Free streaming quotes • Real-time option chains, charts + calculators Go to http://www.optionsxpress.com/marketing.asp?source=oetics21 Note: Options involve risk. Risk disclosure: http://www.optionsxpress.com/welcome_risk_index.htm ------------------------------------------------------------ ********** DISCLAIMER ********** Please read our disclaimer at: http://www.OptionInvestor.com/page/oin/aboutus/disclaimer.html ************************************************************** ADVERTISING INFORMATION For more information on advertising in OptionInvestor Newsletter, or any Premier Investor Network newsletter please contact: Contact Support
The Option Investor Newsletter Thursday 08-22-2002 Copyright 2002, All rights reserved. 3 of 3 Redistribution in any form strictly prohibited. In Section Three: Play of the Day: Call - CHIR Traders Corner: Pattern recognition - Continuation patterns: Triangles & Rectangles Additional Traders Corner: Does The End Justify The Means? Additional Traders Corner: Before Canada Does Soccer Options 101: Catchin' a Bid ********************** PLAY OF THE DAY - CALL ********************** CHIR – Chiron Corporation $41.98 +0.92 (+3.33 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: The Biotechs are back! After running up to resistance in the $383-385 area last week, the Biotechnology index (BTK.X) needed to take a breather to work off its near-term overbought condition. While the profit-taking dropped the BTK briefly below the center of its ascending channel, the sharp rebound over the past 2 days is perhaps telling us of the internal strength in the group. Not only did the BTK blast up into the upper half of its channel over the past 2 days, but today saw the BTK moving through its near-term resistance, closing at its highest level since late May. A couple weeks ago, we featured CHIR on our call list on its stellar run following the breakout over the $34 level. Well, once again, the stock appears to be leading the BTK higher, surging through the $40 level yesterday and then today clearing its 200-dma at $40.91. Not only does this extend the stock's line of X's on the PnF chart (increasing the eventual bullish target into the stratosphere to $73), but it gave us a breakout above the bearish resistance line of $41. Looks like full bull ahead, don't you think? While we don't expect this rise to continue without brief profit-taking pullbacks, this trend certainly looks like it has some room to run. Take notice of the fact that CHIR has been using its 10-dma (currently $39.22) as support on each pullback. As long as that behavior doesn't change, we can use this pattern to our advantage by placing our stop at $39. The stock's rise on Thursday came to a halt just below the top of the April gap and that could be presaging a bit of a pullback and consolidation before continuing higher. Use a dip and bounce back at either the 200-dma or the $39-40 level (the site of the most recent breakout) to initiate new positions. Given the sharp rise in the stock over the past 2 days, we don't recommend taking new momentum-based entries until the stock is able to push through the $43.50 resistance level. BUY CALL SEP-40 CIQ-IH OI=476 at $3.60 SL=1.75 BUY CALL SEP-42*CIQ-IV OI= 82 at $2.10 SL=1.00 BUY CALL SEP-45 CIQ-II OI= 75 at $1.10 SL=0.50 BUY CALL OCT-42 CIQ-JV OI=572 at $3.00 SL=1.50 BUY CALL OCT-45 CIQ-JI OI=621 at $1.85 SL=1.00 Average Daily Volume = 2.75 mln ------------------------------------------------------------ VOTED one of "Best Online Brokers" (4 stars)--Barron's • optionsXpress's "order-entry screens...go far beyond... other online broker sites"--Barron's • 8 different online tools for options pricing, strategy, and charting • Access to options specialists via email, phone or live chat online • Real-Time Buying Power, Account Balances or Cancels Go to http://www.optionsxpress.com/marketing.asp?source=oetics22 Note: Options involve risk. Risk disclosure: http://www.optionsxpress.com/welcome_risk_index.htm ------------------------------------------------------------ ************** TRADERS CORNER ************** Pattern recognition - Continuation patterns: Triangles & Rectangles By Leigh Stevens lstevens@OptionInvestor.com CONTINUTATION PATTERNS - The word continuation comes of course from the verb "to continue" – in technical analysis, continuation patterns "consolidate" the prior movement within the dominant price trend. After an initial strong move up or down, there is typically a countertrend or sideways price movement before the trend renews itself and continues in the same direction as before the consolidation. After buying interest or selling interest has been satisfied, some participants with profits exit part or all their positions. Hence the idea of "profit-taking" that the financial press likes to say is something that goes on all the time - we wish there was as many profits taken as they say there is! The investors and traders on the losing side, who bought high and sold low, are trying to also help themselves – but in their case it’s to reduce their losses. For example, in a decline, those long have decided to get out if they can sell on a rally at a higher price than the recent lows and will use future rallies to exit. In an advancing trend, those short will use price pullbacks or dips to exit or cover their short positions. This back and forth movement, after the initial strong surge of a trend, is what creates a consolidation pattern. The common types of consolidations are: - flags - triangles - rectangles In this second series on continuation patterns, I discuss rectangle and triangle formations, flags having been covered in my first article on continuation patterns. RECTANGLE PATTERNS - A rectangle formation is a pause in the trend and should form 2-3 (or more) upswing highs at around the same level, as well as 2-3 or more downswing lows also around the same price area, as buying and selling propel prices up and down but within a limited price range. The top and bottoms are each at a similar price level – enough so as to be able to draw horizontal lines through the upper and lower ends of the trading range that has developed. As time goes on and the formation “broadens” out, the overall shape of it takes on a definite rectangular form as you imagine or draw the necessary lines. Dow called the same type of pattern a "line" formation. No doubt he was looking at it from the point of view of the major trend and usually a sideways trading range that is part of a secondary trend is not much more than a narrow line across a multiyear chart. We have the good fortune to be able to zero in on this pattern online or with present day charting applications on our PC and we can "zoom in" on the time duration so as to better see the rectangular nature of this pattern I’m describing. Eventually one side - bulls or those bearish on the stock or index do another round of buying or selling that causes a breakout above or below the rectangular trading range. A next price leg then carries on in the same direction as the prior trend. If the trend was up, the most common next leg is up, after the rectangle completes. If the trend was down, the most common next price swing is also down and the breakout (below the lower line) is to the downside. Sometimes the rectangle goes on for weeks, months and even years, as can be seen in the first two charts. Of course, the same pattern could be seen on a 15-min, 30-min, hourly or daily chart. The price distance traveled will be in proportion to the time frame being looked at is all. Another example of a weekly chart - you may be able to see why some technicians are tempted to use a rough rule of thumb regarding the width of the pattern equaling the potential distance UP the vertical price scale (especially if the price and time scales are close to a 1:1 relationship in scaling) after such a broad and solid base provided by the long sideways trend. The time spent in the lateral sideways movement or trading range suggests good balance in buying and selling – when this changes it often swings to another extreme. As Dow noted, the market swings from one extreme to the other every few years or so – a pendulum is the perfect metaphor. Moving to an opposite extreme, buying interest was dominant for a lengthily period after the upside breakout as seen in the chart above. The next chart, of Cisco Systems (CSCO) provides an example of a rectangle on a daily chart that is a pause or consolidation in a downtrend. The implication of a breakout from the rectangle is twofold. Look for follow through when prices pierce either the top or bottom of the rectangle. The extent of the next price swing that follows should at least be equal to the height of the formation added or subtracted to the breakout point. This idea brings in the concept of a measured move, where a next price swing travels at least as far as the first. This is a minimum objective and sets up an initial target only. Finally, last but not least - rectangles on a smaller scale - You generally don't have to look too far to find examples of this type of consolidation that forms a rectangular shape. TRIANGLE FORMATIONS - A frequent continuation (trend continues after it completes) pattern is the triangle: formations that are generally bullish in an uptrend and bearish in a downtrend. Because of this tendency we assume, unless or until contrary price action develops, that a breakout from a triangle will take prices in the same direction as the prior trend. The triangle forms most often as a pause in an up or down move and when prices start going sideways. A series of minor upswings and minor downswings trace out two trendlines the angles of which form a triangular pattern and these lines come together or converge over time. Each of the two opposing sides of the triangle should consist of at least 2-3 points made by highs and lows, the same as for any valid trendline. The shape of the trendline can vary but common to all types is that after prices get close (within 20-30%) of where the lines would touch, prices make a move or breakout above or below the top most of bottom most line. The third "side" of the triangle is assumed as the vertical distance between the initial high and low AFTER which the sloping trendlines begin to form from the various highs and lows. This 3rd. line, closing the triangle, is imagined but not drawn. There are variations in the SHAPES of the triangles, within the context of all being 3-sided figures of course. A "symmetrical" pattern, where the two opposing angles have approximately the same slope, is the most the commonly seen triangle shape – Sometimes, there is a sideways movement or a countertrend movement after a breakout of the triangle (in the expected direction of the prior trend) but the eventual outcome is still the same - You'll note that the trendlines are examples of "internal" trendlines - the line is sometimes "cut through" or bisected by some extreme lows or highs. An internal trendline connects the MOST number of points or what I sometimes also call a "best fit" trendline. I learned the term and technique from technical analyst and author Jack Schwager who used to say about trendlines, that he didn't use "trendlines, but used internal trendlines, which do 'work' in defining support & resistance". Often prices are unable to even return to the trendline that was pierced – The triangle is often a first pause after the initial segment of a trend – often, what follows is an even stronger move in that same direction. In an uptrend, potential buyers become more confident that the emerging trend will not be aborted. Sellers are already a little nervous as prices have risen – another wave of buying coming in will push them out of the way pretty quickly as the trend intensifies. The reverse situation occurs in a decline – the buyers are not at their most confident from the trend turning against them – as sellers see that buyers are not able to take prices back up much, they gain more conviction that they can take them down more. If the series of 2-3 or more tops occur in the same area and the downswing lows are rising, this is generally called an ascending triangle – What is ascending are the subsequent rally starting points, suggesting scale up buying interest. An ascending triangle is generally considered to be bullish as the minor upswings are starting from progressively higher points – this suggests the buyers are willing to pay up for the item. If the trend preceding the ascending triangle was sideways, a good clue is supplied for a bullish move after completion. Of course, the ultimate determinant is the direction of a price breakout or the direction of any thrust "out of" the triangle – if an up direction would be in the direction of the trend and the move is down instead this as a rarer instance of the triangle acting as a top and reversal pattern. If 2-3 or more minor upswing highs have tops that are declining and the downswing lows are occurring in the same area making a flat line on the bottom, this is generally called a descending triangle – What is descending are the minor rally peaks as each succeeding upswing tops out a bit lower suggesting declining momentum within that movement. The descending triangle is sometimes thought to be bearish in its typical outcome, whether it forms after a significant uptrend or not - probably because selling strength and waning buying interest is such that each succeeding rally tops out at a lower high. If the trend preceding the formation of the descending triangle is sideways, the descending type triangle is a clue to anticipate a downside breakout. If the prior trend was down, seeing the ascending triangle type developing as a (trend) consolidation is consistent with the idea that the breakout move will be in that direction also. I assume, until the market shows me otherwise, that the resolution of the ascending triangle may also be in the SAME direction as the secondary trend – you’ll note that the descending triangle shown above preceded an upside breakout. The dominant trend asserted the dominant influence. The actual breakout, with or against the direction of the prior trend, is the defining event and any contrary expectations are then unimportant. Regardless of the specific shape of the triangle, all have the same measuring implication related to a minimum upside or downside objective after a triangle breakout – a minimum or initial objective is for a move equal to the height of the triangle at its widest point added to the upper breakout point, or subtracted from the lower breakout point – AND NOW FOR SOMETHING COMPLETELY DIFFERENT - RECTANGLE & TRIANGLES AS REVERSAL PATTERNS - When I discuss "reversal" type patterns in a subsequent Trader's Corner article, I will also be noting that rectangles can sometimes act as a sign that a top is forming after a advancing trend or that a bottom is forming after a decline; that is, in some instances, the rectangle pattern can ALSO act as an indication of a reversal of the prior trend - NOT as a trading pause (consolidation) prior to a next up or down "leg" or further substantial move in the same trend direction existing prior to the rectangle. Formation of a triangle will, and this tends to be more rare, sometimes precede an upside or downside trend reversal and I will cover this type variation of the triangle. In the foregoing article the discussion of the PREDOMINATE outcome of the triangle and rectangle formations. ************************* ADDITIONAL TRADERS CORNER ************************* Does The End Justify The Means? At the Couch Potato Trading Institute, we encourage our students to, as they embark on the never-ending journey in the search for profits, prepare for the worst. We know, however, it can be a difficult adjustment. So, today we examine the situation of one of our students who is searching for that “pound of cure” that is needed when he didn’t use that “ounce of prevention.” Mike, I am new to your site and like your strategies. I did something somewhat different from what you do, but in reality it's the same but in a different direction. I shorted a stock and then, as it seemed to stabilize at a lower price, in order to gain additional income I sold covered puts. As the stock went south I sold additional lower strike puts all for August. I made a very nice profit with the short stock portion and have made a significant loss in the short put options. I could easily await assignment and make a profit but I have significant losses in the rest of my portfolio, especially on my long stocks, and am now considering whether to go through assignment and be happy with a profit or whether to roll the position to potentially recapture the loss at a later time. Is it better to take the profit through assignment and reinvest this money or roll the position as an investment aiming to capture the profits in the future. Lately I have been shorting stock and when I find attractive options, I sell them as covered puts. Ordinarily I have a hard time deciding when to sell and selling covered calls and covered puts makes the discipline or commitment. How do I decide whether to go through assignment or roll? Is it better to roll when the assignment price is near the sold option or is it better to roll when the assignment price is one or more strikes away from the sold option strike? This is what I did: I sold 5000 shares of NVDA at 18.25; sold 9 Aug. 17.50 put at 1.50; sold 10 Aug. 17.50 put at 1.00; sold 5 Aug. 12.50 put at 1.00; sold 10 Aug. 12.50 put at .75; and sold 6 Aug. 10 put at 1.00 If I expect NVDA to trade no lower than 4.5 to 5.5 over the next 3 months as there is almost one year of support at this level and if in one year I expect NVDA to trade over 10 again: Would you buy back all the options and sell later month contracts, and maybe double, triple or quadruple up on a much lower strike option? Or what other rolling options come to mind? I guess rolling is best when it reaches an area of support for puts and resistance for calls? RESPONSE: 1. It’s unfortunate that you experienced “significant” losses on the rest of your portfolio, but you are an official member of the Legion of Unhedged Masses. I’ll take a wild guess that you didn’t hedge your long stock positions with puts just as, in your current trade, you didn’t hedge your short stock position with calls. If you’re trying to fly like an eagle, don’t expect to drop like a sparrow. 2. Why do you feel you have to make up all the money in this trade and with this stock? You're not married to it. Divorce yourself from it. At least consider it as a trial separation. You can always reconcile later. There are 10,000 other stocks you can trade. OI columnists provide you with dozens of excellent possibilities every week. It’s OK to play the field. Pretend you live in Utah. Other losses in your portfolio should have absolutely no bearing on how you handle the NVDA trade. Your NVDA trade should be dealt with independently of any other trade or circumstance. 3. A practical choice would be to wait until expiration and let nature take its course. The benefit of leaving things alone until expiration is that you will save what time value is left in all the positions plus commissions. 4. What you did is establish an upside down covered call, or a covered put, which is a good strategy in a bear market (with a collar, of course). However, instead of selling the puts all at once, you laddered them (40 of the 40 contracts) as the stock went down. In the process, you collected $4,200 in premium. 5. After the money is safely in your pocket, you can take a fresh look at NVDA. If you feel strongly that it’s going to move in one direction or the other, put on an appropriate position. I’m not smart enough to pick a direction, so I lean toward non- directional trades like straddles, strangles, condors, etc. If you want to roll your positions from one month to the next or from one strike to another, it’s important that you continually (daily) re-evaluate the position. Would you enter that newly rolled position if you weren’t already involved with the stock? If so, fine. Go for it. If not, don’t be “less than logical.” Remember, the object is to try to keep the percentages in your favor. Rolling out is ideally done close to expiration when the short option has little, if any, time value left. Why pay for time value in a short option when it will disappear? If an option gets too far in the money too soon, you weren’t paying attention. The position normally would be closed, or adjusted, when the delta of the short option catches up with the delta of the long option. If it is not, you risk having the option exercised or a stock assignment. At August expiration, NVDA ended at $10.69. Based on some quick calculations, and assuming you closed out the position on Friday, you made roughly $22,100. Add the $4,200 of premium you took in and you have a profit of $26,300. But don’t pat yourself on the back too soon. That profit may have been the worst thing that could happen to you. Why? When traders make a hefty profit (or, for that matter, any profit) – especially if it’s by taking unlimited risks -- the success can be misinterpreted as skill. The fortunate trader is likely to continue taking these risks – until the inevitable catastrophe. Skill may have been a part of it, but to become a consistent successful trader, you have to hone those “skills” and add a dose of insurance – just in case you’re wrong. That’s what was going on for the entire bull market. Brokers recommended and people invested blindly, without insurance, and lost – lost BIG! Money was lost. Countless jobs were lost in all industries, including brokerages. How do you get a financial planner off your porch? Pay him for the pizza. Give him five shares of the Lucent stock you’re still holding at $1.48. If he wants a tip, remind him of his buy and hold strategy. When the stock goes up, he’ll have his tip. You made a nice profit in NVDA. Take your wife or your girlfriend, or both, out to dinner. Celebrate with champagne – domestic, of course, because unless you hedge your trades, your profits can disappear faster than your dinner’s appetizer. In trading, the end doesn’t justify the means. If you don’t protect your end, it can get messy. Your questions and comments are always welcome. mparnos@OptionInvestor.com ************************* ADDITIONAL TRADERS CORNER ************************* Before Canada Does Soccer By John Seckinger JSeckinger@OptionInvestor.com This self-created mnemonic can be used for remembering the hierarchy of Intermarket Relationships: Bonds, Commodities, Dollar, and Stocks. Before we begin, credit has to be given to John J. Murphy, author of Intermarket Technical Analysis: Trading Strategies for the Global Stock, Bond, Commodity, and Currency Markets. Mr. Murphy did an outstanding job highlighting certain caveats traders must be aware of (i.e. lag time(s) between one market to the next), as well as giving utmost respect for the bond market and its implications. One other important caveat was the discussion of “program trading” purely being a scapegoat to mask real Intermarket developments domestically or world wide. In fact, in 1987 before the crash, the dollar was dropping sharply, commodity prices were rallying, and bond prices were in a free-fall. However, stocks kept rallying for months and then blamed “program trading” for October’s fall. Spending endless hours at the Chicago Board of Trade (CBOT), one of the most important tools I gathered was learning the relationship between bonds, commodities, U.S. Dollar, and equities. With the Grain Room adjacent to the financial floor, there was a nice, steady flow of information concerning both commodities and fixed income securities. One of my primary goals of a trader at the CBOT was to determine which market was leading and which was lagging. If the dollar rose and bonds immediately followed, I would pull up a chart of the dollar and use that as my primary trading focus for the session. In fact, I would then keep a chart of the dollar up at all times until the correlation faded. Would it then make sense to follow Soybean Meal as it relates to the dollar/yen spread? Well, I do encourage all readers to experiment with as many possible correlations as possible; however, it has been my experience that “keeping things simple” works well at the beginning. The Soybean Meal to dollar/yen spread reminds me of the "Butterfly Effect", stating that the flapping of a butterfly's wings in China could cause tiny atmospheric changes which over a period of time could affect weather patterns in New York. General Guidelines: 1. Bond Prices lead Equities (most important rule) 2. Bond and Commodity prices (CRB Index) have inverse relationship 3. Dollar leads Equities (can be significant lag) 4. Dollar and Gold have inverse relationship 5. No Direct Relationship between Dollar and Bonds Therefore, higher bond prices, a stronger dollar, and lower commodity prices should be good for equities. Note: Bonds have more weight than both the Dollar and Commodity movement. Falling interest rates diminish the attractiveness of a domestic currency by lowering yields on interest-bearing investments denominated in that currency. What about the futures market? Definitely important to track; however, in my opinion there are better charts for the cash markets. Mr. Murphy’s main emphasis is on the futures market. Futures Quotes: September 30-year Bond: USU2 October Gold: GCV2 (I still prefer XAU.X Index) November Commodity Index: CRX2 (I prefer CRX.X) September Dow Jones: DJU2 Looking at an illustration from October 31st 2001 to March 26th 2002 (100 trading sessions), one can see how Treasury bond prices moved lower until the end of 2001. This weakness in the bond pits did prove noteworthy, as equity prices did eventually weaken roughly the same percentage. Also noteworthy was bonds and commodity prices trading opposite one another; signaling that a “normal” Intermarket relationship is taking form. How can a trader trade “the right side of the chart”? As noted earlier, first and foremost is to watch the activity in the bond market. I would imagine a move above the December consolidation (higher bond Prices) should have commodities experiencing weakness and equities finding a bid in the near (not immediately, but soon thereafter). There isn’t a direct relationship between the dollar and bonds, but if the dollar weakens I expect more pressure on equities. If the dollar gets stronger, I would expect equities to not sell-off as dramatically; primarily depending on the move in bonds. This is theory. Let’s see if it holds or if we have to look for other correlations. Extending the chart out to June 7th, 2002, bond prices did rally during April as Commodity prices fell significantly. The dollar ended its consolidation and began a strong downward channel. Equities certainly took its guidance from the dollar instead of bonds; nevertheless, there is a lag between bonds and equity prices. As a trader, I would now pay more attention to the dollar while continuing to follow the lead time bonds have over equities. Because the market is so dynamic, it makes sense to “adjust” one’s viewpoint if the correlation is extremely obvious. The correlation between the dollar and equities has piqued my Interest and it would no sense to discard such price action. Notes: It was interesting to see commodities recover with Treasuries during May. Moreover, See how close bond prices and equities are getting on a percentage basis? I would expect the two to reach -5% and then move quickly from that point. Illustrating the correlation between Bonds, Commodities, the Dollar and the Dow up until August 16th, once again the Dollar controlled price action for equity holders. Also interesting was Commodities and Bonds both trending significantly higher, opposite of expected correlation. Applying technical analysis on the Bond movement, it is interesting how the -5% area acted as resistance and once penetrated it may was viewed as supportive to equities. Nevertheless, it is my opinion that the Dollar will still be the leading indicator for equity holders. The inverse relationship between Bonds and Commodities does not seem to be holding; however, a fundamental perspective makes is clear that inflation is not in the pipeline and should dilute the importance of higher commodity prices. Is this reason enough to discard the relationship? Absolutely not; therefore, it makes sense to put Bonds at a hierarchy to Commodities and give fixed-income price action greater weight. With that said, I would expect weaker commodity prices before a softening bond. Looking at a detailed chart of both the Dollar and Equities, it is interesting that the Dollar bottomed on July 17th while the Dow set its relative low on July 24th. The last relative high in the Dollar was on January 27th, while the Dow began its last downward trend during the week of March 17th. Interesting enough, the September 30-year Bond formed its relative bottom on March 15th and seemed to put in a relative high on August 14th. Since the Dow began its trend higher from July 24th, will the recovery rally last the same amount of time as it did for bonds, predicting the Dow will set a significant high on December 24th (OK, call it Christmas)? The intention of this article was to provide a new approach when looking at equities. Obviously, I had hoped that every tick higher in bond prices would equal a point increase in the Dow; however, we all know how dynamic markets can be and it was fascinating to notice the correlation with the dollar to equities. This will be extremely helpful going forward. Remember, the aforementioned General Guidelines are just that: General, based off historical information. Going forward, I will continue to give more weight on the dollar than bonds; however, I will never forget the importance the bond market has on equities. If equities do continue higher until Christmas, I can assure readers this article will be brought up once again. ------------------------------------------------------------ We got trailing stops! • Trade online with trailing stops at optionsXpress, at no extra cost • Trailing stops based on the option price or the stock price • Also place Contingent, Stop Loss, and "One Cancels Other" orders • $1.50 /contract (10+ contracts) or $14.95 Minimum--NO Hidden Fees! Go to http://www.optionsxpress.com/marketing.asp?source=oetics23 Note: Options involve risk. Risk disclosure: http://www.optionsxpress.com/welcome_risk_index.htm ------------------------------------------------------------ *********** OPTIONS 101 *********** Catchin' a Bid Buzz Lynn buzz@OptionInvestor.com So. . .major indexes have reached back to the September lows while the stochastic is deep in overbought. Time to short for all it's worth? Not on your life! I know. It sounds weird that Fundamentals Guy has dawned horns over the last three weeks. Again, don't misunderstand. I'm only cyclical bullish; not secular bullish. So why the optimism? Our outstanding editor, Steve Price, got his hooks deep in it last night in the Wrap noting yesterday's breaks of the major averages over their 50 dma's. Let me carry that a step further tonight. It all comes down to a simple premise: Oscillators oscillate and revert to their mean. Let's drill down on the chart to see what all this might be about. NASDAQ is the underdog in this case, and the Dow Industrial represents only 30 stocks, which are assumed by most to represent "the market". However, the pros watch the S&P 500 for their lead. So we'll do the same. S&P 500 chart - SPX (daily from April 2000 to present): The numbe rs here are not immediately important. What is important is to notice the pattern. Here, we see a descending trend line with three distinct low points, each lower than the previous. OK, secular bear market still intact. But at each of those bounces, there was a pretty solid rebound that provided solid cyclical bull action. But did you also notice the disparity between the wavy magenta and gray lines? Those are the 50 and 200 dma's, respectively. The candle rebounds following the major declines will eventually cause the 50 dma to bounce too in delayed action, which brings the disparity between it and the 200 dma much tighter. Casually observing, I note that when the 50-dma strays far enough from the 200 dma, it tends to return to it. Yes, oscillators oscillate and return to their mean. Here's another casual observance. Once over the 50-dma the candles were only about midway through their journey. Journey to where, you ask? Though I have not drawn it on the above chart, there is a descending line of lower highs too, creating an almost perfect declining channel since April 2000. But the candles have moved up through their 50 dma on their way to touch the upper part of the channel, as shown below. S&P 500 chart - SPX (daily from April 2000 to present): What is particularly interesting to me is that on each of these previous occasions when the candles moved through the 50-dma, and the 50 dma converged upward with the 200 dma, thus lessening the disparity with the 200 dma, the stochastic was already OVERBOUGHT. Yet the cyclical move still had legs. Such too is the case with the current conditions as shown on the right side of the chart: above the 50-dma, big disparity between the 50 dma and 200 dma, and overbought stochastic. I'm only guessing, but I'll bet the 50 and 200 dma's are about to shrink their difference again. Should history repeat, as it often does, perhaps the upper channel line just under 1050 or the 200 dma, likely just under 1070 by then, would be the ultimate bullish target. For those looking at the bullish target on the point and figure charts, the target is 1095 (boy wouldn't that be nice!) on a current buy signal. Again, what about overbought? I'm willing to label that, "inconsequential" to the cyclical trend for now, but will certainly pay attention to it as a trader. One more thing from the Twilight Zone - Anybody note that today's high at 965 was right on the money at September 11th's close at 965? Should we fear a rollover and instant death of the market under the "old support equals new resistance" rule? If so, it would only be temporary in my mind. Still, it was no accident that today's 965 high matched with September's 965 low. Now to fine-tune the theory. Back to the charts! SPX daily chart (near term): Nobody can reasonably hold the notion that the markets will rise forever in a straight line from here. In fact, due to the overbought daily chart, traders can probably expect some pullback or consolidation from here. So where does support lie if that happens? Our best educated guess comes from noting the above daily chart, shrunk back to normal size from the two longer-term charts shown far above. Anyway, support would likely come in at 928-930 since that is where the 10 dma (blue wavy line), 50 dma (magenta), and the 38% retracement from the March 2002 high to July 2002 low. A guaranty? No, plus it may take a few days to get there. But it's pretty solid footing for the trader. But just to be sure, let's look at another daily chart. SPX chart with ascending trend line: Take a look at the above chart. It's identical to the previous daily SPX chart except that we've dropped the 10 dma line and added the bullish wedge noted in last week's column. By definition, a bullish wedge has a series of ascending lows with resistance at a consistent high before turning down again. That wedge broke to the upside 5 trading days ago, though it was unconfirmed then. Note that the stochastic was overbought then too, and it didn't matter. Anyway, if we focus in on the chart, we see the most recent pattern of higher lows define a rising support line. Again to make the case for support at 928, we can use that line. It supplements our analysis done from the previous charts. Ready to put it all together for the bulls? 1. Secular bear; cyclical bull - see descending channel. 2. Oscillators oscillate and revert to their mean. 3. 50 and 200 dma's converge from wide disparity. 4. Candle move above the 50 dma. 5. Bullish wedge breakout. 6. History plus point and figure chart suggest bullish target north of 1050. 7. Interim support from the 10 dma, 50 dma, and 38% retracement at 928. 8. Series of ascending lows also at 928 lending support. Putting this all together, if bears were going to take control today, they would have attempted major damage at the September low of 965 - not accidentally today's high. They couldn't pull it off. Selling pressure should have greater. There isn't just an absence of weakness, but based on the above charts, pillars of strength on which the market can build on in coming weeks. But please. . .don't take this to mean that we ought to buy everything in sight. It's still a secular bear market until we see a successful probe of resistance then a break to the upside, which appears to be some time off. Also, remember to look again at the long term chart above. We are better than half way through this bullish cycle. We are not at the beginning that happened 185 SPX points ago. We also have that pesky daily stochastic that looks like it may want to cycle down for a breather before daily candles go knocking on 965's door again. But if the stars converge, we might see a few more weeks out of this cyclical bull market. Bears appear currently sated after their most recent feast at the honey pot leaving bulls free to romp in the tall grass and enjoy the sunshine for now. Keep your eyes on the daily support lines for signs of the bear. For now markets are catching a bid at critical junctures. That's it for this week. Trade smart and make a great weekend for yourselves! ********** DISCLAIMER ********** Please read our disclaimer at: http://www.OptionInvestor.com/page/oin/aboutus/disclaimer.html ************************************************************** ADVERTISING INFORMATION For more information on advertising in OptionInvestor Newsletter, or any Premier Investor Network newsletter please contact: Contact Support
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