The Option Investor Newsletter Thursday 09-05-2002 Copyright 2002, All rights reserved. 1 of 3 Redistribution in any form strictly prohibited. In Section One: Wrap: Not That Bad Index Trader Wrap: Non-Responsive Market Sentiment: No Fundamental Difference Weekly Manager Microscope: Val Jensen: The Jensen Portfolio (JENSX) Index Trader Game Plans: (See Note) Updated on the site tonight: Swing Trader Game Plan: Jobs Control Our Fate Posted online for subscribers at http://www.OptionInvestor.com ************************************************************ MARKET WRAP (view in courier font for table alignment) ************************************************************ 09-05-2002 High Low Volume Advance/Decline DJIA 8283.70 -141.40 8420.20 8217.05 1.53 bln 1089/2066 NASDAQ 1251.01 - 41.30 1274.76 1251.01 1.46 bln 981/2362 S&P 100 439.14 - 8.84 447.98 435.65 Totals 2070/4428 S&P 500 879.15 - 14.25 893.40 870.50 RUS 2000 381.06 - 8.69 389.75 380.91 DJ TRANS 2204.26 -111.00 2314.26 2186.18 VIX 42.23 + 2.29 44.87 41.79 VXN 60.72 + 3.30 61.72 59.59 Total Vol 3,205M Total UpVol 663M Total DnVol 2,511M 52wk Highs 110 52wk Lows 282 TRIN 1.41 PUT/CALL 0.89 ************************************************************ Not That Bad Despite the drops in retail sales, a falling ISM number and lower Productivity numbers the headline everyone waited from came from Intel. The initial consensus was not that bad after hearing they would lower numbers to only the midpoint of their initial guidance. Now the question is why did they not bounce higher after the announcement? Dow Chart Nasdaq Chart The day started off with more negative news from the retailers. Wal-Mart missed same store sales estimates again with only a +3.8% increase but other stores faired much worse. GDYS -8%, FTUS -10.8%. Remember this is for the last week of back to school sales and numbers were dropping in many cases instead of rising. The Chain Store Sales report showed August sales only grew +1.6% and was the weakest number since last September. It appears the zero interest car loans are continuing to close wallets for general retail goods. Retailers missing estimates include WMT, GDYS, FTUS, JWN, AEOS, ROST, DG, KSS, TGT, FD, SKS. Even the discount stores posted losses which disturbed analysts who thought they would continue to thrive. Other economic reports included Factory Orders, which surged in July to 4.7% and offset a revised -2.5% drop in June. The conflicting signals did not provide investors with confidence that things have changed but that the low level of activity made reporting very erratic. The majority of the gains were in aircraft orders (+8.76%) and when that number is removed results showed a much weaker +1.8% number. Obviously +1.8% for the broader manufacturing sector is very anemic. The Productivity numbers surprised to the upside at +1.5% but it is due to manufacturers maintaining current production levels with fewer employees. Continued cost cutting (layoffs) raises productivity levels. However, unit labor costs rose +3.1%. New jobless claims came in +8,000 higher than expected at 403,000 and the second week over 400,000. The four-week moving average also rose over 400,000 which was troubling for the broader trend. The initial claims from last week at 403,000 were revised upward to 411,000. It appears that the downward trend in July has failed and unemployment is accelerating upward. We will get the real story on Friday morning with the Non-Farm Payrolls which are expected to increase by 30,000. I strongly doubt this but we will know at 8:35 in the morning. The big report of the day was the ISM non-mfg and it came in at 50.9 and well below consensus of 54.0. This was the third monthly drop in a row. (60.1, 57.2, 53,1, 50.9) Anything below 50 represents a contraction. The services section has normally been exempt from severe recession drops but even that sector is suffering now. The low for the year was 49.6 back in January and I would bet we see another 49 number next month. This was the lowest number since January. New orders fell to 51.6% and inventories fell to 46.0%. This indicates businesses are trying to lower inventory to offset slowing sales. Exports fell -13.5% to 46.0% indicating that global demand is also slowing. Getting the picture? The unemployment numbers for Germany were released today showing a 9.9% unemployment rate. This would confirm the global trend. In the tech arena HPQ announced yesterday that the back to school season was much weaker than expected at only 60% of the expected increase. This appears to be the pattern across the board. TLAB warned today that this was the worst downturn they had ever experienced and said Q3 sales would be -15% to -25% less than prior estimates. After the bell Motorola affirmed estimates and said they were making advances in cost cutting and were targeting 93,000 employees in mid-2003 down from 150,000 in 2000. The CEO said the 3Q and 4Q estimates were in range. Banc America also reiterated their estimates for the SOX to drop to 200. They said chip earnings estimates were still 15% to 25% too high. On the Intel conference call they said sales were down across the board including the consumer products. They refused to answer any questions on servers individually. They avoided any detail about business demand. This would be negative to me. If business demand was increasing they would want to brag about it. Intel said they were going to guide down to the lower mid point of their previous estimates. They refused to give guidance about the 4Q but said full year estimates were in still in the range of their previous guidance. They also refused to give processor mix guidance. It was a very subdued call with questions being dodged constantly. When pressed by Dan Niles they said any 4Q seasonal bounce was not a sure bet meaning they were seeing weakness in 4Q orders. Also, they said their inventory levels were rising (sales slowing) and that we should not expect any big sell into the pipeline for seasonal trends. They said their channel vendors were not interested in ordering any more product than they could sell in a weakening environment. They were asked about pricing since they just cut prices drastically and they said the price cuts helped some but that pricing remains very aggressive. This means the channel will only order for inventory if they can steal it and that AMD is cutting their throat trying to hold market share. This is going to cause margins to drop and their new estimate is in the 51% range. AMD has already warned that it is only seeing a modest increase in demand for the 3Q. In my opinion it was very contentious with Intel avoiding any hardball questions and any references to guidance past this quarter. The stock had run up slightly after the first announcement but then moved back to $15.50 in the middle of the call. Buy the end it spiked back up to 15.78 after a couple positive responses. Futures traded on both sides of zero during the call but were positive when the call ended. The impact to our markets tomorrow should be positive. The QQQs were up +16 cents in after hours and Intel finished up about +75 cents from the closing numbers. Most of the tech related stocks like BRCM, PMCS, CSCO, MSFT, DELL all saw decent increases after the call with MSFT up over $1.00. If our future was left up to Intel tomorrow we would probably see a positive bounce. Dow component Phillip Morris was also up in after hours. However the bigger impact on the market will be the Non-Farm Payroll report. If we get a negative jobs number tomorrow then all bets are off. A negative number will telegraph even more weakness to the double dip crowd and bring back that recession fear. A positive number, even if below estimates, should be ignored on the better than expected Intel news. If we get a decent jobs number I would expect a relief rally that could carry over into next week. The Intel bad news has been priced into the market and those waiting on the sidelines will start moving back in. I have been expecting a post 9/11 rally next week beginning with bargain hunting on Monday. This could jump start that rally. I will be giving serious thought to going long on Friday instead of Monday depending on the market reaction to the jobs report. Enter Very Passively, Exit Very Aggressively! Jim Brown ******************** INDEX TRADER SUMMARY ******************** Non-Responsive By John Seckinge Contact Support By definition, a responsive market is one that adheres to support and resistance levels, as well as trading in a “rational nature”. For blue-chip investors, the Dow has been anything but responsive. Beginning with the Dow, Thursday’s sell-off quickly nullified thoughts that Wednesday’s rally was possibly more than short covering. Furthermore, the sell-off on Thursday once again created a lower relative low in the Dow which may or may not be used in conjunction with the August low of 8214 (see chart). The big question is: Should we look for support from a diagonal or horizontal standpoint? What does this mean? When determining what level(s) may hold as support for the Dow (or other major indices), should we look for support via a horizontal line (example: possible double-bottom near 8215) or from a diagonal line like the one drawn below from the August 7th low? This question haunts me every day, and I have come to the conclusion that markets which lose a significant percentage over a short period (as the Dow has recently done) tend not to find support via horizontal support. This “horizontal support” can as be defined as rational or responsive, and it is my opinion the Dow is very non-responsive. Chart of the Dow Jones Industrial Average Index, Daily Chart of the Dow Jones Industrial Average Index, 5 minute Taking things to a more micro level, the last hour of trading in the Dow shows prices compressing and traders anxiously awaiting both Intel’s mid-quarter guidance and Friday’s much anticipated non-farm report. Looking ahead, if prices continue lower, support should be found near 8220 and then much lower between 7900-8000. If the after-hours interest continues (shares of Intel higher by 0.70), resistance is felt at 8275 (area shorts will defend), 8420, and then much higher at 8558 (old relative low now used for resistance). Let us do a quick re-cap: Clearly the non-farm payroll report will hold significant weight tomorrow. The intermediate trend remains down for all indices; however, it does appear volatility will pick up and we have to be prepared for a move in either direction. Chart of the Nasdaq Combined Composite Index, Daily Looking at a daily chart of the tech-laden Nasdaq Index, short traders are most likely betting big that the MACD will continue its reversal and end up at levels near -50. Of course, that also leads to speculation concerning a massive short squeeze if things reverse. What would trigger a sizable squeeze? It should begin with a move above 1265, but penetrating the 22 DMA (1326) should be a much more important barometer for both intermediate and long term traders. Chart of the Semiconductor Sector Index, Daily It may not be a perfect fit, but using Bollinger Bands has worked out relatively well when looking at the SOX. Of course, the index has just set a new 52-week low and greatly underperformed the Dow during trading on Thursday. Nevertheless, looking at Bollinger Bands points out that risk in selling the index is starting to increase. Could the index go lower? Of course, but if the market does find a bid, shares could quickly accelerate towards the 317 level. I will continue to be bearish on the SOX while under 282.75, lowering that number if the index falls to 236. Since the main event tomorrow is the non-farm report, it makes sense to glance at a chart of the 30-year bond (TYX.X). With yields on the long bond setting new 52-week lows, using “fitted retracement” analysis gives us a near term objective of 4.637 percent. This would represent a solid move higher in price and most likely come at the expense of weakening equity prices. Reminiscent to a chart of the SOX, resistance is much higher and if yields back up above 4.83 percent there could be a major shift in assets out of bonds and into stocks. Like all charts we have seen, least resistance is lower and until prices prove otherwise; therefore, it makes sense to expect the trend to continue. Chart of 30-year Treasury Bond Index, Daily ------------------------------------------------------------ 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 **************** No Fundamental Difference By Steven Price So much for Wednesday's bounce. The bears came back out of hibernation today and erased yesterday's gain and left the Dow down 25 points from Tuesday's close. While yesterday's 117-point gain looked attractive to those investors picking a bottom, it turned out to be just a "dead cat bounce" after Tuesday's drop of over 350 points. After the Dow, S&P 500 and Nasdaq all ruined a nice pattern of higher highs and higher lows by taking out the lows of August 14, the red flags went up and any rally looks suspect until we see a new higher high. A look at the bullish percentages is revealing in the trend reversal. We have seen a steady increase from oversold levels under 30% up to percent levels in the high 50s. This indicates the number of stocks in an index that are currently giving point and figure buy signals. The NDX, which usually leads the other indices, has reversed from a high of 60% earlier this month, to today's reading of 37%. This shows almost half of the stocks that were giving buy signals just a couple of weeks ago, no longer doing so. This trend in the NDX actually reversed several days ago, and was followed today by reversals down in the S&P 500 and the Dow. While the Dow and S&P remain just over 50%, today's point and figure reversal was significant in that it reversed the trend of adding stocks with buy signals and instead subtracted from the total. The OEX has reversed down as well, and finished the day at only 46%. This index broke the 50% mark on Monday. Today's jobs data showed the four week moving average for initial jobless claims climbing by 5,250 to 400,000. The moving average is up 19,500 over the past four weeks, indicating a rising number of layoffs. The ISM non-manufacturing index also fell from 53.1% in July to 50.9% in August. While anything over 50% indicates growth, this drop showed growth slowing considerably and was far below expectations of 54.4%. One of the main reasons for the recent sell-off in the past few days was the prediction that Intel would be cutting earnings estimates. The Semiconductor index reached new 52-week intraday lows yesterday and again today. Today's close of 275.36 was also a 52-week closing low. Intel did not disappoint. They lowered guidance and said microprocessor unit sales, the largest part of its business, are coming in at the lower end of their normal seasonal pattern for the quarter. They also dropped the top end of their revenue target from $6.9 billion to $6.7 billion, leaving the bottom end unchanged at $6.3 billion. While they stayed away from targeting net income, the news they did release was better than expectations. The stock got a boost after hours, trading up to $15.82 after a close of $15.11. This could provide the impetus for another market bounce tomorrow, as it will certainly give the semiconductors something to rally on. While this was still a lowering of guidance, it could have been much worse. Look for a rally in the tech sector tomorrow after the Intel news. The wrench in this prediction, however, is the August unemployment rate data due out tomorrow morning. If this data follows in the footsteps of this morning's weekly numbers, we could see a continued sell-off. We will most likely see some extreme volatility leading up to next Wednesday's Sept 11 anniversary and then somewhat of a rally afterwards, as long as there are no attacks. However, after poor retail sales numbers today confirmed that consumers are spending less, the fundamentals appear to have not changed much. Until we see some positive signs of spending in the economy, we will most likely be heading south in the near future. ----------------------------------------------------------------- Market Averages DJIA ($INDU) 52-week High: 10679 52-week Low : 7702 Current : 8283 Moving Averages: (Simple) 10-dma: 8671 50-dma: 8665 200-dma: 9678 S&P 500 ($SPX) 52-week High: 1226 52-week Low : 797 Current : 879 Moving Averages: (Simple) 10-dma: 918 50-dma: 911 200-dma: 1061 Nasdaq-100 ($NDX) 52-week High: 1782 52-week Low : 892 Current : 882 Moving Averages: (Simple) 10-dma: 960 50-dma: 969 200-dma: 1309 ----------------------------------------------------------------- The Semiconductor Index (SOX.X): The SOX set a new 52-week low today after setting a new intraday low on Wednesday. The sell- off was a result of predictions that Intel would lower their estimates after the bell. Intel lowered its revenue guidance, but not as much as expected. It also said nothing about profits. This semi-positive development could spark a bounce on tomorrow's open, but the floor has once again been lowered for the group. Banc of America said today that it expects the semis to cut current 2003 estimates by an additional 15-25% and predicts a bottom of 200 for the SOX. It also said chip company valuations should reach the levels of the early 90s. 52-week High: 657 52-week Low : 275 Current : 275 Moving Averages: (Simple) 10-dma: 316 50-dma: 341 200-dma: 487 ----------------------------------------------------------------- Market Volatility 9/11 here we come. Volatility is back over 40 as yesterday's bulls went into hibernation. The "dead cat bounce" ended below where it started and landed the Dow 25 points below Tuesday's close. Guess that 350-point drop was for real. The only salvation may be Intel lowering guidance less than expected after the close today. While this isn't terribly positive, it may be enough to spark a bounce on Friday. Unless that bounce is over 300 points, look for the VIX to fall no lower than the high 30s ahead of next week's solemn anniversary. CBOE Market Volatility Index (VIX) = 42.23 +2.29 Nasdaq-100 Volatility Index (VXN) = 60.72 +3.30 ----------------------------------------------------------------- Put/Call Ratio Call Volume Put Volume Total 0.89 468,422 418,229 Equity Only 0.69 346,198 240,272 OEX 0.60 25,257 15,141 QQQ 0.26 49,359 12,784 ----------------------------------------------------------------- Bullish Percent Data Current Change Status NYSE 42 - 2 Bull Confirmed NASDAQ-100 37 - 5 Bull Correction DOW 53 - 4 Bull Correction S&P 500 52 - 2 Bear Confirmed S&P 100 46 - 3 Bear Confirmed 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 1.61 10-Day Arms Index 1.63 21-Day Arms Index 1.30 55-Day Arms Index 1.37 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 853 1879 NASDAQ 920 2281 New Highs New Lows NYSE 38 50 NASDAQ 15 123 Volume (in millions) NYSE 1,524 NASDAQ 1,508 ----------------------------------------------------------------- Commitments Of Traders Report: 08/27/02 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 added 3,000 contracts to their long positions, while small traders reduced longs by almost 4,000. Small traders also added a similar amount to the short side. Commercials Long Short Net % Of OI 08/06/02 431,590 478,879 (47,289) (5.2%) 08/13/02 427,618 475,536 (47,918) (5.3%) 08/20/02 422,100 469,556 (47,456) (5.3%) 08/27/02 425,982 469,087 (43,105) (4.8%) 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 08/06/02 159,561 67,434 92,127 40.5% 08/13/02 155,040 66,546 88,494 39.9% 08/20/02 156,974 69,071 87,903 38.9% 08/27/02 153,152 72,408 80,744 35.8% 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 increased their long contracts by 3,500 contracts, and added only 1,200 to the short side. Small traders, on the other hand, reduced long contracts by 1,200, while leaving shorts relatively unchanged. Commercials Long Short Net % of OI 08/06/02 41,014 50,025 (9,011) ( 9.9%) 08/13/02 42,303 50,354 (8,051) ( 8.7%) 08/20/02 41,876 49,461 (7,585) ( 8.3%) 08/27/02 45,354 50,634 (5,280) ( 5.5%) 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 08/06/02 11,547 8,782 2,765 13.6% 08/13/02 12,797 8,933 3,864 17.8% 08/20/02 11,321 7,980 3,341 17.3% 08/27/02 10,156 8,040 2,116 11.6% 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 reduced their shorts by 1,000 contracts, while leaving long positions approximately the same. Small traders increased both positions slightly. Commercials Long Short Net % of OI 08/06/02 23,491 14,290 9,201 24.4% 08/13/02 22,837 13,833 9,004 24.6% 08/20/02 21,160 15,349 5,811 15.9% 08/27/02 21,023 14,328 6,695 18.9% 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 08/06/02 7,981 9,258 (1,277) ( 7.4%) 08/13/02 5,050 8,349 (3,299) (24.6%) 08/20/02 6,216 8,163 (1,947) (13.5%) 08/27/02 6,825 8,438 (1,613) (10.6%) 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 ************************* Val Jensen: The Jensen Portfolio (JENSX) Long-term investors seeking a conservative growth fund may wish to consider the Jensen Portfolio managed by Val Jensen and four other principals at Jensen Investment Management. Founded in 1988, Jensen's investment firm specializes in "private wealth" management. The Jensen Portfolio (JENSX) is managed using the same investment discipline that's applied in managing separate accounts for institutional investors. The Jensen Portfolio is team managed by an investment committee consisting of five principals, including Val Jensen, who serves as Chairman of both the committee and the firm. Each committee member has broad business and investment experience and combined they have over 150 years of investment industry experience. The Jensen website (www.jenseninvestment.com) has short profiles for each of the firm's five principals. Val Jensen's bio reads that he is a graduate of Washington State University, and has been in the investment business for over 43 years. He founded Jensen Securities Company in 1983 and Jensen Investment Management in 1988. Prior to that, he was President of Charter Investment Group. The website states that firm's investment business is conducted in accordance with the highest principles of integrity, honesty, and quality of service. This includes a well-defined "standards of practice" covering the following subject matters: - Professional Responsibility - Professional Qualifications - Compensation for Services - Investment Management Agreements - Confidentiality Agreements - Promotional Activities For instance, it is the responsibility of each principal to render investment advice to clients that is "well-reasoned, unbiased, disciplined and continuous." That includes Jensen Portfolio. In the area of compensation, it's noteworthy that Jensen does not participate in any "soft-dollar" arrangements. These high fiduciary standards combined with the firm's more- conservative approach to growth investing makes it a suitable choice for more conservative, growth-oriented fund investors. Investment Discipline At Jensen, the focus is on quality growth companies. They start by screening for companies that have posted returns on equity or ROE of at least 15% in each of the last 10 years. Morningstar's report says that Jensen's strict criterion eliminates around 99% of all publicly traded companies. Jensen's team then purchases stocks of companies they think will sustain their 15% ROE in the future and are trading at least 40% below their estimated values at time of purchase. Theses firms must also be in excellent financial condition and have increased dividends at a rate greater than inflation for the past 5 years. The Jensen Portfolio generally consists of 20 holdings, and must include at least 15 companies at any time. It may invest in ADR securities (American Depository Receipts) and is registered as a "non-diversified" mutual fund with the SEC. A holding is sold when its ROE dips below 15% or its stock price rises to above its estimated value. Morningstar says the resulting portfolio looks different than the typical large-cap growth fund with below-average price valuations relative to the category group. Below is a summary of the Jensen Portfolio's average price valuations, compared to Vanguard Growth Index Fund that mirrors the growth component of the S&P 500 index (using Morningstar data as of August 31, 2002). Average Price Valuations: Vanguard Growth Index Fund (P/B 6.8; P/E 30.0; P/C 17.5) Jensen Portfolio (P/B 5.9; P/E 23.3; P/C 15.8) Average Market Capitalization: Vanguard Growth Index Fund ($75.1 Billion) Jensen Portfolio ($18.5 Billion) While Morningstar shows the fund has maintained a consistent bias to large-cap growth stocks, within the group it remains among the most conservative offerings in terms of risk due primarily to its price consciousness and its emphasis on quality (ROE). These are characteristic of a portfolio with a long-term perspective and as the fund's ultra-low turnover rate of 7% suggests, this portfolio doesn't make sudden shifts. Accordingly, Jensen Portfolio has had limited exposure to "techs" through the market downturn, resulting in a superior preservation of capital rating by Lipper. Lipper Analytical Services says the Jensen Portfolio is a Lipper Leader for consistent, strong return performance and for capital preservation relative to all funds in its broad peer group (all equity funds). Morningstar grades risk as "low" compared to its category group (large-cap growth funds). Note that growth of dividend income is a secondary consideration in the management of the Jensen Portfolio but its main objective is long-term capital appreciation. Jensen's fund attempts to be fully invested at all times Investment Performance Investing in high-quality companies trading at relatively low valuations has paid off for shareholders, Morningstar reports, especially considering the decline in growth stock funds since 2000. Since April 2000, the Jensen Portfolio has lost just 3% for shareholders on an annualized basis compared to an annual- equivalent decline of 24.2% by the Vanguard Growth Index Fund. For the 3-year period through September 4, 2002, Jensen Portfolio had a positive average return of 4.2% compared to a 15.5% average loss for both the Vanguard Growth Index Fund and category average per Morningstar. The fund's trailing 3-year performance ranks in the top 1% of the large-cap growth category, as does its trailing 5-year returns. For the 5-year period, Jensen Portfolio returned 8.5% a year on average, versus a narrow 0.2% average gain for the Vanguard Growth Index Fund and a negative average 2.0% return for the average large-growth fund, per Morningstar. Jensen's performance for the 10-year period ended August 31, 2002 ranks in the category's top quartile (22nd percentile). For that period, the fund has averaged 10% a year for shareholders, around 2.2% more a year than the average large-cap growth fund according to Morningstar. So, Jensen has outperformed his fund competitors by a wide margin over the trailing 10-year period with relatively low risk. Adding to the fund's appeal is its low 0.50% management fee, and its relatively low expense ratio of 0.95%. Its turnover rate of 7% per Morningstar is extremely low by even value fund standards, and makes it appropriate for use in both taxable and tax-deferred accounts, such as IRAs and other retirement programs. Conclusion Because Jensen tends to maintain a relatively low weight in tech stocks versus other growth style funds, the Jensen Portfolio may lag other growth funds during tech-led market advances, like the one that occurred between 1996 and 1999. But, it's not going to lose the shirt off your back like many of its growth style peers did when tech stocks take a nosedive and lead the market down as has been the case largely since April 2000. The stability of the fund's portfolio management team is a plus, with shareholders benefiting from the team's 150 years combined business and investment experience. Long-term investors looking for a core growth holding have a fine choice here. Steve Wagner Editor, Mutual Investor firstname.lastname@example.org *********************** INDEX TRADER GAME PLANS *********************** Due to Leigh Stevens being out of town, the Index Trader Game Plan, otherwise known as the Sector Beat, will not be updated for the remainder of this week. Jeff Bailey will be updating the Sector Beat regularly starting September 9th. ------------------------------------------------------------ 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 *********************** Jobs Control Our Fate The Intel news was better than expected but very low key. The Nasdaq leaders all posted gains in after hours but our fate is in the government's hands. The Non-Farm payrolls are expected to have increased by 30,000. A negative number could be disastrous to the Intel bounce 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. You may subscribe at any time but your subscription will not start until your free trial is over. 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The Option Investor Newsletter Thursday 09-05-2002 Copyright 2002, All rights reserved. 2 of 3 Redistribution in any form strictly prohibited. In Section Two: Dropped Calls: None Dropped Puts: CYMI, A, MXIM, QLGC, UNH Daily Results Call Play Updates: BRL New Calls Plays: SYK Put Play Updates: AIG, IBM, EXC, UTX New Put Plays: AA, WY **************** 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: ***** None PUTS: ***** CYMI $21.73 -1.11 (-2.59 for the week) Cymer, originally picked at $22.95, has gone our way, trading down to $21.73. The future business prospects for the semis look bleak, therefore reducing their ability to purchase Cymer's products. Based on warnings from National Semiconductor and predictions of earnings reductions from Intel, the sector has seen quite a sell-off the last few days. Intel released its mid-quarter update after the close today, lowering their estimates, but not as much as some analysts had predicted. A bounce in the SOX could follow the recent sell-off and we will close the play and take our profits. --- A $13.72 +0.22 (+0.29) In a marked divergence from the rest of the market, shares of A actually ticked modestly higher following their gap lower this morning. The last two days have seen significant buying interest as the stock is beginning to recover from the sharp slide over the past week. Even with the Networking sector (NWX.X) getting hit for a 4.4% loss, A continued to find a bid from bargain shoppers. This demonstration of relative strength is a strong sign that the bearish trend is taking a pause, so we'll take an early exit from the play. Use any early dip tomorrow to exit open positions. --- MXIM $27.97 -1.69 (-3.64) MXIM has been a stellar performer, falling nearly $8 since we picked it up near $36. With the stock testing major support at the August lows and the SOX dropping to new multi-year lows, this looks like a great spot to harvest those gains. In addition, judging from the after-hours reaction, the INTC mid-quarter update wasn't as bad as everyone seemed to be expecting. This will likely lend a bid to the entire Semiconductor group. We'll elect to close MXIM out as a successful play and then look for other opportunities elsewhere. --- QLGC $32.41 -1.39 (-1.14) QLGC has continued to be driven lower by the series of negative pronouncements in the Technology arena, particularly in the Semiconductor sector (SOX.X). With the SOX hitting fresh multi-year lows on Thursday ahead of INTC's mid-quarter update tonight, it is no surprise that QLGC lost another 4% on the day. But the stock stubbornly refused to break the $32 support level, which could produce a rebound on tomorrow following the milder than expected warning from INTC tonight. We'll take advantage of the recent weakness to book a gain, and suggest you do likewise. --- UNH $86.25 -0.55 (-2.10) Tuesday's sharp selloff drove UNH down to the $84 level, but the bulls came out swinging yesterday, propelling the stock back above back above the $86 support level. Then despite the broad market weakness on Thursday, UNH recovered from the early drop and spent the day trading in a narrow range, finally coming to rest above $86. This looks like simple consolidation of yesterday's rebound, and that is a warning to bears that the risk has shifted to the upside. Rather than wait for our stop to be violated, we're pulling the plug tonight. Exit open positions on any opening weakness tomorrow. With the downside pressure apparently easing, the prudent move is to harvest any gains and move to the sidelines. *********************************************************** DAILY RESULTS *********************************************************** Please view this in COURIER 10 font for alignment ************************************************* CALLS Mon Tue Wed Thu Week BRL 66.07 0.00 -3.23 0.38 –1.09 Holding above support SYK 57.33 0.00 -0.80 0.80 1.03 New, clear of congestion PUTS A 13.72 0.00 -0.58 0.44 0.22 Drop, too slow AA 22.15 0.00 -0.93 0.23 –0.99 New, like it's 1999 AIG 58.32 0.00 -3.18 0.43 –1.93 9/11 ins. scare CYMI 21.71 0.00 -1.24 0.16 –1.13 Drop, profits EXC 44.00 0.00 -1.49 0.60 –0.65 still weighty IBM 72.18 0.00 -3.03 1.38 –1.55 now below 50-dma MXIM 27.97 0.00 -1.70 0.76 –1.69 Drop, profits QLGC 32.41 0.00 -1.19 1.09 –1.39 Drop, profits UNH 86.25 0.00 -3.83 2.03 –0.55 drop, profits UTX 56.89 0.00 -2.71 0.61 –1.11 still trending down WY 50.10 0.00 -2.05 0.05 –2.25 New, economic weakness ------------------------------------------------------------ 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 ******************** BRL $68.07 -1.09 (-2.64) Will it or won't it? That's the question on our minds tonight, as we look at BRL. The stock has attempted to breakout over resistance and been knocked back by the bears, while the bulls have stubbornly defended support near $66. Clearly we're going to need to see the broad market move upward in a convincing fashion for BRL to put together a meaningful rally, but its refusal to break down is an encouraging sign. The 20-dma and 200-dma are now converged just below $68, and that should lend support to the stock as we head into the weekend. Clearly trying to buy a breakout is not the way to go in this uncertain market, so we want to continue to target shoot new entries on a rebound from support in the $67 area. With our stop still set at $66, it makes risk much easier to manage. Note that a trade at $66 (or lower) would put the PnF chart back on a Sell signal, and we would clearly want to exit the play if that occurred. ************** NEW CALL PLAYS ************** SYK – Stryker Corporation $57.33 +1.03 (+0.96 this week) Company Summary: Stryker Corporation and its subsidiaries develop, manufacture and market specialty surgical and medical products, including orthopaedic reconstructive implants. the company operates in two reportable segments. Orthopaedic Implants sells orthopaedic reconstructive, trauma and spinal implants, bone cement and the bone growth factor osteogenic protein-1. The Medsurg Equipment segment sells powered surgical instruments, endoscopic systems, medical video imaging equipment, craniomaxillofacial implants, image-guided surgical systems and hospital beds and stretchers. Why We Like It: Successful breakouts in the current volatile market have been few and far between. In fact, breakdowns have been the more common event. So the relative strength demonstrated by today's new call play is all the more impressive in light of the weakness throughout the broad markets. Shares of SYK put in an important bottom near $44 with the rest of the market in late July, but that's where the similarity ends. While the broad market has been giving back its gains and breaking support, SYK has been steadily working higher. After spending the past two weeks solidifying its move above the 200-dma ($55.27), the stock blasted off today, clearing the important $57 resistance level and ending near the high of the day on strong volume. The PnF chart is a sight to behold, as it hasn't even shown a 3-box reversal since the July lows. The current column of X's points to an eventual target of $84! But let's not get ahead of ourselves. The next near-term hurdle for the stock to scale will be the $59 resistance level, and a success there will likely have SYK challenging its spring highs near $62. We'd like to get a dip down to the $56 level to provide for new entries, as a successful bounce would confirm the validity of today's breakout. We could even stomach a dip as low as the $55 level (intraday support on Tuesday), which would give us an even better entry into the play. We're placing our stop at $54.50, as a close below that level would put a serious dent in the bullish enthusiasm that has been driving the stock higher. Momentum traders should be VERY careful here as overhead resistance at $58, and then $59 will likely keep SYK advancing in a gradual manner, rather than an explosive, runaway move. With the uncertain broad market environment, we want to wait and buy the dips when they present themselves. BUY CALL SEP-55 SYK-IK OI=1681 at $3.30 SL=1.75 BUY CALL SEP-60 SYK-IL OI=1123 at $0.55 SL=0.00 BUY CALL OCT-55*SYK-JK OI= 8 at $4.30 SL=2.75 BUY CALL OCT-60 SYK-JL OI= 262 at $1.50 SL=0.75 Average Daily Volume = 727 K ------------------------------------------------------------ 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 ******************* AIG $58.32 -1.93 (-4.18 for the week) AIG has continued its move lower after a failed rebound yesterday over $60. As September 11 approaches next Wednesday, investors appear to be fleeing from the insurance stocks, in spite of rate hikes during the last year. A look at the S&P Insurance Index also shows a rollover and break of support at 260. The group found support there yesterday, but found resistance today after breaking beneath that level. AIG's chart shows some similarities. In addition to the group looking negative ahead of the anniversary, AIG has now broken below its recent support level just over $60 from August 14. A look at today's short-term chart (5 min.) shows that $60 has not only become resistance, as the stock was turned away mid-morning, but that after breaking below $59, that this level also served the same purpose. A look at the point and figure chart shows the trade of $58 extending downward the sell signal that was triggered at $60. The bearish vertical count is now $47. There was previous support on the PnF at $58 earlier this month, but below that level, the next support can be found all the way down at $48, which coincides closely with the vertical count. We will most likely close this trade next week, ahead of the anniversary, but until then, both the stock and the sector look weak. We are lowering our stop loss on the play to $61.00, as this would indicate a break of previous resistance just above Wednesday's high. Our target on the play remains $50. --- IBM $72.18 -1.55 (-4.44 for the week) Big Blue has been a big bust recently, continuing its downward path into its previous consolidation pattern. Wednesday's high of $73.99 makes it appear as though that former rectangle, formed between $66 and $74, is now providing resistance to the upside. The fact that Intel's news after the bell boosted many of the technology related stocks would normally make us think about closing this play. However, IBM barely moved after the announcement. The fact remains that IBM's business is shrinking, along with other large server companies. However, IBM never reached oversold levels with the others. It actually rallied with the Dow and is now coming back to earth, and its comfort zone between $66 and $74. IBM did find previous resistance at $72, while forming the pattern between the end of June and middle of August, and this resistance may now be acting as mild support. However, today's intraday low of $71.50 indicates otherwise. The other factor that had provided support the last couple of days was the 50-dma, currently $72.22. While IBM closed just a few pennies underneath this level today, it nonetheless made it below and may now find the 50-dma acting as a ceiling as we move forward. We will maintain our price target of $70.00, however if this level is broken, $66-$67 looks like a distinct possibility. For now we will lower our stop loss once again to $74.00 to lock in additional profits and protect against a tech rally taking IBM back out of this previous consolidation pattern. --- EXC $44.00 -0.65 (-2.82) Following its sharp slide in the past week, the Utility sector (UTY.X) took a break from the limelight over the past 2 days, consolidating near the $270 level. Therefore, it should come as no surprise that shares of EXC have been trying to consolidate as well. But you'll notice that the bulls haven't been as successful here, as the stock continues to drift lower, coming to rest right at the $44 level on Thursday. We're either setting up for a rebound or a breakdown, and it will likely depend on the action in the UTY index, as well as the rest of the broad market. Given the stock's technical weakness, we're voting for a breakdown, although we might be lucky enough to get one more failed rally before that breakdown takes place. Look to initiate new positions on a rollover below the $46 level (near the bottom of Tuesday's gap) or else on a volume-backed decline under Thursday's low of $43.90. This week's drop has put the PnF chart back on a Sell signal, with a tentative price target of $35. Watch out for a possible bounce from the $41 level, as that is the site of the bullish support line and would make for a good target for harvesting some gains. If entering on a breakdown, make sure to confirm broad market weakness before playing. Lower stops to $46.25, just above the bottom of Tuesday's gap. --- UTX $56.89 -1.11 (-2.50) The attempted rally in the Dow Transports ($TRAN) was severely reversed on Thursday, with the index losing nearly 5%. Rather than the Airlines taking the brunt of the selling today, it was the Rail stocks' turn for abuse by the bears. The broad market selling pressure kept UTX under water throughout the day, but it wasn't enough to generate a breakdown. Instead, the stock traced inside day, giving us a couple of actionable points to watch. A failed rally below intraday resistance ($58) still looks good for new entries in anticipation of a breakdown under recent support. While we aren't really excited about initiating new positions on a breakdown, we'll want to be watching the low from Wednesday ($55.65). A break below that level will help to confirm the stock's weakness and intention to keep working towards the bearish PnF price target of $48. Keep in mind that UTX will likely need to see broad market weakness to continue falling, so we want to confirm broad market weakness before initiating new positions. Keep stops set at $59. ************* NEW PUT PLAYS ************* AA - Alcoa - $22.15 -0.99 (-2.53 for he week) Company Summary: Alcoa is the world's leading producer of primary aluminum, fabricated aluminum and alumina, and is active in all major aspects of the industry. Alcoa serves the aerospace, automotive, packaging, building and construction, commercial transportation and industrial markets, bringing design, engineering, production and other capabilities of Alcoa's businesses to customers. In addition to aluminum products and components, Alcoa also markets consumer brands including Reynolds Wrap« foils and plastic wraps, Alcoa« wheels, and Baco« household wraps. Among its other businesses are vinyl siding, closures, precision castings, and electrical distribution systems for cars and trucks. The company has 129,000 employees in 38 countries Why We Like It: Alcoa's business is suffering along with the rest of the economy. With their products used in so many different areas of production, this past week's manufacturing numbers were especially disappointing. With U.S. manufacturing barely growing in August, after a significant setback the previous month, it appears the economy is growing at an even slower pace than expected. New orders, an important factor in future growth, dropped for the first time since last November. The aluminum industry, in particular, is seeing gloomy times, as a number of factors are weighing on supply/demand ratios. On July 31, Alcoa announced it was permanently closing capacity at two of its U.S. smelters, and reducing capacity at a third. According to analyst Brook Hunt, "the outlook for aluminium remains enveloped in uncertainty as faltering demand, gloomy sentiment over the health of the major economies and bulging warehouse stocks cast a shadow of doubt over a possible price recovery." In addition to U.S. demand waning, China has stepped up aluminum production over the last two years, and is now causing concerns about oversupply. The country has gone from a net importer to a net exporter of the material. As of the end of August, the three-months aluminum contract had fallen to around $1320/tonne, down from $1,550 a year earlier. A look at AA's chart shows the company has been hit hard and is a step ahead of the Dow in taking our recent lows. While the Dow has broken below its August 14 low, prior to the latest rally, AA has taken out both the August 14 and August 5 lows. In fact, the stock is now trading at levels not seen since April of 1999. A look at the point and figure chart shows a new sell signal at $23. It has been so long since the stock established a higher high on the PnF that the stock long ago exceeded the bearish vertical count set last January. Our initial target on the play will be $17, the approximate level of support the stock found the last time it traded below this level. Place stops at $24.50, Monday's high. BUY PUT OCT-22.50 *AA-VX OI= 734 at $1.75 SL=0.75 BUY PUT OCT-25 AA-VE OI=2232 at $3.40 SL=1.70 Average Daily Volume = 4.26 MIL --- WY – Weyerhaeuser Company $50.10 -2.25 (-4.41 this week) Company Summary: Weyerhaeuser is principally engaged in the growing and harvesting of timber and the manufacture, distribution and sale of forest products, real estate development and construction. The company's business segments are timberlands; wood products; pulp, paper and packaging, and real estate and related assets. WY is engaged in the management of 5.9 million acres of company-owned and 0.5 million acres of leased commercial forestland in North America. The company's wood products businesses produce and sell softwood lumber, plywood and veneer, oriented strand board, composite and other panels, hardwood lumber and treated products. The firm's pulp, paper and packaging businesses include pulp, paper, containerboard packaging, paperboard and recycling. Why We Like It: Investors that believe the strong housing market is coming to an end, need only look at the declining prices for lumber for confirmation of their view. Apparently Morgan Stanley sees the same trend, as they came out and cut estimates for all the paper companies this morning. The rationale for the bearish comments are based on the deteriorating lumber market, but the firm believes downside risk is limited as the stock's have already discounted much of the risk associated with a double dip in the economy. Judging by the price action in shares of our new put play, WY, investors don't seem to agree on the limited downside aspect of the call. WY plunged more than 4% on Thursday, and closed just above the $50 level. This is a pivotal point for the stock, as it represents its lowest level since early November of last year. More importantly, WY recently posted a triple bottom breakdown on its PnF chart and a print of $50 (7-cents below today's low) will generate another double-bottom breakdown. With today's breakdown, it looks like WY is headed back towards its $46 support level and possibly a retest of the September lows near $43 as investors proceed to fully discount a double-dip in the economy. The breakdown under $52 gives us added confidence in playing the downside, despite the nearly-oversold daily Stochastics. Broken support should now act as resistance, so a failed rally near the $52 level will make for an attractive entry point. Should the broad market stage a meaningful rally, we could even see a jump as high as $53 before the rollover commences. That would make for an even better entry, as it is even closer to major resistance at $53.50. Alternatively, a breakdown under $50 will likely generate more selling, so momentum traders can consider new positions on a breakdown under that level. Initial stops are set at $53.50. BUY PUT SEP-50 WY-UJ OI=606 at $2.55 SL=1.25 BUY PUT OCT-50*WY-VJ OI=981 at $3.50 SL=1.75 Average Daily Volume = 1.13 mln ------------------------------------------------------------ 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 09-05-2002 Copyright 2002, All rights reserved. 3 of 3 Redistribution in any form strictly prohibited. In Section Three: Play of the Day: Put - WY Traders Corner: The Seven Deadly Sins – Plus One Traders Corner: It’s all in your head Options 101: Looking For an Event to Trade ********************* PLAY OF THE DAY - PUT ********************* WY – Weyerhaeuser Company $50.10 -2.25 (-4.41 this week) Company Summary: Weyerhaeuser is principally engaged in the growing and harvesting of timber and the manufacture, distribution and sale of forest products, real estate development and construction. The company's business segments are timberlands; wood products; pulp, paper and packaging, and real estate and related assets. WY is engaged in the management of 5.9 million acres of company-owned and 0.5 million acres of leased commercial forestland in North America. The company's wood products businesses produce and sell softwood lumber, plywood and veneer, oriented strand board, composite and other panels, hardwood lumber and treated products. The firm's pulp, paper and packaging businesses include pulp, paper, containerboard packaging, paperboard and recycling. Why We Like It: Investors that believe the strong housing market is coming to an end, need only look at the declining prices for lumber for confirmation of their view. Apparently Morgan Stanley sees the same trend, as they came out and cut estimates for all the paper companies this morning. The rationale for the bearish comments are based on the deteriorating lumber market, but the firm believes downside risk is limited as the stock's have already discounted much of the risk associated with a double dip in the economy. Judging by the price action in shares of our new put play, WY, investors don't seem to agree on the limited downside aspect of the call. WY plunged more than 4% on Thursday, and closed just above the $50 level. This is a pivotal point for the stock, as it represents its lowest level since early November of last year. More importantly, WY recently posted a triple bottom breakdown on its PnF chart and a print of $50 (7-cents below today's low) will generate another double-bottom breakdown. With today's breakdown, it looks like WY is headed back towards its $46 support level and possibly a retest of the September lows near $43 as investors proceed to fully discount a double-dip in the economy. The breakdown under $52 gives us added confidence in playing the downside, despite the nearly-oversold daily Stochastics. Broken support should now act as resistance, so a failed rally near the $52 level will make for an attractive entry point. Should the broad market stage a meaningful rally, we could even see a jump as high as $53 before the rollover commences. That would make for an even better entry, as it is even closer to major resistance at $53.50. Alternatively, a breakdown under $50 will likely generate more selling, so momentum traders can consider new positions on a breakdown under that level. Initial stops are set at $53.50. BUY PUT SEP-50 WY-UJ OI=606 at $2.55 SL=1.25 BUY PUT OCT-50*WY-VJ OI=981 at $3.50 SL=1.75 Average Daily Volume = 1.13 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 ************** The Seven Deadly Sins – Plus One By Mike Parnos, Investing With Attitude At the Couch Potato Trading Institute, it’s not our job to preach morality. Actually, we’ve been known to cut a few corners, step on a few toes, and run a few stop signs on our journey from the couch to the refrigerator and back. There are seven deadly sins: Pride, Envy, Greed, Wrath, Lust, Gluttony, and Sloth. Although they sound like the names of the members of a rock band, believe me they are sins. At least they’re the ones that get all the headlines. Remember the movie “Seven?” Well, it should have been titled “Eight” because they overlooked the most diabolical sin of them all. We, in the trading community, know there is an eighth deadly sin. It’s worse than shredding documents, insider trading, getting caught with your secretary or taking the fifth. What sin is so ghastly, so grievous, so despicable, and so contemptible that it is never whispered in the hallowed halls of Wall Street? It’s the sin of buying RETAIL. Would you shop at Lord & Taylor without the weekly “20% OFF” coupon? Would you walk into a car dealership and pay sticker price for a new car? If you answered “yes” to either of these questions, you either have way too much money for your own good, or you need to be watered twice a day. The object of trading is to make a profit. You should look at your trading life as a business. As in any business, if you pay too much for your inventory, you make less money. It’s that simple. What are your costs of doing business? A few bucks for your computer, software (and, of course, your OI subscription), your commissions and your stock purchase. At the CPTI, we don’t necessarily advocate buying stocks, but we also recognize that, despite the risk, some people are going to jump into the pool without checking the water level – then cry for help later. We’re going to show you a way to perhaps satisfy your urges (if only life were that easy) – to make money and buy stock – and we’re going to do it at a discount! So where do we start? You've selected a stock. It came to you in a vision. Then you did your homework. You checked the PE ratio, the debt ratio, sales to earnings, the book to sales, the book to earnings, the debt to earnings, the sales to debt, and on and on. You even looked at a chart -- one with all those pretty indicators. You put on a few moving average lines until the chart looked like a reheated bowl of Franco American Spaghetti. After your thorough investigation, there’s a full moon and you're still bullish on the stock. For this example we'll use IBM. At this writing, it's trading at $75.37. You have $75,000 burning a hole in your pocket and you want to pick up the phone to call your broker and buy 1,000 shares. You feel confident that in the months to come, IBM will slowly move up in price to $85. IBM may or may not go up. Nothing is guaranteed. Here’s how you get your discount. This is almost as good as ValPak and you don’t need a coupon. You sell a January 2003 $75 strike price put and take in $6.70/share or $6,700. That money hits your account the next business day. Since you already have the cash in your account to cover the purchase of the stock at $75, this would be considered a cash-secured put. You wouldn’t be able to use the $75,000 until the position is closed, but it will still be sitting there earning interest for you. If you are correct in your analysis, and IBM ends up above $75 at January expiration, your $75 put will expire worthless and you’ve made $6,700. Now you can do it again, if you still feel the same about IBM. In essence, you’ve guaranteed yourself a profit of $6,700 if you’re right and have a $6,700 cushion if you’re wrong. What happens if . . . 1. IBM moves up to $82 in the next two months. If you owned the stock, would you sell? Or would you hold on for dear life waiting for the last three points you were hoping for? In all likelihood, you would you ride it all the way back down to $75, perhaps lower. Shame on you. But that’s a subject for whole other column. If you had sold the $75 put, the rise in the stock price would cause the value of the short $75 put to go from $6.70 to maybe $2.50. You could buy back the put, lock in $4.20 ($6.70 - $2.50) and relieve yourself of the obligation to buy IBM at $75. Then, if you are still bullish, you could sell the $85 and start the process all over again. You’re participating in the upward move, which is what you wanted to do. Why risk the entire $75,000 if you don’t have to. Don’t bet the farm when a few cows will do. 2. IBM moves down to $65 in the next two months. If you owned the stock, hopefully you would have had a stop just below a support level and cut your loss long before IBM reached $65. That’ll be the day. If you had sold the $75 put, you could bide your time and not cut your loss so quickly because you have a cushion of $6.70. Should you ultimately be put the stock, your cost basis is $68.30. If you’re put the stock, it’s at a nice discount from the $75.37 you were going to shell out. If you are stubborn, you could buy back the $75 put on expiration and roll it out another four or five months and pick up a little more premium while you wait for IBM to come back. You can do this indefinitely as long as IBM doesn’t sink so far in the money that the time value disappears. Then you are in danger of having the stock put to you prematurely. If you chose to ignored all the warnings and continue to live dangerously, you could then start a covered call writing program on the stock or use one of the repair strategies while hoping IBM recovers. Selling puts in order to get a discount on the ultimate purchase price of a stock is a common practice by corporations. When you hear that a company has authorized a stock buyback, they don’t just rush out onto the open market and buy shares. Notice that there usually isn’t a time limit on the buyback. They take their sweet time and keep selling puts until their stock dips and it’s put to them. Dell Computer’s balance sheet tells us that, during some quarters, they actually earned more money selling puts than selling computers. Microsoft has also been known to profitably use this same strategy. Now that you know how to buy stocks at a discount, you shall be sinners no more. Repeat after me: “RETAIL” is a four-letter word. Warning: Couch Potato Trading Institute students who are caught buying stocks unhedged, outside of their IRA, will be expelled, taken out and shot, beaten to within an inch of their wife – or worse – lose their refrigertor privileges. Happy trading! The CPTI credo: May your remote batteries and self-discipline last forever, but mierde happens. Be prepared! In trading, as in life, it’s not the cards we’re dealt. It’s how we play them. Your questions and comments are always welcome. mparnos@OptionInvestor.com _________________________________________________________________ Iron Condor Update: On Tuesday, we shorted 1,000 shares of BBH at $80.00 to protect the Oct. $80/$75 bull put spread we have on as the lower half of our hypothetical Iron Condor trade. We will buy back the 1,000 shares to cover our short if BBH moves back above $80. We may have to do this a few times until BBH picks a direction. We’ll continue to keep a close eye on the position. Another alternative would have been to buy back the Oct. $80 puts for $4.90 and sell the Oct. $75 puts for $2.90 – a debit of $2.00. Then we roll the position out to January for a credit of $2.40. You pick up an additional $.40 in premium, but January is three months further out. When putting on Iron Condors, you’re not looking for long time exposure. It’s like a going to the supermarket. You want to see if the first quart of milk is sour before you commit to the cow. I’m trying real hard to be politically correct in making this analogy, but you get my drift. ************** TRADERS CORNER ************** It’s all in your head By John Seckinger jseckinger@OptionInvestor.com Trading without guilt, anger, shame, or self-punishment. How can this be accomplished? By examining your trading behavior and learning to develop the proper mental discipline. Confusion, frustration, anxiety, and the pain of failure were similar themes back when I first started trading. I wanted so bad to always have a position on, but soon after executing a trade powerful emotions quickly took over and made me immediately re-think the potential for profits. I was glad that I began trading with money I could afford to lose; however, the trading capital was more limited than I would have liked. The limited capital did make me trade less, since commissions did become significant after a while (yield curve trades usually ran $200 in commissions a round turn). I bring this up because the “powerful emotions” would be overwhelming if I had traded with capital that I could not afford to lose. Putting on a trade and then feeling helpless was not what I had expected. Heart rate would race, a cold sweat would take form, and a constant self-punishment took over. The market would begin to trade in the opposite direction and I would tell myself how na´ve I was to have missed such obvious trade signals and put on such a “dumb” trade. Then the month would end, hundreds of hours were considered “wasted”, and another cold sweat would take form as the idea of becoming a professional trader would quickly fade. I then began to serious consider using money from credit cards. Fortunately, it never came to that. Those thought occurred almost nine years ago. What changed the most was my self-confidence and self-trust, greatly increasing and allowing me to feel more in control of my trading. I take my time, relax, define support and resistance levels before I put on a trade, and most importantly adhere to patience. I do not chase the market, do not get too excited about a winning trade in progress, and sell a loss once under support without hesitation. I also have never added to a losing trade, ever. People ask me all the time, “So, where is the market going in the next few months?” I usually just smile and explain I trade on a much more micro level. Getting locked into a specific opinion about market direction can be too costly, and I take trading one day or one hour at a time. Therefore, if I sense a change of market direction I am not “emotionally tied down” and can reverse my position without guilt. Another important thing I learned as a trader was learning to accept whatever the market offers. Exiting a trade simply because the market is “unable to move” anymore. Example: I buy QQQ calls and everything looks bullish from the recent economic reports to intensive technical analysis. What happens? The QQQ’s go up 0.15 and sits there. Hours pass and nothing. It then becomes my opinion that the 0.15 rise is all the market is offering. Sure, I could put a stop in and wait, but something is usually wrong since it is evident that my analysis was flawed. Therefore, time to exit and look at things from a “third party” (myself without have a trade on). Fortunately, I do not mind spending endless hours looking at charts without thinking I should be paid for such research. Moreover, I have conditioned myself that if I lose money trading I do not think I am an “unintelligent or a bad business person.” I lose money, smile, take a deep breath, and then tell myself that the market will not scare me and force me to become paralyzed and fearful of trading again. A trader’s results will usually reflect his true feelings, since the market has no vested interest in supporting anyone’s illusions about himself. We all know that the market is never wrong, but it is interesting that traders will usually find information to reinforce their position regardless of price movement. Please try your hardest to avoid such pitfalls. Price action is the only thing that matters. Another difficult thing to master is not beating yourself up for selling a position too early and then missing the entire move. Nobody can predict every exact high and every exact low; therefore, be glad the trade was profitable and use it as a learning experience for better execution during the next trade. Also, honestly ask yourself what the odds could have been for capturing the entire move. Most likely, the “last vertical move” was more short covering than expected or panic long liquidation. Those explosive moves are very hard to captured, do not worry. Create rules, and then stick with them. When I first started trading, I wrote down a list of 10 trading commandments. Never add to a loser, define exit plan before entering a trade, cut losses quickly, relax and be professional, release yourself from negative emotional energy stored in memories of past trading experiences, be patient, etc. This list was placed in my trading jacket while at the CBOT and routinely taken out before, during, and after the trading session. There was one rule I didn’t add until much later: Trade size should correlate to market conviction. Usually I would trade 5 or 10 contracts in the bond pit, regardless of volatility or conviction. I have learned that is not a very efficient trading strategy. Currently, if I believe the odds for the market to move in my direction is 60% I put on 5 contracts. If “all moons” line up and I feel that there is a 90% chance the market will move in my favor, I put on 10 contracts. Moreover, if I put on 5 contracts and the market moves in my, I add an extra 5 contracts. When exiting, I almost always sell the entire position at once. *********** OPTIONS 101 *********** Looking For an Event to Trade Buzz Lynn buzz@OptionInvestor.com Contrary to popular belief, even disciplined traders sometimes need shackles to keep from entering trades. For those that hadn't noticed, or more impressively, had kept their fingers off the mouse button and not traded the whipsaws offered this week, the action has been enough to drive hyperactive trader crazy. When you want to trade, you want to trade, and by golly, you're going to find something if it kills you! Hence the need for shackles. Reminds of the two buzzards in the tree snag with one saying to the other, "Patience my [behind], I want to kill something." I can relate. So can a few others around here. In fact, resident Rocket Scientist and LEAPS editor, Mark Phillips and I were having this conversation earlier today. He called me and said, "OK, keep me from doing something stupid" to which I replied, "OK, the answer is 'no'". After yuckin' it up for a few more minutes, we got down to business. Here was the proposition. On the hunt to manufacture a trade - and there are many of them out there daily for those looking to make something happen, but it's like swing at a less-than-perfect pitch - Mark noted that Intel (INTC) loomed large on the event horizon. The proposed trade was to buy calls on the semiconductor sector for a bounce. A bounce? Yes, a bounce. Before I go on, understand that there is no "right answer". In the world of manufactured trades, we're not looking for home runs. Only singles that can generate a bit of income for the risk we take in entering the trade. They aren't conjured up to be killer plays, but merely tradable for some daily bread! Just enough to keep the machine running while we wait for a profitable setup to come around. So anyway, back to the news. Everybody and their brother knew that INTC was going to give their mid-quarter update, as they do every quarter. I might add that for those who have followed INTC for a number of years, their guidance isn't worth the price of the paper it's printed on. It has a nasty habit - at least since I started paying attention in 1998 - of saying something like, "Business isn't going as well as we hoped, but we'll do better next quarter." I don't think they've hit an honest earnings target in four years. So why they continue to be trusted by Wall Street is beyond me. Be that as it may, analysts and pundits were slobbering all over themselves half in fear that the numbers reported today in mid-quarter would sorely disappoint, and half in hopes that things wouldn't really be as bad as feared once corporate brass started squawking their usual lines. The thinking as that for a short term play, all the bad news was priced into the stock. Precisely because most believed the news would be dreadful, the contrarian would be on the correct side of play if he/she bought calls just before the close. Here's the nugget: Usually the hyped expectation of news in either direction results in a snap back move in the direction opposite of herd expectations. It was on this logic that this potential bullish play was conceptualized. So we think we want to put on this bullish trade and buy calls at the close with the expectation of bad news and a warning already priced in. But take the chance on Intel only? Let's look at the SOX chart. Semiconductor Index chart - SOX (weekly/daily/60): Very interesting. Apparently, SOX traders were bracing for the worst and had sold off the index to new lows with red candles in nine of the last ten trading days. If we are going to trade this bullishly, the daily 60-min stochastics in both the 5 and 10 period timeframes are both buried and suggest that if we are going to trade with the bulls, this might not be a bad to do it. Yes, the weekly chart shows a bearish stochastic cross. So I certainly wouldn't trust this opportunity as a long-term trade. However, as a scalper and a speculator, it might make sense to pick up some calls with a small amount of speculative money only. If we are wrong, we don't want to jeopardize the whole trading account. However, this was quite possibly a reasonable use of speculative capital in an effort to fade the crowd. What's that mean? Think of natives in jungle who all turn simultaneously - reflexively - toward the noise they just heard in the trees. All the natives are keenly focused in one direction, spears up, hearts pumping, ready to kill the beast they have yet to see. That's the focus of the tribe's attention. Essentially, that danger is now recognized and acknowledged. While the danger (though not completely known) is now understood to represent a threat, the tribe is poised to handle it. Meanwhile, that hungry tiger at the tribes back is lurking in the bushes licking his chops for the kill. The tribe isn't paying attention to a noise it doesn't hear. The lion that the tribe turns its back on is the real danger. The only guy who knows the presence of the until-now- unseen lion is the smart native who recognized the real danger of what no one else currently saw because they had their backs turned. That smart native must be willing to turn his back on the tribe and capitalize on the opportunity to live at the expense of the myopic tribesmen still focused on the beastly noise heard earlier. The moral here is not to be one of the tribe, but to be the smart native who lets others handle the threat from the noise while he looks for what others don't see, and capitalizes on it. That's what we had in mind as the Wall Street minions faced the danger of an Intel warning. What they didn't see is that the news might not be as dire as most believed. The charts certainly told a story of selling into the anticipated bad news. With stochastic indicators crushed into oversold, buying calls for a bounce made sense. We wouldn't get rich, but we'd make enough money to pay the monthly Q-Charts bill! Anyway, rather than take our chances on just INTC, Mark figured it would have an impact on the whole chip sector. I agree. But SOX is expensive thanks to volatility. So the broad index could be traded using the Semiconductor Holder (SMH), but it doesn't trade after hours. No matter, we can buy it, hold it overnight and sell into the frenzy tomorrow morning as money trickles (maybe pours) temporarily into semi stocks again. That's the plan. Now to wait for INTC news! Sure enough, we weren't disappointed. After the bell, INTC noted that microprocessor sales were trending toward the lower end of seasonal patterns. Other communications products, excepting flash business, remain soft (Business isn't going as well as we hoped.). Furthermore, it guided quarterly estimates down from $6.3-$6.9 bln range to the $6.3-$6.7 range (We WON'T do better next quarter, as originally planned.) The good news is that it wasn't as negative as the "experts" thought. Ahhhh, breath a sigh of relief! Things will get worse. Just not as bad as we thought. Let's buy it! Based on after hours trading, INTC as proxy for the industry was trading up $0.70 from the close. Tomorrow should show us a nice pop in INTC, the SOX and SMH, barring the unexpected nocturnal happenings overseas. There's only one bit of bad news in this whole tale. The first is that I didn't see enough upside to justify the seemingly low capital risk. I stayed out - not much of a gambler these days. Still, Mark thought it would be worth a minor wager and entered the order. Unfortunately, he wasn't filled. So both of us walk away with no money, but we didn't lose any either. Nonetheless, it's good education and a real life experience that reminds us there is potentially money to be made playing high profile news events. That's it for this week. Make a great weekend for yourselves! 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