The Option Investor Newsletter Thursday 09-30-2004 Copyright 2004, All rights reserved. 1 of 3 Redistribution in any form strictly prohibited. In Section One: Wrap: Great Debate Futures Wrap: See Note Index Wrap: No amount of paint could cover up Merck's declines Market Sentiment: Three Things Posted online for subscribers at http://www.OptionInvestor.com ************************************************************ MARKET WRAP (view in courier font for table alignment) ************************************************************ 09-30-2004 High Low Volume Adv/Dcl DJIA 10080.27 - 56.00 10142.94 10038.90 2.16 bln 1917/1289 NASDAQ 1896.84 + 2.90 1902.25 1887.68 1.67 bln 1766/1347 S&P 100 534.86 - 1.70 537.20 533.10 Totals 3683/2636 S&P 500 1114.58 - 0.22 1116.31 1109.61 W5000 10895.48 + 9.59 10913.66 10845.90 SOX 384.20 + 3.60 389.69 380.62 RUS 2000 572.94 + 1.87 574.71 569.33 DJ TRANS 3243.51 + 3.90 3249.20 3220.73 VIX 13.34 + 0.13 13.67 13.20 VXO (VIX-O)13.44 + 0.63 13.68 13.10 VXN 20.48 - 0.19 20.91 20.21 Total Volume 4,129M Total UpVol 2,472M Total DnVol 1,579M Total Adv 4195 Total Dcl 2973 52wk Highs 314 52wk Lows 96 TRIN 0.92 NAZTRIN 0.86 PUT/CALL 0.86 ************************************************************ Great Debate by Jim Brown No, not the one between Bush and Kerry tonight but the debate over market direction over the next two weeks. The markets struggled to move higher over the last few days and were it not for the end of quarter window dressing the Dow would be under 10K instead of over tonight. Dow Chart Nasdaq Chart SPX Chart What a busy day! This could turn into a novel tonight but I will try to keep it flowing. Starting with the flood of economic reports we continue to see a mixed picture for the future. The Jobless Claims soared to 369,000 and the highest level since the 375K last Dec 6th. This was mostly due to the rash of hurricanes and I mentioned this might happen last week. The states with the most claims were Florida, North Carolina and California. California always ranks near the top due to population. Florida had 8,400 claims specifically related to the hurricanes but probably many more were indirectly related. This should not be a market problem because traders are always looking for an excuse to ignore bad numbers. Personal Income rose +0.4% and inline with estimates despite an impact from - hurricanes. Yes, the hurricane excuse is alive and well and will probably turn up in every economic report for the next couple quarters and in the earnings reports for companies. You can't take out electricity, retail, transportation and communication in five states impacting millions of consumers without a serious economic ripple. Fortunately that ripple will turn into a wave in Q1 as rebuilding and refurnishing efforts in Q4 are felt through the various supply chains. Auto sales to replace all the flooded vehicles, building materials, furniture, appliances, clothes, bedding etc, anything not taken to high ground has to be replaced. Elsewhere the NY-NAPM showed continued growth in the New York economy although growth was slower than in prior months. The region has been in a strong uptrend since August-2003 and the last index low at 221.7. The September headline number was 310.4 and illustrates how strong the recovery has been. The last two months have seen slowing but definitely nothing to worry about. The PMI jumped to 61.3 from 57.3 in August and was much stronger than expectations at 58.5. It was also a large gain over the 57.3 number for August. This should mean a strong jump in the ISM on Friday which is currently expected to be 59.0. Most impressive was the jump in new orders to 68.7 from 58.0 however inventories also rose over the last two months by the fastest pace in nearly two decades to 64.2 from 55.3. This suggests that producers may have gotten ahead of themselves in anticipating the recovery and sales slowed over the last couple months. Fortunately the jump in new orders this month should give them an opportunity to balance the inventory flow. The Help Wanted Index came in unchanged for August at 37 and suggests there is not a serious employment boom in progress. Internet job sites have reported an increase in openings but they are also not seeing any large jump in jobs. Because tomorrow is the first day of the month we have to wait until next Friday for the Jobs report and the current estimate is only 165,000 and right in the middle of the recent ranges. The only comments I have heard have been negative and expecting lower than the official estimates. After the ISM on Friday we should start to hear more chatter about jobs. Up, down, up, down, more gyrations than a windsock in a thunderstorm. Of course I am talking about oil which hit $50 on Tuesday and then declined to $48.50 on a build in inventories and the cease fire in Nigeria. Well you guessed it oil traded over $50 several times on Thursday and closed back up at $49.65. No specific challenges were noted but prices are creeping back up once again. T. Boone Pickens headlined the dozens of oil analysts hitting the airwaves and his quote of $60 before $40 is the sound bite of choice. The more analysts talk the more the real facts are coming out. Multiple experts claim Saudi Arabia can only produce 9.3-9.5Mbpd and their claim of 11mbpd is strictly smoke. Pickens related the Hubbert's Peak scenario and gave it much credence. He said the two million barrel Alaskan pipeline was down to only 700,000 per day and that is the same challenge felt around the world. Existing wells saw decreasing production and not enough new wells coming on to cover demands 2-5 years from now. I will get off the soap box but I am putting together a top ten energy stocks for long term investors for November release so stay tuned. The biggest challenge for the economy is not the flurry of hurricanes but the chance that oil will remain high. A very good chance. The various economists are starting to be heard about the prospects for the future and it is not pretty. Retailers are seeing a slowing in buyer activity not specifically in quantity but in cost. Talbots warned today that sales would be off due to the hurricane. Surprise, there is that excuse again! If you read the fine print they also say consumers are becoming more budget conscious. They specifically said their September sale had not performed well and had not driven the historical increase in regular priced merchandise sales. That means consumers came in to buy the sale merchandise and did not buy the profitable items that were not on sale. Talbots said same store sales could now be in negative numbers instead of their prior forecast for positive growth. This warning follows warnings by other retailers including the Federated chain of department stores. With heating oil more than doubled over last year and still rising the amount of money available for spending by those in the northern climate zones is going to be significantly less. You can't talk about today's market without talking about Merck. The sudden withdrawal of Vioxx from the market cut a $2.5 billion hole in Merck profits and shocked the drug sector. Merck took a -$25 billion cut to its market cap and dropped -$12.07, -26.8% to an eight year low. MRK volume at 145 million shares was nearly a tenth of the volume of the NYSE and we are talking a $33 stock. This was nearly 30 times normal volume. Funds bailed on fears there would be legal problems due to suits similar to the Fen-Phen recall several years ago. Other drug companies have had similar problems in the past but the magnitude of the potential problem is extremely large. Wyeth has spent nearly $17 billion on the Fen-Phen recall and only six million people took the drugs. For Vioxx over 84 million people have taken the drug and the potential for billions in claims is very strong. Any person who had a cardiac event and took Vioxx will be jumping on the litigation bandwagon even if they ate two big Macs every day for the last ten years, smoked and drank a quart of whiskey per day. Their lifestyle will have nothing to do with the event, it had to be Vioxx that caused their heart problem. Several analysts even questioned if Merck would be able to survive the storm. They have taken multiple potential products out of the pipeline over the last couple years and they are widely seen to be lacking any wonder drug to rescue them from this money pit. Despite the nearly -90 point hit the Dow took from the MRK drop it rallied back to close down only -56 points. Support held at 10050 and the Dow is poised to rally off a positive ISM tomorrow. However, there are several roadblocks to that possibility. Before the MRK drop window dressing had added +175 points since the Dow's low of 9977 on Tuesday. Today that window dressing effort was far less of a factor with only a small afternoon rebound. The Nasdaq was able to rebound back over 1900 twice on Thursday but could not hold on either attempt. This is strong resistance that even a positive SOX could not break. The SOX turned in a very strong effort just closing in positive territory after Micron missed earnings and multiple chip stocks have warned this week. This was a definite symptom of window dressing in my opinion. Funds had to put cash into stocks to show they were intelligently investing your money. This window dressing fought an uphill battle today. Volume was very strong on the NYSE and it was not just related to the MRK disaster. This was the first time the NYSE has traded over two billion shares (2.212B) since July-21st. I believe that window dressing met distribution today and they battled to a tie. Up volume on the NYSE was slightly higher than declining volume at 3:2 but there was no conviction among the stocks that saw any gains. The market felt heavy all day and the closing spurt could not correct it. The market is facing several challenges. First is the Bush-Kerry debate tonight. The market has priced in a Bush victory and the debate will be watched for signs of a change in that status. If Kerry pulls a rabbit out of his hat and scores major points or if Bush gets foot in mouth disease then the fragile lead could dissolve in an instant. The market would be quick to remove any Bush premium and that could be painful. Gail Dudak said she felt the a Kerry win would subtract -1000 points from the Dow. That number may be high but you get the point. Conversely should Bush win the debate in a convincing manner then the market "could" celebrate some more. Secondly the end of quarter window dressing is over. As much as the bulls would like to see it continue for another week the quarter is behind us and October looms large. Earnings warnings are the story and it is rare that a company gives positive guidance. In short we are entering a typical October with conditions about as bad as possible. Oil at $50, hurricanes, election fears, terrorist fears, earnings less than half the prior quarter and projected to be only +7% for all of 2005. While I think this will resolve itself quickly there is strong risk for the bulls. Historically we should see a ramp into the election as long as there is a clear leader. October is also year end for many mutual funds and portfolios are reshuffled faster than a blackjack deck in Vegas and that normally leads to substantial volatility. Remember the VXO hit a new eight year low on Wednesday so the volatility bomb is ticking. For Friday we have the next major economic hurdle the ISM Index. A positive report there could go a long way towards warding off the October bears. Vehicle data for September is also due but nobody expects cars to be rolling off showroom floors in any large numbers. The quarter that ended today was dismal for the markets with the Dow losing -3.0%, S&P -2.4%, Nasdaq -7.5% and the chip sector -25%. This swoon has put us right back where we started the year near 1112 on the S&P. Nine months of trading to end flat just before the election. In fact this has been called the tightest trading range since 1994. It was the worst quarter for the Dow since Q1-2003 and the worst for the Nasdaq since 2002. It has been called the most confusing election year market in the last 100 years. That may be a little before my time but if you are like me you have probably found the last several months very hard to trade. Fellow traders this is about to come to an end. October is normally very volatile but it is known as the bear killer month because the dips are normally bought and bull markets emerge. I don't know about you but I am counting on it. Enter Passively, Exit Aggressively. Jim Brown Editor ************ FUTURES WRAP ************ Futures wrap is not emailed due to the excessive number of charts. It may be read on the website at this address. http://www.OptionInvestor.com/indexes/futureswrap.asp ************************Advertisement************************* No time to follow the Market Monitor? Tired of missing good Trades because you stepped away from your computer? OneStopOption Group can follow the Market Monitor for you. You choose the number of contracts, we take care of the rest!! Trade Stock Options, Stocks and ALL Futures with the same Group. Call us 888 281-9569 to see if you qualify to have us rebate your subscription cost. http://www.OneStopOption.com ************************************************************** ******************** INDEX TRADER SUMMARY ******************** No amount of paint could cover up Merck's declines The major indices finished mixed as the third-quarter comes to a close. If drug giant Merck (NYSE:MRK) $33.00 -26.78% wasn't a component of an index or sector, bulls found gains. But no amount of last minute window dressing could offset the sharp declines brought on by Merck after the company said it was pulling one of its largest revenue and earnings producing drugs from global markets. It was a tough month and quarter for Dow bulls and today's drubbing that Merck took was an extra layer of bad icing applied to the third quarter. The Dow Industrials finished down 94 points, or 0.9% for the month of September, and fell 355 points, or 3.4% on the quarter. The S&P 100 Index (OEX.X), of which Merck is/was a top market cap weighted stock finished the month down 3.9 points, or 0.7%, and dropped 19 points, or 3.4% for the quarter. The broader S&P 500 Index (SPX.X) did manage to hold a gain for the month, rising 10 points or 0.9%, but fell 26 points or 2.3% at quarter's close. The tech-heavy NASDAQ-100 (NDX.X) gained 44 points, or 3.2% in the month of September, and helped soften what ended up being a 6.9% decline on the quarter. The SOX.X matched the NDX's monthly percentage gain by rising 13 points, but served as an anchor on the quarter, shedding 101 point, or 20.8%. The benchmark 10-year Treasury Yield ($TNX.X) fell 13 basis points for the month, but bond bulls made out like a bandit as the 10-year yield fell 49.3 basis points on the quarter. The U.S. Dollar Index (dx00y) 87.41 -0.78% fell sharply in today's session, but the decline came well after this morning's economic data was released to give some credence to the thought that traders reacted negatively a NY Times article where James Turk alluded that international central bankers wanted the U.S. to devalue the dollar by 20%. I (Jeff Bailey) would note that "devalue the dollar" rumors have has expressed by others for more than three years as the economy slipped into its early stages of recession. However, traders may have reacted to the news. Perhaps accelerating a dollar sell move was yesterday's plea from George Soros' (a known short of the dollar) for voters to not reelect President Bush. Another thought that comes to me for the dollar's decline today would be dollar weakness ahead of tonight's debate between President Bush and Senator John Kerry. Several weeks ago The Department of Homeland Security had alerted us that it received credible intelligence that terrorists might attack specific targets in the U.S. Market Snapshot / Internals - 09/30/04 Close Volumes were brisk, once again hinting that institutions were busy at quarter's end. While not every share Merck was traded on the floor of the NYSE, where some undoubtedly passed through the NASDAQ's electronic systems, Merck's single-day record of 145 million had the NYSE turning its heavies volume of the month. For the month of September daily volume averaged 1.28 billion shares on the NYSE, while NASDAQ's average daily volume totaled 1.49 billion. Both were up from their respective August average daily volumes of 1.21 billion and 1.40 billion as traders began to return from summer longer summer vacations. U.S. Market Watch - 09/20/04 Close Is the dollar going to be devalued? While dollar trader's may have reacted to this type of news, Treasuries reversed earlier losses, with YIELD across the major maturities higher, but well off their yield highs of the session. In essence, it would be my observation from today, that the Treasury market didn't show a "dollar devaluation" type of response. World banking giant Citigroup (NYSE:C) $44.12 -1.29% has issues in Japan and was the second-biggest percentage loser to MBNA Corp. (NYSE:KRB) $25.20 -1.36% among the KBW Bank Index (BKX.X) 97.58 -0.15% components. JP Morgan (NYSE:JPM) $39.73 +0.12%, also a dominant player in global banking traded between $39.42 and $39.79 in today's session, which doesn't look like an unusual trade. I'll make a trader's logbook note of today's option activity for JPM where the Jan. $32.50 calls (JPM-AZ) traded 2,192 contracts (OI 13,817), the March $40 calls (JPM-CH) traded 2,190 contracts (OI 9,000), the Jan. $30 calls (JPM-AF) traded 2,000 calls (OI 22,060), the Dec. $45 puts (JPM-XI) traded 1,837 contracts (OI 2,554), while the fifth-most-actively traded option for JPM was the Jan. $30 puts at 1,600 contracts (OI 94.462). The thought process behind making some quick notes of a money center bank option action is this. IF a scenario of dollar devaluation were in play, then "smart money" that is CERTAIN of this type of doom and gloom might be initiation bearish positions on the large money center banks by selling calls and buying puts. Time will tell, but now you and I have a benchmark to some unusual dollar action. One thing I noticed in today's trade was that the spread between November and December Crude Oil futures narrowed rather notably from yesterday's 53 cents to 40 cents. Why is this? It could be some end of quarter rolling and balancing taking place, but I think it may also be related to today's stronger than expected Chicago PMI figures, specifically the rise in new orders. We could be seeing some slight mindset change that a steady, if not slightly stronger economy will have demand strong for oil. Over the years, I have made mental note that when the further-out months energy contracts trade a higher price than nearer-month contracts, it can be a sign from the market that the trend for prices is higher, rather than lower. I don't have the time at this point to find some commentary I wrote a couple of years ago, where at the time I noted that natural gas futures had shifted where further out futures contracts were starting to turn higher than the near-month contracts. I thought it could be a market signal that the economy was about to take a turn for the better, as that heavily used industrial energy resource might have been forecasting a demand build after falling during the recession. Today, November Natural Gas futures (ng04x) fell 20 cents to $6.595, while December Natural Gas futures (ng04z) were down 15.5 cents at $7.480. Inventory data released today showed natural gas inventories rising by 69 billion cubic feet (bcf). Pivot Matrix - By the time the clock struck 09:05 AM EDT the U.S. Dollar Index (dx00y) was "opening" the 09:05-03:00 EDT session at 87.69 and it is notable to this pivot matrix follower that the session high from then on was WEEKLY S1. A quarterly readjustment? A pre- determined institutional trade? A short-squeeze in gold, that triggers dollar selling? When Goldman Sachs (NYSE:GS) $93.24 -0.04% and Lehman Brothers (NYSE:LEH) $79.72 -0.58% recently reported quarterly results, both firms mentioned that accurate assessment and trade revenue from bond, currency and commodities had attributed to their upside earnings surprises. Could it be possible that both firms were long the dollar, short gold and gold equities, but have been unwinding that type of hedge, and cleaned it up a bit as the calendar quarter ends? In the 09/22/04 Index Trader Wrap "When Morgan Stanley talks, trader's might want to listen," I noted that Morgan Stanley was on the wrong side of the bond trade, and may have been on the wrong side of a dollar/gold trade too. I can't say that anything other than what I've discussed tonight, would mark any change from what I discussed/covered in last night's Index Trader Wrap. I'll tell you this though. Today's debacle from Merck (NYSE:MRK) may complicate things as it relates to end of quarter window dressing, where the BEST LAID PLANS by institutions were suddenly changed. It would have been "too easy" if Merck (MRK) hadn't gotten crushed to try and line things up for some benchmark closes and quarterly rebalancing. If institutions did indeed turn to Dow heavyweights United Technologies (NYSE:UTX) $93.38 +0.67% and IBM (NYSE:IBM) $85.74 +0.89% and did a little more buying in these two stocks to try and compensate for MRK's decline, we could see a notable decline tomorrow if some overbuying in certain stocks comes off as the quarter is now over. But I will also add that MRK's decline may be further bullish, if there was perhaps a higher INDU or OEX type of quarterly settlement that was NOT achieved due to MRK's weakness, where today's weakness in MRK creates a near-term bullish prospect for other INDU/OEX stocks, that simply couldn't be re-weighted today. The "key levels" as I see it tomorrow would be marked as the DAILY S1's for the NDX/QQQ and SOX. This gets us away from the MRK trade to a degree, unless some overbuying was done among some tech names in the OEX to offset MRK's weakness. Resistance as I see it is SPX 1,117, or its WEEKLY Pivot. If some excessive shorting was implemented to protect against further MRK downfall (who knows what type of litigation exposure MRK has), and MRK get a "dead cat bounce" (you've followed Altria's (MO) trade history being very news driven regarding tobacco litigation), we could see some follow through upside, or relief upside on some type of short covering event. Good gravy! Look at that VIX.X at 13.34 +0.98%. Remember the comments I reported just days ago from the CBOE options traders that was buying "low volatility" above 14? If the other side of the trade suddenly capitulates on that we could still unwind some higher trade. Jeff Bailey **************** MARKET SENTIMENT **************** Three Things - J. Brown Stocks say good-bye to a painful third quarter but in reality the month of September was pretty mild for the historically "worst" month of the year. Right now there are three things on the minds of investors. First is the presidential debate tonight. Currently stocks are poised to march higher if President Bush puts in a good performance tonight. He is currently in the lead across most of the nation's polls and Wall Street likes the incumbent to win no matter what his affiliation. Investors big and small alike will spend the next month focusing on the November 2nd election and who will lead us for the next four years. The second major issue on investors' minds is crude oil. Crude remains near $50 a barrel. In the last week there's even been talk of oil at $60 a barrel. Fortunately most expect crude to slip lower but the $40 level is expected to be the new bottom at least for the foreseeable future. The third issue influencing investor sentiment will be corporate earnings. We've had a ton of warnings in the past month and the third quarter earnings season will begin in days. Wall Street has already discounted a disappointing third quarter and everything will depend on guidance for the fourth quarter. Traditionally the fourth quarter is one of the strongest given the end of year holiday season so expectations may be too high. Tomorrow is a big day for economic activity. The markets will digest the ISM manufacturing index, the Michigan sentiment index, the construction spending numbers, auto and truck sales and the G7 group of finance ministers meet. Not to mention a couple of fed governors will be speaking on banking tomorrow. ----------------------------------------------------------------- Market Averages DJIA ($INDU) 52-week High: 10753 52-week Low : 9230 Current : 10080 Moving Averages: (Simple) 10-dma: 10120 50-dma: 10109 200-dma: 10297 S&P 500 ($SPX) 52-week High: 1163 52-week Low : 990 Current : 1114 Moving Averages: (Simple) 10-dma: 1115 50-dma: 1101 200-dma: 1118 Nasdaq-100 ($NDX) 52-week High: 1559 52-week Low : 1301 Current : 1412 Moving Averages: (Simple) 10-dma: 1409 50-dma: 1380 200-dma: 1440 ----------------------------------------------------------------- CBOE Market Volatility Index (VIX) = 13.34 +0.13 CBOE Mkt Volatility old VIX (VXO) = 13.44 +0.63 Nasdaq Volatility Index (VXN) = 20.48 -0.19 ----------------------------------------------------------------- Put/Call Ratio Call Volume Put Volume Total 0.86 688,608 594,500 Equity Only 0.73 590,577 433,987 OEX 0.95 13,760 13,042 QQQ 0.92 31,831 29,300 ----------------------------------------------------------------- Bullish Percent Data Current Change Status NYSE 63.9 + 0.5 Bear Correction NASDAQ-100 43.0 + 0 Bull Alert Dow Indust. 53.3 - 3 Bear Correction S&P 500 61.2 + 0.4 Bear Correction S&P 100 60.0 + 1 Bear Correction 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-dma: 1.16 10-dma: 1.10 21-dma: 1.03 55-dma: 1.18 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 -NYSE- -NASDAQ- Advancers 1740 1682 Decliners 1065 1322 New Highs 182 97 New Lows 21 29 Up Volume 1305M 968M Down Vol. 856M 656M Total Vol. 2191M 1658M M = millions ----------------------------------------------------------------- Commitments Of Traders Report: 09/21/04 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 The latest COT data shows a big drop in positions for both commercials and small traders but commercials remain slightly net bearish and small traders remain net bullish. Commercials Long Short Net % Of OI 08/31/04 406,637 416,778 (10,141) (1.2%) 09/07/04 415,952 426,342 (10,390) (1.2%) 09/14/04 442,049 469,982 (27,933) (3.0%) 09/21/04 404,746 425,560 (20,814) (2.5%) Most bearish reading of the year: (111,956) - 3/06/02 Most bullish reading of the year: 23,977 - 12/09/03 Small Traders Long Short Net % of OI 08/31/04 144,120 114,343 29,777 11.5% 09/07/04 157,732 130,817 26,915 9.3% 09/14/04 167,310 126,513 40,797 13.9% 09/21/04 134,943 108,036 26,907 11.1% Most bearish reading of the year: (1,657)- 5/27/03 Most bullish reading of the year: 114,510 - 3/26/02 E-MINI S&P 500 The passing of the quadruple-witching Friday cut a large chunk of open positions among long and shorts, big and small. Yet the remain positions still open have sent commercials to their most bearish bias in weeks and the small trader to their most bullish. Commercials Long Short Net % Of OI 08/31/04 372,071 543,100 (171,029) (18.7%) 09/07/04 371,111 600,593 (229,482) (23.6%) 09/14/04 377,643 586,139 (208,496) (21.6%) 09/21/04 213,014 397,844 (184,830) (30.2%) Most bearish reading of the year: (354,835) - 06/17/03 Most bullish reading of the year: 133,299 - 09/02/03 Small Traders Long Short Net % of OI 08/31/04 258,624 77,036 181,588 54.0% 09/07/04 286,194 80,075 206,119 56.2% 09/14/04 289,155 81,314 207,841 56.1% 09/21/04 256,315 60,275 196,040 61.9% Most bearish reading of the year: (77,385) - 09/02/03 Most bullish reading of the year: 449,310 - 06/10/03 NASDAQ-100 Wow! It looks like last week's option expiration has produced some major shifts. There is a huge drop in open positions that have produced dramatic changes in bias. Commercials are now strongly bullish and small traders are incredibly bearish. To be honest I'm not sure how much I trust these numbers. Commercials Long Short Net % of OI 08/31/04 48,167 43,411 4,756 5.2% 09/07/04 51,814 44,179 7,635 7.9% 09/14/04 64,282 59,808 4,474 3.6% 09/21/04 54,530 30,827 23,703 27.7% Most bearish reading of the year: (21,858) - 08/26/03 Most bullish reading of the year: 25,160 - 06/01/04 Small Traders Long Short Net % of OI 08/31/04 14,635 10,572 4,063 16.1% 09/07/04 16,817 12,561 4,256 14.5% 09/14/04 36,372 28,584 7,788 12.0% 09/21/04 7,417 25,821 (18,404) (55.3%) Most bearish reading of the year: (20,270) - 06/01/04 Most bullish reading of the year: 19,088 - 01/21/02 DOW JONES INDUSTRIAL The Dow Jones futures show the same dramatic drop in open positions with the recent option/futures expiration. However, the DJ futures do not show a big switch in bias. Commercials Long Short Net % of OI 08/31/04 29,143 24,147 4,996 9.3% 09/07/04 29,128 24,011 5,117 9.6% 09/14/04 41,951 34,486 7,465 9.7% 09/21/04 30,816 27,200 3,616 6.2% 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 08/31/04 4,929 7,122 (2,193) (18.2%) 09/07/04 5,041 8,656 (3,615) (26.4%) 09/14/04 8,121 14,425 (6,304) (27.9%) 09/21/04 4,467 6,748 (2,281) (20.3%) Most bearish reading of the year: (12,106) - 3/09/04 Most bullish reading of the year: 8,523 - 8/26/03 ************************Advertisement************************* Full Service Brokers Man Financial announces the formation of the OneStopOption Brokerage Group, addressing the demand for personalized, experienced service for both securities* and futures trading within the same firm. Licensed Option Principals Andrew Aronson and Alan Knuckman specialize in live assistance of stock*, option* and futures traders. 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The Option Investor Newsletter Thursday 09-30-2004 Copyright 2004, All rights reserved. 2 of 3 Redistribution in any form strictly prohibited. In Section Two: Dropped Calls: None Dropped Puts: None Call Play Updates: ATH, CMI, LMT New Calls Plays: GDW Put Play Updates: BIIB, LLY, FFH, FLIR, KSS, LXK, MMM, PRX, SEPR New Put Plays: None **************** 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: ***** None ************************Advertisement************************* Full Service Brokers Man Financial announces the formation of the OneStopOption Brokerage Group, addressing the demand for personalized, experienced service for both securities* and futures trading within the same firm. Licensed Option Principals Andrew Aronson and Alan Knuckman specialize in live assistance of stock*, option* and futures traders. The combination of the proven Man Financial global presence and the convenience of one group for all trading needs provide customers with the tools needed for success. Live Broker and Online Trading Available 888-281-9569 http://www.OneStopOption.com ************************************************************** ******************** PLAY UPDATES - CALLS ******************** Anthem Inc - ATH - close: 87.25 chg: +0.63 stop: 84.89 We don't have much to report on for ATH. The stock continues to churn sideways between support near $85 and resistance near $88. Fortunately ATH appears to be building a short-term trend of rising lows. Insurance stocks in general haven't done much the past couple of sessions but the IUX does seem to be gaining traction again. No change in our strategy or stop loss here. In the news ATH confirmed that its Q3 earnings report will come out on October 27th. Picked on September 26 at $86.81 Change since picked: + 0.44 Earnings Date 10/27/04 (confirmed) Average Daily Volume = 2.1 million Chart = --- Cummins Inc - CMI - close: 73.89 change: +0.82 stop: 69.99 Here's a case of when the end of the quarter window dressing helped us out. CMI has been a big winner this quarter and we suspect that the last three sessions could have been boosted by funds dressing up their portfolio. Traders who bought the dip to $70.00 on Tuesday are seeing some follow through and CMI is closing at new all-time highs. Odds of a dip tomorrow could be pretty high. Picked on September 19 at $70.99 Change since picked: + 2.90 Earnings Date 07/23/04 (confirmed) Average Daily Volume = 724 thousand Chart = --- Lockheed Martin - LMT - close: 55.78 change: +0.69 stop: 53.50 Thursday proved interesting. The stock rallied throughout the session an in the afternoon hours LMT shot up to $56.00. Unfortunately, that is not enough to trigger us. Our entry point to buy calls is $56.01 unless you took our aggressive entry point. The good news is that LMT continued to climb after the initial bout of selling once it hit $56. The stock looks poised to breakout and hit our trigger but this is assuming that the last few days isn't all window dressing by fund managers. Picked on September xx at $xx.xx <-- see TRIGGER Change since picked: + 0.00 Earnings Date 07/27/04 (confirmed) Average Daily Volume = 1.7 million Chart = ************** NEW CALL PLAYS ************** Golden West Financial - GDW - cls: 110.95 chg: +0.72 stop: 108.99 Company Description: Headquartered in Oakland, California, Golden West is one of the nation's largest financial institutions with assets over $95 billion as of August 31, 2004. The Company has one of the most extensive thrift branch systems in the country, with 276 savings branches in 10 states and lending operations in 38 states. (source: company press release) Why We Like It: GDW has been a frequent candidate on our nightly watch list over the last several weeks. We had been watching for a breakout over resistance at the $110 level in an effort to ride a rally toward $116. When the breakout finally did come it was too fast for us to catch and it failed just where we expected it to. Now GDW has consolidated back toward the $110 region except this time it should act as support. We mentioned the bounce from $108.85 back on Monday and now we're willing to act on it with today's higher low. Our goal is to ride GDW back toward $115-116. The P&F chart is much more bullish with a $129 price target. Suggested Options: Short-term traders can choose the Octobers and November options. We're going to suggest the Novembers. Our favorites are the 110s and 115s. BUY CALL NOV 110 GDW-KB OI=537 current ask $3.70 BUY CALL NOV 115 GDW-KC OI=298 current ask $1.40 Annotated chart: Picked on September 30 at $110.95 Change since picked: + 0.00 Earnings Date 07/20/04 (confirmed) Average Daily Volume = 512 thousand Chart = ************************Advertisement************************* Live Securities Brokerage Service with Licensed Option Principals OCO Stop & Profit Orders OneStopOption All types of Spreads and Buy Writes 888-281-9569 Auto-Trade Market Monitor Signals Personal Service and Education **Services available for Foreign Traders including Canada** http://www.OneStopOption.com ************************************************************** ******************* PLAY UPDATES - PUTS ******************* Biogen Idec - BIIB - close: 61.17 change: +0.45 stop: 62.51 Traders need to be really careful here. BIIB is not showing the weakness we expected but fortunately neither are bulls charging to buy it. However, there are two things traders need to be aware of. BIIB is a partner with Elan in its development for Elan's Antegren drug. Antegren is being developed for a handful of treatments like Crohn's disease, multiple sclerosis and rheumatoid arthritis. Two days ago Elan submited Antegren for approval to EU regulators. This could be adding support to BIIB. Secondly, the news today from MRK could be good news for BIIB. Investors will be looking across the sector to see who might benefit from MRK's disaster and who might jump into the fray. We are going to give BIIB one more day. If it doesn't look weaker by tomorrow afternoon we'll close it. Picked on September 22 at $59.57 Change since picked: + 1.60 Earnings Date 07/28/04 (confirmed) Average Daily Volume = 3.0 million Chart = --- Eli Lilly & Co - LLY - close: 60.05 chg: -1.80 stop: 62.51*new* Wow! LLY has been a steady loser for the past several sessions. Today's news that Dow-component Merck (MRK) would voluntarily recall its $2 billion Vioxx drug hit the drug sector very hard. Shares of LLY dropped another 2.9 percent and traded to $59.72 at an intraday low. In the MarketMonitor this afternoon we reminded readers that our initial target was $60.00 and that short-term traders should consider exiting now for a profit. The fact that LLY held support at the $60 mark suggests we could see an oversold bounce tomorrow. Watch the $62.00 level as potential resistance. We're lowering our stop loss to $62.51. Picked on September 22 at $63.92 Change since picked: - 3.87 Earnings Date 07/22/04 (confirmed) Average Daily Volume = 3.1 million Chart = --- FairFax Financial - FFH - cls: 124.85 chg: +1.44 stop: 130.01 Shares of FFH appear to be coiling for another breakout. The stock remains under a trend of lower highs but in just the past few days we're seeing some higher lows. If FFH trades back over $127.50 we'd grow cautious again, of course this is already an aggressive, speculative play. Yesterday FFH released estimates that the recent bout of hurricanes in FLorida would amount to $85-95 million in claims for its insurance companies. We would not consider new positions until FFH broke down under the $120 level. Picked on September 12 at $126.50 Change since picked: - 2.15 Earnings Date 00/00/00 (confirmed) Average Daily Volume = 59 thousand Chart = --- FLIR Systems - FLIR - close: 58.50 chg: -0.85 stop: 62.51 Thursday proved to be another high-volume day for FLIR but bullish traders bought the dip to $57.50. If you missed it we added FLIR last night on the bearish technical breakdown through support at $60.00. Its technical oscillators and MACD are bearish as is its P&F chart. Keep an eye on the simple 100-dma above $55.00. That could be a hurdle the bears need to jump. Picked on September 29 at $59.35 Change since picked: - 0.85 Earnings Date 07/22/04 (confirmed) Average Daily Volume = 577 thousand Chart = --- Kohl's - KSS - close: 48.19 change: -0.09 stop: 50.26*new* KSS is still doing okay. The stock continues to consolidate lower under a trend of lower highs. Currently KSS is testing support at its exponential 200-dma and the simple 50-dma near 47.50. Remember that our target is the $46.00 region and any intraday spike under $46.50 is probably a good place to exit. We're going to lower our stop loss to $50.26. Keep an eye on Dow-component Wal-mart (WMT). WMT tends to lead the retailers and right now WMT is testing overhead resistance at its descending trendline of lower highs. WMT has two likely choices breakout or roll over. Either choice will influence KSS. Picked on September 16 at $49.48 Change since picked: - 1.29 Earnings Date 08/12/04 (confirmed) Average Daily Volume = 3.1 million Chart = --- Lexmark Intl - LXK - close: 84.01 chg: +0.50 stop: 86.01 Here we go again. LXK has jumped back into its trading range between $82 and $86. Although it is noteworthy that the three- week trend does show a pattern of lower highs. We are still not suggesting new positions unless LXK breaks support at $80.00. Picked on September 5th at $86.10 Change since picked: - 2.09 Earnings Date 07/19/04 (confirmed) Average Daily Volume = 1.2 million Chart = --- 3M Co - MMM - close: 79.97 change: +1.19 stop: 81.51 We're starting to think we missed it. MMM dipped to $77.69 on Monday and we alerted readers in our MarketMonitor that MMM was very close to our initial target at $77.50. Now the stock is in day three of its oversold rebound. The $80.00 level should be the first level of overhead resistance and currently it's holding. We are not suggesting new bearish positions at this time as the technical oscillators curl into bullish positions. Picked on September 15 at $82.00 Change since picked: - 2.03 Earnings Date 07/19/04 (confirmed) Average Daily Volume = 2.5 million Chart = --- Par Pharma. Co - PRX - close: 35.93 chg: -0.63 stop: 38.85*new* Shucks! The DRG drug index fell 2.5 percent on the MRK news but PRX only slipped 1.7 percent. We're not complaining but it would have been encouraging to see PRX keep pace with the index. The good news here is that PRX closed under the $36.00 mark for the first time since July. We're going to lower our stop loss to $38.85. Picked on September 21 at $37.80 Change since picked: - 1.87 Earnings Date 07/19/04 (confirmed) Average Daily Volume = 743 thousand Chart = --- Sepracor Inc - SEPR - close: 48.78 chg: +1.36 stop: 52.01 We don't like the look of Thursday's candle. Today's performance almost looks like a bullish engulfing candlestick and now SEPR is back above its simple 40, 50 and 100-dma's. If SEPR rallies look for overhead resistance at $50.00. Aggressive traders may want to use a failed rally under $50 as a new entry point. Conservative traders may want to lower their stop, especially now that short-term oscillators are starting to look more bullish. Picked on September 22 at $48.94 Change since picked: - 0.16 Earnings Date 07/13/04 (confirmed) Average Daily Volume = 1.8 million Chart = ************* NEW PUT PLAYS ************* None ************************Advertisement************************* No time to follow the Market Monitor? Tired of missing good Trades because you stepped away from your computer? OneStopOption Group can follow the Market Monitor for you. You choose the number of contracts, we take care of the rest!! Trade Stock Options, Stocks and ALL Futures with the same Group. Call us 888 281-9569 to see if you qualify to have us rebate your subscription cost. http://www.OneStopOption.com ************************************************************** ********** 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 09-30-2004 Copyright 2004, All rights reserved. 3 of 3 Redistribution in any form strictly prohibited. In Section Three: Watch List: Video Games to Retail Giant and more! Traders Corner: Retracements and their help in trade entry Combos/Straddles: The Naked Truth About Margins ********** WATCH LIST ********** Video Games to Retail Giant and more! ___________________________________________________________________ How to use this watch list: Readers can use the candidates below as a springboard for their own research. Many are in the process of breaking support or resistance or in the process of starting new trends or extending old ones. With your own due diligence these could be strong potential plays. ___________________________________________________________________ Electronic Arts - ERTS - close: 45.99 change: -0.88 WHAT TO WATCH: Yesterday we mentioned ERTS in the MarketMonitor with a chart illustrating its back to back head & shoulders patterns. Currently the H&S pattern is bearish and today's failed rally under $48.00 doesn't help matters. Readers can watch for a drop under $45.00, maybe 44.50, and use the drop as an entry point to buy puts. The H&S pattern suggests a $37-36 target. The P&F chart currently points to a $38 target. Chart= --- Vimpel Communications - VIP - close: 108.80 change: +2.95 WHAT TO WATCH: Russian communication stock VIP is rebounding strongly from the $100 level and is nearing resistance at $110. Readers can watch for a breakout over the $110 level and consider it a potential entry point for a run towards $120. Coincidentally the bullish P&F chart points to a $120 target. Chart= --- Wal-Mart - WMT - close: 53.20 change: +0.20 WHAT TO WATCH: Keep an eye on WMT because the stock can heavily influence the RLX retail index even though there has been a disconnect in recent months. Dow-component WMT has been consolidating between $51 and $54 for nearly three months. Now shares are challenging its descending trendline of resistance formed from its pattern of lower highs. This trendline dates back to the peak in March. An upside breakout would be very bullish here. Chart= --- General Dynamics - GD - close: 102.10 change: +1.97 WHAT TO WATCH: Fund managers pushed GD over resistance at $102 in some end of quarter window dressing. These are new two-year highs for the defense contractor. The trick here will be to see if these gains hold next week. Traders can keep an eye on GD and consider a bounce from $100 or a new high over $102.77. P&F chart traders will point out that today's move produced a new quadruple top breakout buy signal with a $119 price target. Chart= ----------------------------------- RADAR SCREEN - more stocks to watch ----------------------------------- SYMC $54.88 +0.05 - SYMC was one of the best performing stocks in the third quarter. If there is any profit taking Friday and next week look for a bounce from $52.00. ************************Advertisement************************* Live Securities Brokerage Service with Licensed Option Principals OCO Stop & Profit Orders OneStopOption All types of Spreads and Buy Writes 888-281-9569 Auto-Trade Market Monitor Signals Personal Service and Education **Services available for Foreign Traders including Canada** http://www.OneStopOption.com ************************************************************** ************** TRADERS CORNER ************** Retracements and their help in trade entry By Leigh Stevens lstevens@OptionInvestor.com Charles Dow made some early, maybe the first observations about the tendency for a stock or stock index to retrace or give back anywhere from around 1/3 to 2/3rds of the distance covered by a prior advance or decline, before the major trend resumes again. Very commonly Dow noted such retracements, against the direction of the main trend, were about half (50%)of the prior price swing. There were further refinements on the theory of how much ground retracements will typically cover made by W.D. Gann, a famous stock and commodities speculator of the first half of the 1900’s – primarily, Gann found it significant to use charts that had retracements noted between a major low to high or high to low of 1/4, 1/2 and 3/4ths; i.e., 25, 50 and 75%. The origins of one of the most useful "retracement" theories for stocks and other markets came from someone who lived in the middle ages and was studying the population growth of rabbits. Yep, rabbits! Leonardo Fibonacci was an Italian mathematician who was doing such work in the early 1200s. The number sequence that is named after Fibonacci is where each successive number is the sum of the two previous numbers; i.e., 1, 2, 3, 5, 8, 13, 21, 34, 55, 144, etc. Any given number is 1.618 times the preceding number (approximately) and .618 times the following number. The technical indicators whose formulas rely on this Fibonacci number sequence, but the main application is to use the "fibonacci retracements" of .382 or 38%, .50 or 50% and .618 or 62%. The number 5 is in the Fibonacci sequence, and the others are ratios -- .618 comes from the percent that each number is of the next higher number and .382 is the inverse of .618 (100 – 61.8 = 38.2). We’ll stick to the shorthand and round off to 38 and 62% as the important "Fibonacci" retracements, beside 50%. What I find most useful in trading is to track what would constitute the 38, 50 and 62% retracement points, after a minor or intermediate price swing – with the addition sometimes of seeing what would be a 25% retracement for a shallow correction and 75% for a deep one. Use of these retracements is a very common practice and a quite popular point of reference, among traders. There is a simple pragmatic reason for this popularity and that is that buying or selling in these retracement areas often results in coming close to buying at the low and selling at the top. Maybe the saying of buy low, sell high owes something to the common retracements as are highlighted in the chart below – The most recent high in the Nasdaq 100 Index was exactly a fibonnaci 62% - 61.8% to be exact, but I round it off – retracement of the rebound from the low to the prior peak. Interestingly, this was also right at resistance implied by the 200-day moving average and occurred along with a minor bearish price/RSI divergence – a triple indication so to speak, to buy puts or otherwise adopt a bearish trading stance. What I say above is not to imply that NDX can't or won't now go on to penetrate and rise about the point it got to so far on the rally. Taking stock of the Fibonacci 62% retracement did however suggest a good point to take profits on any calls and perhaps take a short-term trade in puts. By the way, the low occurred with a bullish price/RSI divergence as the RSI was trending higher on that final low – opps, but this article is on retracements! You can set most all charting applications to calculate retracements ranging from 25% to 38% (.38), 50%, 62% (.62), or a little beyond – at 66% (2/3rds) or even 75% - often, by pointing first at the low, then the high (pullback retracements) or first at the high, then the low for retracement rallies in what you perceive to be an overall downtrend. I used to chart by hand and then use my calculator, adding or subtracting the 3-5 percentage figures, once it appeared that a high and a low was in place for the trend in question. Ah, the good old days – NOT! In a countertrend rally within a dominant downtrend - once a minor downside correction begins – look to see if a recent high represented a 38, 50, or 62% retracement of that high relative to the rally starting point. If the (up) swing high also failed at or under a key down trendline and was accompanied by an overbought condition, it’s a sure tip off to short the stock or play puts in the case in stocks or indices. Below is an example from a couple years past for bellwether GE - If a correction "resists" dropping back even 38%, after a strong up move, I may add a 25% retracement line. If a deep correction falls below the 62% or 66% retracement, I may add a 75% retracement line. If the correction of an uptrend falls below a 75% retracement, I assume that the correction will be 100% or a "round trip" back to the origin or starting point for the rally. It also can be useful to also look at a close-only line chart as well as a bar or candlestick chart. Sometimes the retracement is seen best this way. The chart below of NEM is an example and is also an example where a retracement was as deep as 3/4ths of the prior upswing but the stock came back – Such a deep retracement would be more commonly seen in a high beta or more volatile stock than would be seen in an index typically, at least on a daily chart. Retracements of this much would be more common in the indices on hourly or other intraday charts. To use retracements - what you need is some evidence that a price swing has run its course and that a counter-trend or move in the opposite is developing. In a downtrend, the 38, 50 and 62 percentage figures are added to the most recent low, when it becomes likely or your hunch is that a minor counter-trend rally is underway; e.g., prices and volume surge. The expectation is that in a normal or typical market, prices will rebound an amount that is equal to about half of the last decline – or, a little bit more, which would be 62% or a bit less than 50%; i.e., 38%. If prices climbed to the 62% retracement level, in an overall downtrend like my first example, this would suggest a favorable exit if long a stock or in calls, and favorable trade entry to short or buy puts. In terms of risk strategy after that, you can place a stop just over the retracement level. SOME RULES OF THUMB ON RETRACEMENTS - These guidelines mostly are related to the most common retracements, that of the fibonacci 38, 50 and 62% retracements. 1.) A strong trend will usually see only a “minimum” price retracement -- around 1/3 to 38% (sometimes only 25%). If prices start to hold around this “minimal” retracement area, this action may be suggesting trade entry as there may NOT be a deeper correction. 2.) A "“normal" trend in stocks, indices, commodities, currencies or bonds – that is one not powered by something way out of the ordinary (e.g., terrorism), will often see a retracement develop of about half or 50% of the prior move. The most common level to buy or sell is this retracement amount, with an exit if it continues on much beyond 50%; e.g., 5% more – You notice with the crude oil chart above, that there was a little bit of slippage below the 50% retracement, but not on a closing basis. 3.) Within the range of normal trend, there is often a retracement of 62% or even 2/3rds (66%). If prices hold this area, it’s also a good target for initiating a buy or sell with an exit if the retracement exceeds 66% - 4.) If a retracement exceeds one level, look for it to go to the next; e.g., if a retracement goes beyond 38%, look for it to go on and approach 50%. If it exceeds 50%, look for 62%. If a retracement exceeds 62%, or a maximum of 66% (or 75%), then I look for a “round trip” or a return all the way back to the prior low or high – this type action suggests a retest of the low or high and is the "ultimate" retracement, which is 100%. 5.) Retracements are most commonly done from the low to high, high to low and not based on the highest close to the lowest close, etc. However you should also experiment with retracements based on closing levels as they also are worth exploring as already noted above. 6.) The common retracement levels work on all time frames or chart types; e.g., hourly (or less), daily, weekly and monthly charts. LAST BUT NOT LEAST - In a strong trend, either up or down, the typical retracement will be shallow – In the retracement chart above, once the double bottom low was made in April-May, I went back to the original high to use in measuring retracement levels. **************** Combos/Straddles **************** The Naked Truth About Margins By Mike Parnos When you're naked, both good and bad things can happen to you. It all depends on the climate, the company you keep and how much you've had to drink. However, when trading naked, your broker is going to want you to wear at least a version of a financial thong - - in the form of a margin requirement. Today, you're going to learn just how well dressed (financially) you'll need to be. Although I’m not a big fan of selling uncovered options (except for the most advanced CPTI students), I know that some of you out there are doin' it. And, since most of our CPTI trades are on rather expensive indexes, I've received a number of questions as to how to calculate margin requirements. How much margin requirement will your brokerage firm want? Let’s figure it out using our favorite SPX index as the example. Set The Scene - Example #1 There are about two weeks left before October expiration. The SPX is trading at about 1115. If we look at the chart and the option chain, we decide that it isn't likely to reach 1175 on the topside, nor is it likely to reach 995 on the bottom. Sober up and get out your calculator, this is going to be fun. Two Formulas There are two formulas that are used to figure out margin requirements. Formula #1 The minimum margin requirement is 10% of the value of the underlying stock plus the option premium received. 10% of the underlying (1115) = 111.50 x 100 = $11,150 Add premium received from Nov. 1175 call: +$1.50 x 100 = $150 Total Margin Requirement: $11,300/contract Formula #2 The initial margin requirement for the transaction is 15% of the underlying stock plus the credit received, less the amount out of the money. Note - the 1175 is 60 points out of the money. 15% o of the underlying ($1115.00) = $167.25 x 100 = $22,300 Add premium received from Nov. $1175 call = +$1.50 x 100 = $150 Subtract OTM amount ($60.00) = -$60x 100 = ($6,000) Total Margin Requirement: $16,450/contract The LARGER number of the two formulas is used. The margin requirement would be our first calculation of $16,450 per contract. The margin numbers on indexes seem outrageous. But the likelihood of success is probably 95%. The risk is substantial. Although you're only exposed for seven weeks, you can still catch a bad cold. That's why buying a long call, above 1175, makes this a trade that is affordable, and a lot safer, for most traders. You may have to settle for less premium, but at least you get to play. ___________________________________________________________ Example #2 - BBH -- Trading at $145 - Sell the Nov. $135 put @ $1.40 Formula #1 10% of the underlying (145) = $14.50 x 100 = $1,450 Add premium received from Nov. 135 put = +$1.40 x 100 = $140 Total Margin Requirement: $1,590/contract Formula #2 20% o of the value of the underlying ($145) = $29 x 100 = $2,900 Add premium received from Nov. $135 put = +$1.40 x 100 = $140 Subtract OTM amount ($10.00) = -$10 x 100 = ($1,000) Total Margin Requirement: $2,040/contract So, for BBH, the margin requirement would be $2,040 per contract – the larger of the two figures. NOTE: There is a difference in the calculations of stocks vs. indexes. When calculating margin on indexes, the multiplier for Formula #2 is 15%. With stocks, the multiplier is 20%. ________________________________________________________________ More Marginal Notes Margin, at most brokerages, can be in the form of cash, marginable stocks, bonds, mutual funds, treasuries, etc. All brokers are NOT created equal. Contact your broker to find out their policies. Some traders will put on a naked short position on both the put and call sides (a short strangle). They are exposed on both the upside and the downside. However, even though there are actually two positions, some brokerages will only hold a margin requirement on one of the two positions. Their computer software can recognize a short strangle (or straddle) position – if the root symbols are the same. The assumption is that you can only be wrong in one direction. It's interesting that most broker's software is not sophisticated enough to recognize a condor spread on an underlying – a simultaneous bull put spread and a bear call spread. While you may only be responsible for maintenance on one side of a short straddle or strangle, you’re going to have maintenance on both sides of a condor position -- unless you're using one of the more progressive brokerage firms (OptionsXpress, ThinkOrSwim). Again, always double check with your broker on their requirement policies – before you initiate a position. Get the name of the person you speak with. You’ll find that, when you take a person's name, they're more likely to make sure they're giving you the right information. Then, after you've initiated the position, check that the result showing in your account is consistent with what you were told on the phone. _________________________________________________________________ OCTOBER CPTI HYPOTHETICAL POSITIONS October Position #1 - SPX Iron Condor - 1114.58 We sold 10 SPX October 1160 calls and bought 10 SPX October 1175 calls for a net credit of about $1.75 ($1,750). Then we sold 10 SPX October 1075 puts and bought 10 SPX October 1060 puts for a credit of about $1.30 ($1,300). Total net credit of appx. $3.05 ($3,050). Maximum profit range is 1075 to 1160. Maintenance is $15,000. Position #2 -- RUT Iron Condor - 572.94 We sold 10 RUT Oct. 610 calls and bought 10 RUT Oct. 620 calls for a credit of about $.65 ($650). Then we sold 10 RUT Oct 530 puts and bought 10 RUT Oct 520 puts for a credit of about $.55 ($550). Total net credit of about $1.20 ($1,200). Maximum profit range is 530 to 610. Maintenance is $10,000. Position #3 - OEX Iron Condor - 534.86 We sold 10 OEX October 520 puts and bought 10 OEX October 510 puts for a credit of about $.70 ($700). Then we sold 10 OEX October 565 calls and bought 10 OEX October 575 calls for a credit of about $.50 ($500). Total net credit of about $1.20 ($1,200). Maximum profit range is 520 to 565. Maintenance is $10,000. Position #4 - BBH Iron Condor - $144.50 We sold 10 BBH October $150 calls and bought 10 BBH October $160 calls for a credit of about $.95 ($950). Then we sold 10 BBH October $135 puts and bought 10 BBH October $125 puts for a credit of about $.55 ($550). Total net credit of about $1.50 ($1,500). Maximum profit range is $135 to $150. Maintenance is $10,000. Be careful. Position #5 -- SPX "Sure Thing" Strategy - 1114.58 Formerly called the "Credit Spread Boogie." The market seems to be in an uptrend since mid-August. Let's go with the flow until the market tells us otherwise. We sold 3 SPX 1120 October puts and bought 3 SPX 1095 October puts for a net credit of about $6.50 ($1,950). The initial maintenance is $7,500. POSITION ADJUSTMENT: When the SPX traded in the low 1100s, it was time for an adjustment. We closed out the original bull put spread for $13.20 ($3,960). We then opened a seven-contract position of a 1115/1140 bear call spread, taking in $6.35 ($4,445). That means we've taken in some extra premium. Our new profit potential is $2,435 -- if SPX closes below 1115. This one's going to be exciting. ____________________________________________________________ ONGOING POSITIONS QQQ ITM Strangle – Ongoing Long Term -- $35.14 We bought 10 contracts of the 2005 QQQ $39 puts and 10 contracts of the 2005 QQQ $29 calls for a total debit of $14,300. We make money by selling near term puts and calls every month. Here’s what we’ve done so far: Oct. $33 puts and Oct. $34 calls – credit of $1,900. Nov. $34 puts and calls – credit of $1,150. Dec. $34 puts and calls – credit of $1,500. Jan. $34 puts and calls – credit of $850. Feb. $34 calls and $36 puts – credit of $750. Mar. $34 calls and $37 puts – credit of $1,150. Apr. $34 calls and $37 puts – credit of $750. May $34 calls and $37 puts – credit of $800. June $34 calls and $37 puts -- total net credit of $750. We rolled out to the July $34 calls ($.20 credit) and $37 puts ($.60 credit) and took in a credit of $.80 ($800). We rolled to the August $34 calls and $37 puts, taking in a credit of $900. We rolled to the Sept. $34 calls and $37 puts, yielding $.45 or $450 for the cycle. For October we were again limited to a $.45 ($450) rollout. Our new total credit is now $12,200. Note: We haven't included the proceeds from this long term QQQ ITM Strangle in our profit calculations. It's a bonus! And it's a great cash flow generating strategy. ZERO-PLUS Strategy. OEX – 534.86 In my Feb. 8th column, I outlined a strategy based on an initial investment of $100,000. $74,000 was spent on zero coupon bonds maturing in seven years at a value of $100,000. The principal $100,000 investment is guaranteed. We’re trading the remaining $26,000 to generate a "risk free" return on the original investment. Our current position: We own 3 OEX December 2006 540 calls @ $81 (x 300 = $24,300). Our cash position as of August expiration was $8,390. In September we added another $975 for a new total of $9,365. New Zero Plus Positions For October Not a lot of credit available this month. October bull put spread 520/510 for credit of $.65 x 5 contracts = $325. October bear call spread 565/575 for another credit of $.65 x 5 contracts = $325. If all goes well, we'll be able to add $650 to our cash position. __________________________________________________________ Happy Trading! Remember the CPTI credo: May our 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. Mike Parnos, Options Therapist and CPTI Master Strategist __________________________________________________________ Couch Potato Trading Institute Disclaimer All results reported in this section are hypothetical. While the numbers represented here may have been achieved or beaten by our readers, we make no representation that any individual investor achieved these exact results. The tracking for the plays listed in this section uses closing prices for the day the newsletter is published and it is not meant to imply that any reader actually received those prices or participated in these recommendations. The portfolio represented here is hypothetical and for investment education purposes only. 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