Option Investor

Daily Newsletter, Tuesday, 02/01/2005

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Table of Contents

  1. Market Wrap
  2. New Option Plays
  3. In Play Updates and Reviews

Market Wrap

Two Day Trend

Market Wrap
  02-01-2005   High Low Volume Adv/Dcl
DJIA 10551.94 62.00 10570.26 10489.64 2.15 bln 2214/1023
NASDAQ 2068.70 6.30 2068.70 2058.66 1.93 bln 1792/1345
S&P 100 568.19 3.31 568.96 564.64 Totals 4006/2368
S&P 500 1189.41 8.14 1190.39 1180.95    
SOX 408.46 4.50 409.76 403.89    
RUS 2000 628.14 4.12 628.61 623.43    
DJ TRANS 3605.73 7.30 3614.84 3597.14    
VIX 12.03 -0.79 13.05 12.02    
VXO (VIX-O) 11.62 -0.75 12.77 11.60    
VXN 17.76 -0.67 18.65 17.72    
Total Volume 4,328M          
Total UpVol 2,758M          
Total DnVol 1,490M          
Total Adv 4562          
Total Dcl 2706          
52wk Highs 477          
52wk Lows 56          
TRIN 1.17          
NAZTRIN 0.89          
PUT/CALL 0.77          

Two Day Trend

Just when everyone thought it was time to don their bear coats for six more weeks of winter the markets have managed to put together back-to-back wins. After two days and +140 points for the Dow it has managed to climb over the 10500 barrier from last week but stronger resistance still lies ahead.

Dow Chart

Nasdaq Chart

The morning started out slow with the ISM slipping from 57.3 to 56.4 for January. This was slightly below estimates but it was not a bad number. The production and employment components rose slightly indicating that companies were still working off the prior orders. However, the new orders component fell to 56.5 from 62.6. This suggests the economy slowed in January but there is normally a post holiday lull while companies set priorities for the current year. While the report was not really negative it was not very positive either. The economy appears to be slowing but still on the recovery path. The Fed meeting currently underway will have a lot of conflicting data to review and Wednesday's post Fed announcement will carry much more weight than usual. If they leave the measured pace language intact it means they feel the economy is not strong enough yet for an aggressive Fed. If they remove it then the Fed is signaling they feel the economy is growing steadily and the inflation risks are rising.

On the bright side the Construction Spending jumped sharply in December by +1.1% and the fastest growth in eight years. All three categories showed gains in a month not known for positive results. Private, nonresidential and public spending rose with public spending leading the pack. This +1.1% headline jump was more than double consensus estimates. The November decline in spending was revised to a minor gain. The markets don't normally get excited by the construction numbers but this was a good report.

Automakers released their January data today and there was a huge drop in sales. Annualized sales fell to a 16.2 million rate from the 18.4 million rate in December. This is the lowest level since June. Analysts expected a modest decline after the December surge on end of year buying incentives but the magnitude of the decline was much stronger than expected. This drop puts the automakers back to the same demand/sales levels they saw last January. With the exhaustive incentive programs used to boost sales over the last three years it makes you wonder what they will pull out of their hat for 2005 to rebuild demand. Incentives ran from $4k-$5K on the high-end models and it is going to be tough to top that. We have seen profits falling in the Ford/GM finance divisions as a direct result.

In stock news today the leading loser was the Chicago Mercantile Exchange (CME), which lost -$23 to $190 after missing estimates slightly. CME posted earnings of +1.64 but analysts had expected +1.69. The CME said income per contract was down about -2% in Q4 because of higher volume by members who pay a discounted rate. Still earnings and revenue nearly doubled from the prior year. Excellent results and excellent growth but the stock was priced to perfection given its rise from $75 in Dec-2003 and the $30 IPO price in 2002. Investors should also note that even after today's drop CME shares are still trading above last week's profit taking levels and still holding at the 100-day average. I would not rush out and buy it today despite the apparent discount and the strong earnings. We could see additional profit taking now that the bloom has faded.

The second biggest splash was earnings from Google. GOOG reported earnings after the close of 85 cents that blew away estimates by analysts of 77 cents. Actually the estimates ran from 66 cents to 79 cents by the major analysts and everybody got it wrong. The headline number from Google was 71 cents and it took several minutes for analysts to do the math with lots of high profile charges including expensing options. Once the real proforma number was out the stock exploded off the closing levels of $191 to trade at $210 in after hours. Revenue at $634 million easily beat estimates of $592 million. Earnings grew more than +500% over Q4-2003. The overnight high at $210 is an all time high and should produce a new dog pile by the shorts. Google has more than 187 million shares coming out of lockup on Feb-16th and that will more than double the existing shares available to trade. Shorting a new all time high two weeks before the float is doubled would appear to be a no brainer on the surface. However, many traders have already had their accounts shredded after trying to short Google over the last three months. One reader commented to me tonight that he closed his current short before earnings due to prior painful experiences. He was obviously glad he made the right decision.

Coincidentally Microsoft announced a newly redesigned search engine on MSN.com that they hope will narrow the search engine gap. The new MSN search engine will highlight a new "question search" function. You can ask questions like "how tall is the Golden Gate Bridge" and in theory it will return the answer and some background links. Now if Microsoft could just answer this question I would be excited. "When will Microsoft produce a new Outlook that will eliminate all the spam while delivering the messages I want safely to my inbox?" I will not be holding my breath waiting for that answer.

Let's try another question. "Is this market rebound the beginning of a new uptrend or just an Iraq relief rally?" If Microsoft can develop a search engine that will answer those kinds of questions we would all gladly pay the subscription fee. Until then we are left to determine the answers on our own. The Dow rose to 10550 by noon and then failed to make any progress over the next four hours. This sprint, actually more of a leisurely stroll from the open until lunch, stalled well below the much stronger resistance at 10600-10650. I am not complaining and after fighting the support battle at 10400 twice over the last two weeks this is a decent rebound. Unfortunately it only rebounded back into the middle of our January range and is giving no clues as to its next direction.

The Nasdaq is actually showing a slightly better trend with a six-day move off its 2008 low on Jan-24th. Like the Dow the Nasdaq has only rebounded back to the middle of its range and has very strong resistance at 2100-2110. Still no real clue here.

I think the real story is the SOX and it rallied to 410 this morning and held there all day. This IS the critical resistance for January that it must break for any rally to continue. This is a very strong rebound off the 382 low of last week and it appears to have legs. A breakout over 410 could cause new short covering and it could confirm the Nasdaq rebound and help it move over that 2100 resistance.

SOX Chart

SPX Chart

The final piece to this puzzle is the Russell and it did breakout today to a new three week high over its 625 resistance. If you look at it like as a series of events that must happen to confirm the end of selling then the Russell has completed the first event. A continued move higher by the Russell should pull the SOX over 410, which should help lift the Nasdaq back to the 2100 test. As each index in this sequence breaks resistance it makes it easier for the remaining indexes to follow. The breakout sequence I see setting up is the Russell, SOX, SPX, Nasdaq and then Dow. This gives us a very clear set of signposts for the current trip and makes it easy to see when the rally fails. With the Russell already in the clear and the SOX only a couple points away it puts the SPX resistance at 1195 as the next critical resistance to be tested.

The SPX is broader than the remaining indexes and therefore will take more conviction to break that 1195 resistance level. We have failed here several times this year and short of some news event it could be the defining moment for the current rebound.

Internals were very good today with advancers 2:1 over decliners but more importantly new 52-week highs hit 477 compared to new lows at only 56. That was the lowest number of lows since Jan-10th and the highest level of new highs since December-31st. Considering there were no material buy/sell programs today it appears the tide has turned for general market sentiment. Today's buying was broad based and not just a few hedge funds pushing prices around. Oil prices fell to $47 and stopped the rebound from yesterday's $46 low to $48.30. This was a significant event. The post election drop was quickly bought with a +2.30 spike and it appeared we were going back to retest the $50 level again. The retracement today eased those fears and with all the major events over we should see some market pleasing declines into spring.

For the rest of the week the major market events are the Fed meeting currently underway and the 2:15 announcement on Wednesday. Thursday has several important economic reports but the Jobs number on Friday is the one most watched. It would be nice to see the markets move higher in advance of the number but I think the Fed announcement on Wednesday could be the wet blanket if they remove the measured pace language. We are not out of the bear woods yet but I think I can see light through the trees. If you are following my SPX roadmap you should be cautiously long from 1175 and we will increase those positions with a break over 1195. Many of the prior leaders, which were sold heavily, are beginning to show life and that suggests the worst may be over. Let's keep our fingers crossed.


New Plays

New Option Plays

Call Options Plays
Put Options Plays

None today.

Play Updates

In Play Updates and Reviews

Call Updates

Aetna Inc - AET - close: 131.10 change: +4.05 stop: 125.00*new*

Insurance giant AET surged more than three percent on Tuesday to breakout over resistance at the $130 level and close at new all-time highs. We can't find any specific news to account for the big gain other than market-wide bullishness finally inspiring some buying pressure. Short-term technical oscillators are bullish and its MACD is extremely close to producing a new buy signal. There are only nine days left before AET's earnings report and the stock has a good chance of hitting our target range of $135-140. We are raising our stop loss to $125.00.

Picked on January 13 at $127.61
Change since picked: + 3.49
Earnings Date 02/10/05 (confirmed)
Average Daily Volume = 2.2 million

Invitrogen - IVGN - close: 68.93 chg: +0.22 stop: 66.00

We are growing a little concerned that IVGN is not participating in the current market rally. Watch the BTK biotech index for a move over 530-535, which should be a bullish breakout over its five-week trend of lower highs. We would continue to wait for IVGN to trade over $70.00 or better 70.50 before considering new longs. The company confirmed that its Q4 earnings will come out on February 17th.


Picked on January 27 at $ 70.05
Change since picked: - 1.12
Earnings Date 02/17/05 (confirmed)
Average Daily Volume = 800 thousand

KB Home - KBH - close: 111.75 change: +3.10 stop: 105.00 *new*

The homebuilders are really showing their strength. The DJUSHB index added another 2.13 percent and KBH out performed its peers with a 2.85 percent gain to close at a new high above resistance near $110. Volume has been rising during KBH's rally and today's volume was well above average. Both the DJUSHB index and KBH have produced new MACD buy signals on their daily chart. Short-term traders may want to strongly consider taking profits here or significantly tightening their stop loss. We're only nominally raising our stop loss to $105.00. Remember that our target is the $115.00-120.00 range.

Picked on January 13 at $106.00
Change since picked: + 5.75
Earnings Date 03/17/05 (unconfirmed)
Average Daily Volume = 1.1 million

Texas Industries - TXI - close: 63.95 change: +0.41 stop: 59.95

Once again TXI is challenging resistance in the $64-65 range and its subtle trend of lower highs. Oscillators are bullish and its MACD has produced a new buy signal but TXI has been rebuffed here before. Short-term traders may want to consider exiting for a profit here. New positions can be considered on a breakout over $65 or a pull back toward the 50-dma.


Picked on January 09 at $ 60.18
Change since picked: + 3.77
Earnings Date 12/16/04 (confirmed)
Average Daily Volume = 238 thousand

Put Updates

Apollo Group - APOL - close: 79.74 chg: +1.56 stop: 81.01

Heads up! Tuesday has proven to be day two in the market's rebound and this is putting pressure on our bearish plays. Yesterday APOL produced a failed rally at round-number resistance at the $80.00 level but now shares are bouncing again with the market. The bounce has turned the short-term technicals bullish. If APOL pushes past the $80 level it could spell bad news for the bears. More aggressive traders may want to adjust their stop above the 200-dma and the $82 mark to put just above the trendline of lower highs.


Picked on January 23 at $ 77.61
Change since picked: + 2.13
Earnings Date 12/16/04 (confirmed)
Average Daily Volume = 2.4 million

Eli Lilly - LLY - close: 54.76 change: +0.52 stop: 56.01

LLY is also being caught up in the market's two-day bounce but shares remain under resistance at the $55.00 level. Fortunately, the DRG drug index continues to under perform the market and for all practical purposes has not participated in the market rebound. We remain bearish but if LLY trades over the $55 level we'll turn defensive.


Picked on January 30 at $ 53.58
Change since picked: + 1.18
Earnings Date 01/26/05 (confirmed)
Average Daily Volume = 4.0 million

Dropped Call

Pulte Homes - PHM - close: 67.78 chg: +1.70 stop: 62.49

PHM managed to out perform its peers in the home building sector and the broader indices with a 2.57 percent rally on Tuesday. Volume has been above average on the two-day bounce, which suggests more strength ahead. We suspect that PHM will continue to rally tomorrow into its Wednesday earnings report after the closing bell but we are playing it safe by exiting early. We would not hold over the report even though our expectations are positive. Wall Street is looking for $3.05 per share.


Picked on January 16 at $ 65.99
Change since picked: + 1.79
Earnings Date 02/02/05 (confirmed)
Average Daily Volume = 1.5 million

Today's Newsletter Notes: Market Wrap by Jim Brown, and all other plays and content by the Option Investor staff.


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