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Daily Newsletter, Sunday, 02/20/2005

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Table of Contents

  1. Market Wrap
  2. New Option Plays
  3. In Play Updates and Reviews
  4. Ask the Analyst
  5. Trader's Corner

Market Wrap

100-Day Support

WE 0218 WE 02-11 WE 02-04
DOW 10785.22 -10.79 10796.0 79.88 10716.1 288.93
Nasdaq 2058.62 -18.04 2076.66 -10.00 2086.66 50.83
S&P-100 575.42 -1.76 577.18 2.09 575.09 14.14
S&P-500 1201.59 -3.71 1205.30 2.27 1203.03 31.67
W5000 1841.71 -33.77 11875.5 9.57 11865.9 334.66
SOX 427.73 -7.79 435.52 17.36 418.16 18.70
RUT 630.13 -4.63 634.76 -2.68 637.44 24.44
TRAN 3619.97 6.94 3613.03 16.22 3596.81 51.87
VXO 11.18 11.43 10.92
VXN 17.87 17.19 18.58

100-Day Support

The markets completed another week for 2005 and they survived an onslaught of mixed economic reports and two doses of Greenspeak. Survived is the operative word here. The Nasdaq continued to be the weakest link and Friday's close was right on critical support at 2058 and just above the 100-day average. This has been support since October and there was just enough buying interest on Friday to hold that level. We may only be 51 days into 2005 but it seems like 100 and the Nasdaq holding support at the 100-day average may be appropriate.

Dow Chart - Daily


 

Nasdaq Chart - Daily


 

The Dow received a double dose of Cox-2 inhibitors on Friday with Dow components MRK and PFE seeing a strong bounce on the positive votes from the FDA committee. The committee voted to allow Celebrex and Vioxx to remain on the market but with a stronger warning label. MRK rose +3.75 and PFE rose +1.80. This accounted for over +40 Dow points. This was the biggest one-day gain by MRK since records have been kept, a period spanning 32 years. Had the committee not met on Friday the Dow would have closed in negative territory and most likely at the lows for the day around 10740. The jump in PFE/MRK produced some short covering in the associated ETFs and gave the Dow more lift than just the gains in MRK/PFE would have by themselves. Erasing the Cox-2 rebound we would have seen both the Dow and the Nasdaq close at the lows of the week and most likely the S&P would have closed below support at 1200.

Economics produced some of Friday's depression with the PPI causing some serious concerns. The headline number rose by +0.3% and inline with estimates but the core rate jumped sharply by +0.8% for the month. This was the largest jump in core prices since 1998. Inflation was broad based and included things like cigarettes, alcohol, sporting goods, clothing, autos, capital equipment and construction machinery. Core intermediate goods marked their third month out of the last six where inflation exceeded +0.8%. Crude products are still up +10.8% year over year despite the drop in oil prices from the Q4 highs. With the next Fed meeting only four weeks away there is almost no hope the Fed will take a pass on hiking rates. Inflation has been constrained on the retail front with manufacturers bearing the brunt of the price hikes but that is apparently ending. Retail prices are beginning to rise with commodities on a seemingly unrelenting upward path.

Copper, a critical commodity that is required for almost every electronic product we buy along with autos and homes hit a 16 year high this week at nearly $1.50 a pound. The building boom has been a strong factor in pushing prices higher with an average of 440 pounds of copper in pipe, wiring and other materials in each new home. The global demand has also been growing with China and India consuming vast amounts. Steel has also set new cyclical highs due to that global demand. Another overriding factor is the continued strength in oil prices. Almost every product we buy and use has depended on oil in some fashion either in its manufacture or delivery. The rising price of oil contributes to increased costs over the entire supply chain. The Fed is going to have a fight when it tries to slow the commodity inflation ahead. The Fed strategy works best against price inflation brought on by easy money, high employment and a bull market. By slapping higher interest rates on the economy those forces can be constrained. Higher rates have less impact on commodity inflation fueled by global demand. The Fed can't slow down China or force lower oil prices. This suggests a long-term battle where the Fed may have to become more aggressive to slow domestic growth to lessen the impact of global demand.

The January depression in the markets impacted Consumer Sentiment with the initial February reading dropping to 94.2 from 95.5. Estimates were split from expecting a small decline to a small gain. The drop was not earth shaking and we are still in the range we have seen since last July. The final election battles had dropped it to a low of 91.7 but once past we have returned to the recent norm. However, this was the second monthly decline. A third down month could cause self induced acceleration so next month should be the key. If employment continues to improve, the Fed continues it's measured pace and the weather turns warmer the consumer sentiment should move higher and break the trend assuming the markets don't implode. The wildcard here is the new flurry of geopolitical concerns over Syria and Iran.

On Friday Bush was queried on potential military action against Iran. He responded that a president should "never say never" and left a veiled threat on the board. This was in response to news that Iran and Syria had agreed to stand together to resist any pressure from the United States. Russia jumped into the fray saying Iran had no nukes and was not a threat in an attempt to deflect U.S. comments. Are we supposed to believe anything Russia says? This is the government that just perpetrated a complete scam that included deception, outright lies and misdirection to recover the Yukos assets so they could sell them to China. Sure, Iran has no nukes and Russia respects property rights.

Friday was a calm day for trading and expiration week ended with a whimper. Volume slowed even further ahead of the three-day weekend and was aided by an early close in the bond markets. Were it not for the MRK/PFE gains it would have been losses across the board. However, those losses would have been minimal. We saw several periods of selling this week but they lacked conviction and we ended the week at strong support. Since this was an expiration week in front of a three-day weekend I believe the selling was mostly option related with a little profit taking adding to the weakness. We have seen some strong gains over the last couple weeks and the failure to make new highs took some of the excitement and conviction away from the bulls. Fund flows were positive with +$2.4 billion flowing into funds over the last week, +7.5B since Jan-27th. We are seeing those flows into domestic funds continue to slow. However, historically fund flows follow performance. When the market is moving strongly higher money flows increase. When it is weak fund flows decrease. January is the only month where funds lead because of the end of year retirement contributions. We all know what happened to January. There is a bright spot on the horizon. This was the 13th consecutive week of outflows from tech funds but the outflows only amounted to -$85 million. This was down from -$145 million last week and -$160 million the prior week. Is the tide about to turn?

The SOX acted very well to the horrible book-to-bill number Thursday night and only lost -2 points on Friday. Several analysts suggested this was the cycle low for chips and suggesting it was time to buy. Obviously not many traders took that advice but there were enough to hold the SOX to only a minor dip to 427. The uptrend support from the January lows is 420 so we could still see some weakness and maintain the upward trend.

Sox Chart - 60 min


 

Dow Chart - Daily


 

Last Sunday I showed you how the 100/130 exp averages impacted the S&P-500. In the chart above you can see how they also provide key support/resistance on the Dow and that support was tested on Friday and held.

The Nasdaq came to rest at 2058 and just above the 100-day average at 2055. This has been support since October. With the SOX still in an uptrend and the Nasdaq holding above strong support on expiration Friday I am actually seeing some upside potential. If the weakness this week was option related profit taking ahead of a long weekend then Tuesday should be the turning point. This is a big "IF" but the gains have been on strong volume and the declines on weak volume. Money flows are still positive and tech flows are improving. It is entirely possible this week was just another consolidation pause. This potential scenario will go down in flames if the Nasdaq breaks below support at the 100-day average. Currently 2055 but we will use Nasdaq 2050 as our line in the sand. There is support from 2020-2040 but the 100-day break should provide enough bearish sentiment to make that 2020-2040 support much less likely to hold.

Besides Monday being a holiday the economic calendar is light for next week with the major reports being a repeat of Consumer Sentiment with the Consumer Confidence on Tuesday. Also we will get the CPI on Wednesday, Durable Goods on Thursday and GDP on Friday. All of those should be market neutral as long as they are close to their expected ranges. The main focus by traders will be the ISM, PPI, Factory Orders and nonfarm payrolls the following week. This week will be consigned to the last dribble of earnings reports and whatever geopolitical events occur. Bush will be traveling abroad so anything is possible. My recommendation still stands to remain flat/short under Nasdaq 2100 with a trading long at Nasdaq 2020. If we do break the 100-day this will be our last chance support to prevent a major breakdown and I believe there could be at least a minor bounce if not a double bottom rebound. Under 2020 and the bears will come out to play.

The Dow and S&P failed to reach new highs and the Nasdaq is facing a serious retest of support. This is a heck of a market to try and pick stocks. The economic and geopolitical concerns making the rounds are simply a smoke screen for analysts that don't have a clue and excuses for traders trying to avoid the reality of bad trades. The real problem facing the markets today is the age old question "Why Buy?" Earnings are over for Q4, guidance was choppy at best and the economic picture looks more like a splatter painted Picasso than a Rembrandt. Investors are staring at it for long periods and still coming away confused as to its meaning. If this is how you feel then you are not alone. In times like these cash is a position and you do not have to be in a trade. We only want to be in a trade when it is profitable to do so. Just because the market is open does not mean you have to place bets. Sit back and relax and wait for the real market to appear. Remember to enter passively when there is no trend and this market would definitely qualify as lacking direction.

 
 




New Plays

New Option Plays

Call Options Plays
Put Options Plays
NoneBSC
 CECO

New Calls

None Today

New Puts

Bear Stearns - BSC - close: 97.84 chg: -2.43 stop: 102.51

Company Description:
Founded in 1923, The Bear Stearns Companies Inc. is the parent company of Bear, Stearns & Co. Inc., a leading investment banking and securities trading and brokerage firm. With approximately $46.1 billion in total capital, Bear Stearns serves governments, corporations, institutions and individuals worldwide. The company's business includes corporate finance, mergers and acquisitions, institutional equities and fixed income sales and trading, securities research, private client services, derivatives, foreign exchange and futures sales and trading, asset management and custody services. Through Bear, Stearns Securities Corp., it offers financing, securities lending, clearing and technology solutions to hedge funds, broker-dealers and investment advisors. Headquartered in New York City, the company has approximately 11,000 employees worldwide. (source: company website)

Why We Like It:
Last week was a tough week for the broker-dealers. The previous couple of weeks saw the group claw its way back toward the December highs. Unfortunately for the bulls the broker stocks couldn't breakout and have since turned lower with a full technical retreat in its indicators. The MACD produced a new sell signal on Friday for the XBD index. Shares of BSC are not only tracking the XBD index but appear to be leading the way down. News last Monday that the SEC's probe into BSC's involvement for the mutual fund scandal is getting deeper probably doesn't help investor confidence. Friday's breakdown below the $100 level and its 100-dma looks like bad news and volume came in well above average suggesting more weakness ahead. We also note how BSC has closed below its January lows while its own MACD indicator has produced a new sell signal. BSC's P&F chart has also reversed into a new sell signal with a $90 target. We want to buy puts at current levels and target a drop toward its simple 200-dma in the $91-92 range. We do have a wide stop to begin with but will adjust it lower as BSC confirms the new trend.

Suggested Options:
We are going to suggest the March or April puts.

BUY PUT MAR 100 BSC-OT OI=284 current ask $3.40
BUY PUT MAR 95 BSC-OS OI=440 current ask $1.15

BUY PUT APR 100 BSC-PT OI= 939 current ask $4.20
BUY PUT APR 95 BSC-PS OI=1554 current ask $1.95


 

Picked on February 20 at $ 97.84
Change since picked: - 0.00
Earnings Date 03/22/05 (unconfirmed)
Average Daily Volume = 934 thousand

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Career Education - CECO - close: 35.91 chg: -0.78 stop: 37.51

Company Description:
Career Education Corporation (www.careered.com) is the world's largest on-campus provider of private, for-profit, postsecondary education and has a rapidly-growing presence in online education. CEC's Colleges, Schools and Universities Group operates 82 campuses in the U.S., Canada, France, the United Kingdom and the United Arab Emirates and offers doctoral degree, master's degree, bachelor's degree, associate degree and diploma programs in the career-oriented disciplines of visual communication and design technologies, information technology, business studies, culinary arts and health education. The Online Education Group operates American InterContinental University Online and Colorado Technical University Online and offers a variety of degrees in information technology, business, visual communication and education. CEC's total student population on January 31, 2005 was approximately 101,500 students. (source: company website)

Why We Like It:
We are doubling up on put plays in the education sector. We already have APOL on the list and now we're adding CECO. The stock has been consolidating sideways between $35 and $42 for the last couple of months but the highs have been slipping as investors sold each time CECO neared its simple 200-dma. Now the consolidation is in danger of turning lower. The company reported earnings a few days ago and managed to beat estimates. Yet the stock gapped lower following the report and is barely holding to support near the 100-dma. The recent move lower has produced a bearish triangle breakdown sell signal on its P&F chart, which is one of the most successful patterns that traders can short. Currently the P&F chart points to a $30.00 target and we agree. However, we want to use a TRIGGER to open the play. We'd rather see the new trend confirmed with a breakdown under the $35.00 level. Our entry point will be $34.90 and our target will be the $30.00 region.

Suggested Options:
We like the March or April puts.

BUY PUT MAR 40 CUY-OH OI=1986 current ask $4.70
BUY PUT MAR 35 CUY-OG OI=2727 current ask $1.45
BUY PUT MAR 30 CUY-OF OI=1583 current ask $0.35

BUY PUT APR 40 CUY-PH OI=3611 current ask $5.30
BUY PUT APR 35 CUY-PG OI=8050 current ask $2.30
BUY PUT APR 30 CUY-PF OI=5324 current ask $0.85


 

Picked on February xx at $ xx.xx <-- see TRIGGER
Change since picked: - 0.00
Earnings Date 02/15/05 (confirmed)
Average Daily Volume = 2.1 million


Play Updates

In Play Updates and Reviews

Call Updates

Coper Industries - CBE - cls: 69.49 chg: +0.95 stop: 67.95

Bulls can breathe a small sigh of relief. CBE isn't out of the woods yet but the stock managed a bounce from the $68.50 level and volume came in well above average, which is normally bullish. The longer-term picture is still positive but we would wait for CBE to bounce back over the $70.00 level before considering new bullish positions.

Suggested options:
Wait for the move over $70.00 and then consider the April calls.

BUY CALL APR 65 CBE-DM OI=725 current ask $5.30
BUY CALL APR 70 CBE-DN OI=380 current ask $1.85


 

Picked on February 03 at $ 70.01
Change since picked: - 0.52
Earnings Date 01/25/05 (confirmed)
Average Daily Volume = 436 thousand

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Eagle Materials Inc - EXP - close: 80.80 chg: -0.40 stop: 78.50

One of our newest plays, EXP, has not been off to the strongest start. Granted the market has been going nowhere this week so a little profit taking shouldn't be a surprise for us. We would be cautious about initiating new bullish positions in EXP, especially with the technical oscillators on the major averages looking weak. Wait for shares to trade back above the $83 or $84 levels before initiating new plays. The P&F chart remains bullish but if shares drop under the $78 level it would reverse the buy signal into a sell signal.

Suggested Options:
Wait for EXP to trade back over the $83 or $84 level and then consider the April calls.


 

Picked on February 16 at $ 82.90
Change since picked: - 2.10
Earnings Date 01/26/05 (confirmed)
Average Daily Volume = 107 thousand

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Hartford Financial - HIG - cls: 71.23 chg: -0.04 stop: 69.95

We have recently turned cautious on HIG with the pull back in the share price and the IUX insurance index. Technicals on both have turned sour but now after a few down days both HIG and the IUX could be due for a bounce. We raised our stop to $69.95 on Thursday counting on the $70.00 level to act as round-number, psychological support. More aggressive traders may want to consider leaving their stop under the $69.00 level, which was the real resistance for HIG over the last year and thus this level should now be the true support for it. The longer-term P&F chart remains bullish with a $102 target. Our target remains the $78-80 region. We would not suggest new bullish positions until we see some sign of a bounce. Look for a move over the $72 level before considering new plays. Keep an eye on the IUX index for a bounce from the 325 level.

Suggested Options:
We would not suggest new positions at this time. Wait for a bounce over $72.00. If this occurs bulls can use the March or June calls.


 

Picked on February 06 at $ 71.17
Change since picked: + 0.06
Earnings Date 01/26/05 (confirmed)
Average Daily Volume = 1.2 million

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Kmart Holding - KMRT - close: 100.21 chg: -0.31 stop: 97.50*new*

No change in our stance on KMRT. The stock continues to consolidate its breakout over the $100 level and its trendline of resistance back in early February. Unfortunately, the technical picture is deteriorating and the stock looks vulnerable. The longer-term P&F chart remains very bullish but short-term it would not surprise us to see shares pull back and retest the simple 50-dma near $98.00. If this occurs and KMRT bounces from the 50-dma it would look like a new bull-flag pattern. However, to allow KMRT room to maneuver we are going to have to bend the rules a bit. Normally we never want to move a stop loss backward. Yet this time it seems worthwhile to drop our stop loss from $98.50 to $97.50 and give KMRT room to dip toward the 50-dma. In reality we would not want to consider new bullish positions until KMRT traded back above the $103 level. Keep an eye on the RLX retail index, which is struggling under its own 50-dma and two-month trend of lower highs following what also looks like a double-top.

Suggested Options:
We would not suggest new positions at this time.


 

Picked on February 13 at $103.02
Change since picked: - 2.81
Earnings Date 03/16/05 (unconfirmed)
Average Daily Volume = 2.5 million

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Loews Corp - LTR - close: 72.03 chg: -0.17 stop: 69.95

We are currently waiting for LTR to bounce. We initiated the play on Tuesday with the breakout over long-term resistance at $72.00-72.50. Yet our suggestion was to wait for a pull back toward the $72 level and then buy a bounce. Well, LTR has accomplished the first part and pull back toward the $72 level (and its 10-dma). Now we just need to see a bounce. Look for a move over $73.00-73.50 as the clue to consider new longs. Keep an eye on the IUX insurance index as well, which needs to bounce from the 325 level.

Suggested Options:
We have a four-to-six week time horizon so we're suggesting the March or June calls.

BUY CALL MAR 70 LTR-CN OI=328 current ask $3.00
BUY CALL MAR 75 LTR-CO OI=427 current ask $0.55

BUY CALL JUN 75 LTR-FO OI=526 current ask $2.00


 

Picked on February 15 at $ 74.15
Change since picked: - 2.12
Earnings Date 02/10/05 (confirmed)
Average Daily Volume = 452 thousand

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Nova Chemicals - NCX - close: 47.52 chg: +0.29 stop: 44.95

We are still sitting on our hands here with NCX. We are using a TRIGGER to go long at $48.01 to catch a breakout over resistance. If NCX can rally to a new high it will produce a new quadruple-top breakout buy signal on its P&F chart. Once triggered our target will be the $52.50-54.00 range. Keep in mind that if the major indices turn south we would strongly hesitate to open any new bullish positions anywhere.

Suggested Options:
We're going to suggest the March and June calls. Our favorites would be the June strikes.

BUY CALL MAR 45 NCX-CI OI=556 current ask $3.30
BUY CALL MAR 50 NCX-CJ OI=315 current ask $0.60

BUY CALL JUN 45 NCX-FI OI= 88 current ask $4.70
BUY CALL JUN 50 NCX-FJ OI=187 current ask $2.05


 

Picked on February xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 01/26/05 (confirmed)
Average Daily Volume = 383 thousand

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RD Donnelley - RHD - close: 59.58 change: +0.21 stop: 58.95

We are still holding our breath. RHD did manage a meager bounce from the $59.00 level on Friday but shares remain under the $60 mark and perilously close to the bottom of its rising channel. To make matters worse we only have a few days left before its February 25th earnings report. We would not suggest new bullish positions at this time unless shares bounced back above the 60.50 or 61.00 levels and then only if you're nimble enough to exit before the earnings report.

Suggested Options:
We would not suggest new positions at this time. See play for details.


 

Picked on February 03 at $ 60.76
Change since picked: - 1.18
Earnings Date 02/25/05 (confirmed)
Average Daily Volume = 186 thousand

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Spectrasite Inc - SSI - close: 61.19 chg: -0.71 stop: 58.00

Our bullish breakout and relative strength play in SSI remains near its all-time highs. The stock did slip a bit on Friday and we suspect that readers will get a chance to buy a bounce from round-number, psychological support at the $60.00 level soon. Wait for the dip and then consider new bullish positions on the bounce.

Suggested Options:
We are going to suggest the April calls.

BUY CALL APR 55 SSI-DK OI=129 current ask $7.60
BUY CALL APR 60 SSI-DL OI= 88 current ask $4.00
BUY CALL APR 65 SSI-DM OI= 37 current ask $1.70


 

Picked on February 16 at $ 61.80
Change since picked: - 0.61
Earnings Date 03/14/05 (confirmed)
Average Daily Volume = 391 thousand

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Texas Industries - TXI - cls: 64.75 chg: +0.21 stop: 61.95

Slowly shares of TXI continue to inch higher. We have been patiently waiting for the breakout over resistance near the $65.00 level. Given that shares are coiling more tightly in this pattern of higher lows we expect a move soon. Readers looking for new positions can watch for a push through the $65.50 mark as a new entry point.


 

Picked on January 09 at $ 60.18
Change since picked: + 4.57
Earnings Date 12/16/04 (confirmed)
Average Daily Volume = 238 thousand

PUT UPDATES

Apollo Group - APOL - close: 75.53 chg: -0.27 stop: 80.11

Slowly but surely shares of APOL continue to drift lower with investors selling into each minor rally attempt. The stock is nearing round-number support near the $75 level but we don't expect it to hold. Readers can still consider new bearish positions at current levels or under the $75 mark. Our target remains the $72-70 region. The P&F chart target is still at $68.

Suggested Options:
We like the March and May puts.

BUY PUT MAR 80 OAQ-OP OI= 346 current ask $5.50
BUY PUT MAR 75 OAQ-OO OI=5841 current ask $2.50
BUY PUT MAR 70 OAQ-ON OI=3253 current ask $1.00


 

Picked on January 23 at $ 77.61
Change since picked: - 2.08
Earnings Date 12/16/04 (confirmed)
Average Daily Volume = 2.4 million

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Nike Inc - NKE - close: 85.51 chg: +0.31 stop: 87.01

Once again NKE is in jeopardy of breaking out over its descending trendline of resistance currently near the $86 level. It would seem that investors were not phased by the news that Buffett's Berkshire Hathaway had significantly cut their position in NKE. We remain short-term bearish with NKE's two-month downtrend but readers may want to wait for shares to trade under the $84.50 level before considering new bearish positions.

Suggested Options:
We are not suggesting new positions at this time. Wait for a drop under $84.50.


 

Picked on February 08 at $ 84.55
Change since picked: + 0.96
Earnings Date 12/16/04 (confirmed)
Average Daily Volume = 1.1 million

Put Updates

None today.

Dropped Puts

Phelps Dodge - PD - close: 99.67 chg: +0.67 stop: 92.01

Copper prices surged to new 16-year highs on Friday. The strength in the commodity and the world economy's demand for it is a long-term plus for PD. Given the sharp rebound in the share price of PD the stock is no longer in danger of breaking support at the $90 level. We're closing the play unopened. Readers may want to consider long positions if PD can breakout over the $102 level.


 

Picked on February xx at $ xx.xx <-- see TRIGGER
Change since picked: - 0.00
Earnings Date 01/27/05 (confirmed)
Average Daily Volume = 2.2 million


Ask the Analyst

Buy/Sell Program Premiums and some new ideas!

The past couple of weeks I have received a few questions regarding the information I'm giving traders when I update HL Camp & Company's buy and sell program premium levels.

What are these numbers? What do they mean? How are they created? How can traders be alert to them when they are generated during a trading session?

I've written some in-depth Ask the Analyst columns in the past on these buy/sell program premium levels, and when we get all of those articles, and others moved over to the new servers, traders can read up on those thoughts.

Until then, let's quickly review how a buy, or sell program premium is generated. Then I'll show some examples on how my thought process begins to work (look for clues, put clues together, build the scenario, then start trading) where even in what appears to be a boring, or sideways trade taking place, there's probably some stocks finding the BUYING and the SELLING that the program premiums can be an alert to.

Let me first share something with you that I read from HL Camp & Company this week. It really got my juices flowing as once again, even their observation of how important the MARKET, then SECTOR and STOCK selection process is taking hold among market participants.

In brief, HL Camp & Company, which is a firm that tracks program trading activity, has noticed that institutions are becoming much more selective in stocks that are being BOUGHT and SOLD, when these institutions set up their lists for baskets of stocks to be bought/sold when a buy/sell program they initiate is generated. In essence, stocks a program trading firm like Goldman Sachs might deem a "dog," or "overpriced" will be weighted more heavily when they initiate a sell program, while another stock that they deem as being a "winner," or "undervalued" will be weighted more heavily for buy programs the firm initiates.

When I think of this explanation, I could then think that of the 100 stocks in the S&P 100, a program trading firm might weigh 30 of those stocks more heavily toward the sell side and of those same 30, have no weighting when the firm executes a buy program. Then they may have another 30 stocks that they weigh more heavily toward the buy side when a buy program is initiated, but of those 30 stocks, none of them will be weighted on the sell side.

Let's quickly cover, or review, just how a buy or sell program premium is generated. I'm going to use Wednesday's (02/16/05) trade as my example. It was a "boring" session as the S&P 500 Index (SPX.X) finished relatively unchanged, and traded within a 7-point range.

Aside from the opening tick, when the cash (SPX.X) opened lower (immediately generated a sell program premium) to "catch up" to the lower overnight trade in S&P futures (sp05h), there was one (1) sell program premium, and one (1) buy program premium generated during the entire session.

Here is a 3-chart montage I put together to try and show you how the buy and sell program premiums are generated. S&P futures (sp05h) are at the top, the cash S&P 500 Index ($SPX.X) is in the middle, and the Premium of S&P 500 Futures ($PREM.X) is at the bottom. All a trader needs to understand is that it is the DIFFERENCE between futures and cash, which then creates the ARBITRAGE, that results in a buy or sell program premium then being generated.

S&P Futures, Cash and Premium Montage - 5-min. intervals


 

My focus on the buy program will become apparent later in the article, but it was a KEY observation for me on Wednesday. Look at the Premium chart (lower chart). On Wednesday, HL Camp & Company had their computers set for program buying at $+1.82 and set for selling at $-0.26. I market both of these levels on the Premium chart. On my QCharts trading platform, I will set an UPSIDE alert for the symbol $PREM.X (that's the QCharts symbol. Other trading software programs may use different symbols, some trading software programs don't allow for the tracking of Premium).

What I've done above is set my cursor on the 5-minute interval covering the time period between 10:15-10:20 AM EST, where the "black box" for each of the three charts represents what futures (top), cash (middle) and Premium (bottom) were reading. You will note that for both the futures and cash I've also turned on my QCharts' DAILY Pivot analysis levels. It is my belief, based on observation, that these DAILY, and often times WEEKLY or MONTHLY Pivot analysis levels is where institutional computers will be set for buy/sell decision making. Therefore, I like to use pivot analysis when I'm trading.

Traders should understand that there is a finite point in time (a second) when a buy or sell program premium is generated. A program premium can last one second, or several seconds, but it would be VERY unusual for it to last minutes. A BUY program premium execution level ($+1.82) was generated on Wednesday between 10:15-10:20 AM EST, and with my cursor set on that interval, the ARBITRAGE (difference) between futures (top) and cash (bottom) was found.

See the slight "gap" in the cash (middle) chart between its interval high when the buy program PREMIUM was generated, and how the futures (top) came right up to its daily pivot of 1,210.06? This is a VISUAL way to understand the ARBITRAGE, or "difference."

But for a BUY program to have been generated, there had to have been a BASKET of STOCKS (cash) being bought to generate the buy program premium.

You can actually see the buy program starting to run if you look closely. How? Look at the DAILY S1 of 1,206.83 in the futures (top) and what the 5-minute bars looked like in the bars just PRIOR to when the futures rose to their DAILY Pivot of 1,210.06. Now compare that observation to the cash (middle) chart, and similar time interval. See the ever so slight difference? The cash (middle) was a little "stronger" at its DAILY S1 of 1,206.23, as if buying was GREATER in the cash market. This makes sense if a BUY program premium is ever going to be generated. It isn't until there is a large enough DIFFERENCE, or ARBITRAGE, that the premium level, or alert is then sounded!

To further understand the quick nature of a buy program, and sometimes it POWER, you can also see how the difference between the 5-minute intervals (10:15-10:20) of the futures and cash (high-low) are just about 1.0 point different over the course of that 5-minutes. From 10:15-10:20 the high/low range of futures would show a 3.5-point move (1,210.00-1,206.50 = 3.5). From 10:15-10:20 the cash would show a 2.49-point move. Now remember the slightly more bullish trade in cash, leading up to the 10:15-10:20 time interval.

We can now begin to comprehend how institutional computers were BUYING a basket of stocks, which had the cash market a little stronger, and once the program was in full swing, what "had to happen?" Futures better play CATCH UP! In and EFFICIENT market, brief moments of DIFFERENCE get quickly discovered, and either computers, or traders will look to PROFIT from the brief INEFFICENCY, until EFFICIENCY is found.

After that BUY program premium was generated, what took place? It's like the gas ran out, and the futures and cash markets just came back to DAILY S1. Boring.

But wait! Somebody was BUYING a BASKET of stocks. But which ones?

Since I follow the Dow Industrials (INDU) in the OptionInvestor.com market monitor (that's my MARKET), I started sniffing around. Good chance that one of its components might show some type of positive change, and perhaps give a clue as to what institutional computers were BUYING during the buy program. While I didn't discuss the SELL program premium, I'm also aware of that program (it took place from 10:00-10:05), and I can now look to see what impact, if ANY it may have had on a stock, or SECTOR INDEX that I'm following, or trading.

Thought: Hmmmm... a buy program premium is generated, but it really had little lasting impact. Nothing unusual as the SPX is pinned between its static DAILY S1 and DAILY Pivot, which is where I'd expect computers set for buying (daily S1) and selling (daily pivot) to keep things in check, until broken.

Clues: But those computers are buying something! If HL Camp isn't pulling my leg, then maybe institutional computers are being much more select in the baskets of stocks they are buying. As I began looking for clues inside the Dow Industrials (MARKET), I noticed Alcoa (NYSE:AA) was a percentage gainer and alerted traders to its action in the Market Monitor.

Here's a 3-chart montage of S&P futures (top), Alcoa (middle) and the Premium (bottom) chart. With daily pivot levels still turned on, do you see what I see? I know what the SPX.X looked like. How does AA compare?

S&P Futures, Alcoa (AA) and Premium montage - 5-min. intervals

Hmmmm.... at the OPENING tick, when Premium (bottom) first generates a sell program alert, AA was pretty steady at its DAILY Pivot. At 10:00-10:05 when a SELL program premium is generated, AA has now moved ABOVE its DAILY R1.

Clue: Alcoa may not be on that day's list of stocks set for SELLING! If a stock isn't on a list for selling, what might happen to its PRICE? Either it stays unchanged, or might rise with the MARKET? For a bull, you've at least eliminated one negative variable. AA is a component of the S&P 500 (SPX.X).

Now, I didn't notice AA's move until just before 11:00 AM EST, when it had already moved well above its DAILY R2 of $30.20. But I also consider AA as the aluminum SECTOR bellwether.

Clue: When a sector bellwether is moving higher, other "like stocks" may also be on the move. A trader will often-times sniff out some other trades in the same SECTOR.

Thought: Hmmmm... Alcan (NYSE:AL) is another large ALUMINUM maker. What's it doing?

Here's a 3-chart montage of S&P futures (top), AL (middle) and Premium (bottom).

S&P Futures, Alcan (AL) and Premium montage - 5-min. intervals


 

I looked at Alcan's (AL) chart and within the daily pivot level, it looked a little STRONGER than the futures (or even the SPX). What SHOULD I HAVE TRADED bullish (had I been aware earlier in the mornings) as it moved above its DAILY Pivot? Alcoa (AA)? Yes! Go long Alcan (AL)!!!!! Boom! As you can see, AL was MUCH stronger than my TARGET of $37.06, but boy, I sure won't complain about the gain in a "boring" market. You never know for CERTAIN just how far a stock can move in what might end up a range-bound broader market trade. See the VOLUME spike on AL where I point with "buy list?" Sometimes a stock that is slated for buying, or selling when a program premium is generated, will show a volume spike. That makes sense if the stock is on a BUY or SELL list for that day. While Alcan (AL) is NOT a component of the S&P 500, we might think that other market participants made the tie with it and Alcoa (AA).

Don't think I didn't continue to watch AA and AL moving after AL hit my bullish traders target and we exited the trade.

Thought: The day is still young. There's got to be another trade out there.

Clues: Hmmmm.... what that? The Dow Jones US Steel Index ($DJUST) is on fire! Aluminum? Steel?

Here's a 3-chart montage of futures (top), the ($DJUST) SECTOR, and Premium.

S&P Futures, Steel Index and Premium montage - 5-min. intervals

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Hmmmm... the $DJUST looked similar to AA and AL. It also looked stronger in its DAILY Pivot that S&P futures (or SPX.X).

Thought: I wish I had traded AA from the opening bell. I made money trading AL bullish, and pretty quick at that.

Clue: There's got to be another trade in the making. What are some steel stocks?

I quickly pulled up a QCharts' Steel/Iron hot list of stocks, sorted by percentage gainer, to see what was moving.

Steel/Iron Stocks -


 

Now... Nucor (NYSE:NUE) is a stock that is usually a "top of mind" stock for me, when I think about steel. Do steel/iron stocks look like they might have been in favor on Wednesday? I've got a PINK arrow by IPS, as it was a stock I profiled for a bullish trade, but I looked at Nucor (NUE) first. It was already up 4%.

Here's a 3-chart montage of S&P futures (top), NUE (middle) and Premium (bottom).

S&P Futures, Nucor (NUE) and Premium montage - 5-min. intervals


 

It was at 12:21:06 that I noticed steel stocks "were hot." What I really LIKE about PIVOT analysis, is that DAILY, WEEKLY and MONTHLY pivot levels are static during the DAY, WEEK or MONTH. It gives a trader a reference point for observation. Darned! I wish I had traded NUE long from that DAILY Pivot ($57.20) level.

On the NUE chart, I point to volume. Nothing too noteworthy. the STOCK was sure moving with the SECTOR though. I'm surprised that NUE didn't show some volume action, as it is a component of the S&P 500 Index (SPX.X). When your in "overdrive," maybe you just don't need as much gas.

Thought: Hmmmm.... what's this Ipsco (IPS) look like?

S&P Futures, Ipsco (IPS) and Premium montage - 5-min. intervals


 

Hey! See that action at the DAILY Pivot? I've seen that today (Wednesday). At 12:21:26, NUE had already traded its DAILY R2. At 12:26:05, I thought a BULLISH trade in Ipsco (IPS) needed to be made at $47.75. Play the pattern until it quits working, especially when you're building profits along the way. Suddenly, a "boring" session gets exciting. More importantly. PROFITABLE!

Ipsco (IPS) is NOT a component of the S&P 500 Index (SPX.X), but we can probably see how the "sector association" or "like stock" association is made.

Conclusion:

Buy and sell program premiums can be a trader's alert to some meaningful and sudden buying, or selling taking place SOMEWHERE! Even the MARKET (INDU/SPX/OEX/NDX) isn't moving all that much, these buy/sell program premiums certainly suggest SOMETHING is being bought/sold in aggressive amounts.

HL Camp's comments regarding institutions being "select" in what they may be buying/selling should only instill the importance of MARKET, SECTOR, then STOCK selection.

What is a trader going to do if/when the stock markets trade sideways? How are we going to make PROFITS if EVERYTHING is trading sideways?

On a "boring" day of trade, when YOUR market isn't moving and you become alert to a buy or sell program premium, start looking around.

The Dow Industrials (INDU) is an easy place to start as it holds just 30 stocks. The components, thought narrow in scope, will most likely give a trader a SECTOR/GROUP bellwether status, and point to begin looking for CLUES.

The NASDAQ-100 Index (NDX.X) is also very easy for the dedicated trader to look for clues. I like to use the NASDAQ-100 Heatmap http://screening.nasdaq.com/Heatmaps/Heatmap_100.asp
as an easy starting point. How difficult is it to look at what is GREEN and RED to try and pick out what's hot, and what's not? If the NDX.X/QQQQ is trading in a tight range during the day, but buy/sell program premiums are being witnessed, then there may be a trade to be found in one of the components.

As mentioned earlier, I like to use pivot analysis levels, as the levels are STATIC, and allow the trader to make observations relative to a LEVEL of trade. If you see three biotech stocks that have all moved up to a DAILY R2, or WEEKLY R2, and here comes another stock that is lagging the move by an hour, or a day (relative to its WEEKLY Pivot levels), then that stock is a likely bullish candidate! Same thing would work if you see a sell program premium, find stocks falling to a lower level. I associate this PATTERN trading similar to a bunch of dominos tipping over.

There's nothing that says software can't be moving up the same day biotech is moving down, when the QQQQ, which you like to trade, is doing NOTHING!

StockCharts.com's S&P Sector Carpet at this http://stockcharts.com/charts/Carpet.html can also be useful for quickly observing what areas of the MARKET might be benefiting most from buy program activity, or suffering the most from sell program activity.


Trader's Corner

Technical Analysis Is for the Birds

This week, a major firm announced plans to lay off its technical analysts. On CNBC, Art Cashin referred to "cocktail-napkin technical analysts."

Who can blame them after watching trading patterns the last few years? During periods over the last three years, technical analysts themselves might have termed technical analysis for the birds. Perhaps they might have even employed stronger language to express the same sentiment. Supposedly reliable formations proved anything but reliable.

Daily Chart of the OEX, 2003:


 

Daily OEX Chart, 2005:


 

Thirty-Minute Chart of the NDX, September 2004


 

The three charts above exemplify situations in which prices broke in a direction counter to that predicted by the formation. Why bother with technical analysis? Why not rely solely on fundamental analysis?

There's the obvious reason. Despite the impression given by its failures, technical analysis often does work.

Fifteen-Minute Chart of G:


 

Thirty-Minute Chart of the TRAN


 

Another obvious point exists. No formation proves 100 percent reliable, and we should expect failures. Market guru Pring deems head-and-shoulders pattern one of the most reliable of all chart formations, but he cautions that a neckline break must be decisive if the formation is considered confirmed. He mentions cases of H&S failures, in which the neckline is never breached or breached only briefly before a reversal back through the neckline. Such H&S failures often result in strong rallies, but Pring prefaces even this outcome with the modifier "usually." Perhaps, as we've educated ourselves on different aspects of technical analysis, learning to recognize chart patterns and formations, we've set our expectations too high. Just because we recognize a pattern doesn't mean we should forget to apply the word "potential" to the outcome.

Perhaps. But you'll still have difficulty convincing those who traded through the spring of 2003 or the choppy pullback in the first quarter of 2004 that their expectations were too high. During the spring of 2003, bearish chart developments most often resolved to the upside even when volume considerations, bearish divergences and other signals corroborated the bearishness of the formations. During that period, "faith" trading, trading when play participants had faith that the markets would move higher even in the face of formations opposing their views, appeared to be as good a tactic as studying technical analysis.

That wasn't true in the directionless first quarter of 2004, however. Neither faith traders nor technical traders fared particularly well. Choppy markets chopped both types into uniform small bits. Setups often saw confirmation in the expected direction but failed to follow through and soon reversed. During that period, battling bearish and bullish formations could be discovered, with biased bulls and bears both finding plenty of evidence to support a trade their preferred direction, seducing the unwary into plays doomed to see a quick reversal.

So what's to be concluded? Sometimes technical analysis works and sometimes it doesn't? That's one conclusion, but a technical analyst could also argue that as much is to be learned from technical analysis failures as from setups that work well. Go back to Pring's example of a failed H&S pattern. One can be found on the SMH's 30-minute chart.

Annotated 30-Minute Chart of the SMH:


 

Given the fact that failures remain inevitable, no matter how good the setup, this one worked just as would be expected, with an explosive gain. Bears were alerted that bullish fervor remained strong enough to absorb supply. The get-in and get-out points provided were clear-cut. Technical analysis did in fact work.

It did in the spring of 2003, too. Repeated instances of failed bearish formations alerted bears that markets had an underpinning that was not going to let markets decline. Technical analysis worked during that choppy period in early 2004, too, at least as long as traders heeded the signals given and did not insist on always being in the market.

Annotated 15-Minute Chart of the SMH, January, 2003:


 

Formations broke apart before completing. Regular H&S's and inverse ones formed side by side. While none of these formations performed as might be expected, the accumulated evidence from their failures demonstrated the disorganization in the markets. Technical analysis worked. While it might have been possible to enter at least one profitable trade here, the accumulated evidence warned traders to beware the choppy conditions. Experienced traders would have known to step aside until a clearer pattern asserted itself. Until technical analysis worked in the expected way.

Whether in the expected way or not, technical analysis does work and serve as a beneficial adjunct to fundamental analysis. Sometimes technical analysis reveals a disorganization or something unexpected occurring, warning traders to step aside. Sometimes formations set up just as expected, confirm in the direction expected, and meet the expected targets. Technical analysis is for the birds: wise birds better known as owls.

Today's Newsletter Notes: Market Wrap by Jim Brown, Trader's Corner by Linda Piazza, Ask The Analyst by Jeff Bailey, and all other plays and content by the Option Investor staff.

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