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Daily Newsletter, Tuesday, 05/24/2005

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Table of Contents

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

Market Wrap

Five Days and Counting

We've been in a tight range now for 5 days--the DOW has had a maximum range of about 130 points during this time. We're either consolidating for a big run to the upside or we're topping. Depending on which camp you throw yourself into you view this past week's action as either bullish or bearish. An argument can easily be made for either side. It was looking as though the market was on hold while we waited with baited breath for the minutes from the last FOMC meeting. After the minutes were released we saw a grand total of about a 30-point move in the DOW, top to bottom, and that was it. Obviously the market was not on hold for FOMC but instead is either digesting last week's gains or preparing to roll over and head back down. As I mentioned last week, if you're long the market I would simply keep your stops relatively close and let the market prove that it has topped. The shorter your time horizon for your trading, the tighter your stop should be. For those who like to play the short side, there is some evidence that the market may have topped on Monday but based on today's corrective decline, that may be premature. Likewise on the trading time frame--the shorter your time frame the tighter your stops. There could be a little more downside work to do tomorrow but then be ready for potentially a little more rally.

We've been in the middle of an interesting time study using Fibonacci ratios of the number of days between turning points in the market. The idea is to use January 14, 2000 as the anchor point (that was THE high in the DOW before the bear market) and then count the days from that date to various turning points in the market. Using Fib ratios of 38% and 62%, and the inverse of 62% which is 1.618 (the golden ratio) we can calculate future potential turn dates based on previous turn dates. For those who don't follow the daily comments in the Market or Futures Monitors, an example was the March 7, 2005 turn date. Using the January 4, 2002 high (493 trading days from January 14, 2000) divided by .382 gave us 1291 days. Added to Jan 14, 2000 gave us March 8, 2005. Using the turn date of March 21, 2003 (797 days) and dividing by .618 gave us 1290 days or March 7, 2005. So when we were rallying into that March 7/8 period, it predicted we would have a high at that time. That was a strong turn signal based on 2 prior turn dates pointing to the same window. A less powerful signal, based on a minor turn date on May 12, 2003 (832 days), divided by .618, gives us 1346.3 days which gives us a May 25/26, 2005 potential turn window. That's tomorrow/Thursday and what I'm not sure of yet is whether or not the market topped a little early (yesterday) or has a little more rally left. Based on some significant resistance levels the market is banging its head into at the moment, and overbought daily indicators, it's looking like this turn window will again mark a high in the market. Based on the Elliott Wave pattern, there is strong evidence that the market will turn down and head for new annual lows. But that's jumping the gun a bit here--we need to see what the pullback looks like when it comes to help us determine what's coming next. And the short term picture is a little unclear at the moment. So bulls should be tightening their stops and bears will want to sharpen their claws but keep them retracted for the time being. Keep looking for grubs (short term trades) until we get a better short signal.

Overnight news was minimal and even price action barely budged to the news that U.S. home sales rose 4.5% in April to a record seasonally adjusted rate of 7.18M versus an expected staying flat at 6.88M. This was the fastest pace on record. March sales were revised marginally lower to 6.87M from 6.89M. But the inventory of unsold homes rose 8.1% to 2.48M which is a 4.2 month supply which may be nothing more than more people getting their homes on the market for the spring selling period. The median sales rose 15.1% to $206,000 which is the fastest year-over-year price gain in 25 years. Bubble? Nah. I just hope you can find a chair when the music stops. Helping home sales is the continued low mortgage rates which have stayed lower than forecast (down to 5.71% in the latest week from 5.83% in April and 5.93% in March). There are a large number of loans being made to sub-prime borrowers as no-down payment, interest only loans so the loan portfolio of banks and other lending institutions such as Fannie Mae and Freddie Mac has been subjected to increasing risk. And of course this risk is hedged with derivatives. Lord help us when the house of cards is subjected to a wind.

Following up on last week's charts, the rally is holding up but starting to look a little weak in the knees.

DOW chart, Daily

The DOW has stalled at the highs in late March/early April which is also the location of the broken uptrend line that runs from March 2003 through the October 2004 low. This would be a natural area for the DOW to fail and if it were to pull back significantly from this broken uptrend line it will look like a kiss goodbye, a classic sell signal. The form of the rally off the April low makes it look like a corrective bounce against the March-April decline. The 50% retracement of that decline is at 10493 which also makes this area a natural place for the bounce to stall out. The daily oscillators are overbought and threatening to roll over. I wouldn't want to initiate a long here which means at a minimum you should be protecting long positions by pulling your stops up closer. There is an internal Fib projection that points to the possibility that the DOW could rally up to just above 10,600 which would coincide with the top of a potential parallel down-channel. If we get a rally up to that level I would consider it a strong shorting candidate.

SPX chart, Daily

The SPX is essentially a copy of the DOW. One difference is that SPX has retraced 62% of the March-April decline near 1194. The April high and the broken uptrend line are both offering resistance as well. Like the DOW, there is the possibility for a little more rally in this index and any rally up to 1200-1204 would set it up as a strong shorting candidate. Buy puts, sell bear call spreads, short stocks, whichever is your preference.

Nasdaq chart, Daily

The Nasdaq continues to look the most bullish right now. As mentioned last week, there's very little resistance up to 2100 and it's looking like it has that level in its sights. Whether it manages to get up there will depend in part on the larger market. A rally up to there would make for an excellent shorting opportunity. Because so many people would be anticipating I suspect we'll never see it.

SOX index, weekly chart

A few of us have been talking about the weekly chart of the SOX on the Market Monitor and I thought I'd share some of the things we've been discussing about this index. Today's closing price looks bullish--it closed above its 200 weekly moving average as well as its downtrend line from January 2004, both of which fall in the 426-428 range. But a quick review of the past times this index has met its 200-wma shows it has only over-thrown it by a few points but hasn't been able to close above it since March 2002 and this is its 6th attempt. At its last attempt in February 2005 it made it 9 points above this weekly average. The same over-throw this time would take it up to about 437. If the broader market manages to rally a little further, this one obviously could too but the risks to the upside are obvious here so those in long positions should be thinking about profit protection here.

In some other market news it was time to beat up on GM again. Their senior unsecured bonds were downgraded by Fitch Ratings. Fitch said "the move reflects the continuing decline in GM's North American sales of key mid-size and large SUV products, increasing product and price competition in the large pickup market, and the corresponding impact of these two segments on consolidated profitability." Fitch also said it believes that declining volumes and profitability, coupled with potentially crippling manufacturing and legacy costs (read pension benefits and retiree health costs) will result in negative cash flow through at least 2006 and therefore believe the outlook for GM remains negative. The move by Fitch, which will become a contributing rating agency for the benchmark Lehman Bond Index in July, will result in GM being dropped from the index, since 2 out of 3 ratings agencies have now downgraded GM's debt to junk and many funds cannot hold any noninvestment-grade bonds in their portfolios.

There was some further consolidation in the transportation industry as Yellow Roadway (YELL) completed its $1.5 billion acquisition of USF Corp. The USF companies will join New Penn Motor Express to form YRC Regional Transportation, to be headquartered in Akron, Ohio.

The FOMC minutes were released at 2:00 pm and left the market with just another reason to move just enough to hit some stops but really not go anywhere. Some highlights of the release were that some members tried to remove the "measured" language in their description about how they'll continue in the pace of rate increases. They wanted to be sure "measured" does not preclude larger moves or no moves at all. The FOMC was not especially concerned about the buildup in inventory and think the "soft patch" is most likely "transitory". While they believe inflation is likely to edge lower, they remain concerned about the inflation outlook. Apparently there were only a few members worried about a slowdown that might be caused by the 7 straight rate hikes since June 2004. So it was pretty benign and I don't think the market saw anything that hasn't already been known or figured out. The bottom line for the equity market though is that it doesn't look like the FOMC thinks it's close to ending rate hikes.

GOOG got another big jump early today as JMP Securities started coverage with a strong buy and a $310 target. They expect "the global paid search market to grow in excess of 25% annually for the next three years and for Google to grow at slightly higher rates than the overall market due to its strength in overseas markets, which is the fastest growing segment of the search market today." Ah, 1999 lives on. I'm not sure about those growth figures for the industry, but I don't argue with their outlook for GOOG. That is one powerhouse that is firing on all 12 cylinders. JMP stated it "expects the company's "stunning" profit margins to continue to rise, albeit at more modest rates, and that it anticipates Google will roll out new products, such as an instant messaging platform and a Web browser, over the next few years." I have no doubt they're right about that. Look out Microsoft.

Looking at some other market movers, the story on oil is essentially the same. I know we have many people following the price of oil (if only to figure out what it's going to cost us to drive this summer). There are also many people playing Jim's LEAPs selections and the majority of these are oil stocks. 

Oil chart, June contract, Daily

Oil has continued to work its way lower in a choppy fashion. The pattern to the downside is taking on a bullish descending wedge appearance. It may get a little more upside to the currently bounce or turn lower to its potential support at its uptrend line from late 2003 which is also where its 200-dma is located--both near $47.30. There's no real divergence yet apparent on this daily chart so calling a bottom at the last low may be a bit premature.

Oil Index chart, Daily

The oil index continues to look similar to the chart of oil and another low in oil could be matched by another low in this index which would bring it down to its longer term uptrend line and 200-dma. Depending on the amount of time to drop to that support, it might look like a double-bottom test. Watch for a break of the downtrend line near 455 as an indication a bottom is in. For those of you in the LEAPs call options, we could be close to the point where you'll want to take profits on your put options purchased for insurance.

Transportation Index chart, TRAN, Daily

With the oil price staying below $50 the Trannies have rebounded nicely. Price is now getting close to the top of a potential parallel down-channel and the 62% retracement of the March-April decline at 3683. A bottoming in oil price would likely mean a topping in this index. Also, with the broader market looking tired, this one may be topping soon as well.

U.S. Home Construction Index chart, DJUSHB, Daily

The housing market continues to do well and it's reflected in the home construction index. Tomorrow morning we have the numbers for new home sales so watch the reaction in this index to those numbers. Price has rallied back up to the top of its longer term up-channel and could roll back over at this resistance level. Again, the action in this index will likely follow the broader market. 

U.S. Dollar chart, Daily

The US dollar has continued its rally but it looks like it could be getting ready for at least a little further consolidation (pullback) before an expected resumption of its rally. I would expect any pullback to stay above the top of its recently broken ascending triangle at about $85.40.

Gold chart, June contract, Daily

The downtrend in gold is still in progress--it's been in a steep down-channel since late April. If the US dollar pulls back a little further I would expect gold to break its downtrend. Whether or not it will be able to rally back up to its broken uptrend line, currently near 427.50, remains to be seen. The break of that trend line leaves the gold chart looking bearish. Keep an eye on the dollar to get some clues about gold's move.

By closing in the green today, the Nasdaq made it 8 straight days in a row in the green. This is the first time the Naz has done this since December 1999. Ah, 1999 all over again. Too bad the Naz isn't anywhere close to where it was in 1999.

Sector action was generally positive today, if not lackluster. The leaders were the gold and silver index, the energy indexes and computer and networking indexes. Interestingly the leading loser was the REIT index. This was caused in part from a Merrill Lynch downgrade on several REITs, a day after Morgain Stanley REIT index reached an all-time high. The auto manufacturers, the airline index and broker/finance indexes were the other losers. The losses today by the banking index is not what we want to see if in bullish positions. Fears that the Fed would continue to increase interest rates had a negative impact on the banking sector. Countering this though was the action in bonds--they continued their rally which of course drops the yields. It's as though the bond market is blowing one big raspberry at the Fed saying they don't care what the Fed thinks. The bond market is apparently more worried about recession than inflation. My bet will always be with the bond market--probably some of the smartest people work in that business.
The Commerce Department will report on new home sales for April tomorrow morning. Economists are looking for a decline to 1.33 million sales on an annualized basis from 1.42 million in March. If it's any worse than that, watch that home manufacturing index. Good luck trading tomorrow.


New Plays

New Option Plays

Call Options Plays
Put Options Plays
COL UTHR

New Calls

Rockwell Collins - COL - close: 49.10 chg: +0.60 stop: 44.95

Company Description:
Rockwell Collins is a leader in the design, production and support of communications and aviation electronics solutions for commercial and government customers worldwide. (source: company press release)

Why We Like It:
We like COL for its relative strength. The stock and the defense sector are trading at or near all-time highs. Now that the major stock averages are in a new up trend we expect COL to continue its own bullish trend. However, the DJIA, the S&P 500 and especially the NASDAQ Composite are all short-term overbought and due for a small consolidation. We want to use any such pull back to our advantage. If you look closely at the daily chart for COL you'll notice that investors have bought the last five dips to its 100-dma. If the market pulls back then COL could pull back to this technical support. We'll suggest a trigger to buy calls on a pull back in COL toward the simple 100-dma. Since the 100-dma is a moving target we'll continue to adjust the entry as needed. However, for today's terms we would buy a dip (or a bounce depending on your style) if COL trades in the $45.50-46.25 range. We'll set a short-term target at $50.00 but we may end up adjusting this higher. The P&F chart is bullish and points to a $69 target. 

Suggested Options:
We're not suggesting plays at this time. Look for a dip toward the 100-dma. If we're triggered we are suggesting the July calls.

Picked on May xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 04/27/05 (confirmed)
Average Daily Volume = 800 thousand 

New Puts

United Thera. - UTHR - close: 53.38 chg: -2.42 stop: 56.05

Company Description:
United Therapeutics is a biotechnology company focused on the development and commercialization of unique products for patients with chronic and life- threatening cardiovascular, cancer and infectious diseases. (source: company press release)

Why We Like It:
We like UTHR for its brand new MACD sell signal with the stock extended from its March-May run up. UTHR produced a MACD sell signal back in late April but this time volume on the sell signal is about three times normal. We do admit that this is a speculative play based on the technical sell signal and the fact that the major stock indices are short-term overbought and due for a pull back. We believe that if the major averages do decline that the profit taking in shares of UTHR will occur more quickly. The risk here is that the major indices just keep climbing and get more overbought. Yet we believe that with the NASDAQ up eight days in a row odds are in favor of a dip. One could easily argue for UTHR's relative strength compared to the rest of the market and we agree. Readers can actually watch UTHR for a bounce from support near $47.50, which would be a new bullish entry point. We're going to target a drop into the $48.25-47.50 range, just above technical support near the 100-dma.

Suggested Options:
July puts are available but currently have no open interest. Junes are also available but we're going to suggest the August puts.

BUY PUT AUG 55.00 FUH-TK OI= 826 current ask $5.00
BUY PUT AUG 50.00 FUH-TJ OI=1593 current ask $2.55

Picked on May 24 at $ 53.38
Change since picked: - 0.00
Earnings Date 05/03/05 (confirmed)
Average Daily Volume = 452 thousand 


Play Updates

In Play Updates and Reviews

Call Updates

Amerada Hess - AHC - close: 91.80 chg: +0.65 stop: 86.25

Another bounce in crude futures and a positive session for the oil indices helped AHC add another 0.7 percent. The stock looks poised to breakout over the $92.00 level, which looks like short-term resistance. We see no change from our previous updates. Our target is the $93.50-94.00 range. 

Picked on May 17 at $ 89.41
Change since picked: + 2.39
Earnings Date 07/27/05 (unconfirmed)
Average Daily Volume = 1.6 million 

---

Amer. Intl Group - AIG - close: 53.80 chg: +0.35 stop: 52.49

AIG spent most of the session trading lower but a late-day rally helped spur the stock into the green. We remain on the sidelines waiting for shares to breakout over resistance at the $55.00 level and hit our entry point at $55.05. 

Picked on May xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 02/09/05 (confirmed)
Average Daily Volume = 15.5 million 

---

Caterpillar - CAT - close: 93.83 chg: -0.21 stop: 89.00

CAT is still in limbo here. The DJIA is short-term overbought and due for a dip. Until we see that dip, which we expect to weigh on shares of CAT as well, we would not suggest new bullish positions. 

Picked on May 18 at $ 92.35
Change since picked: + 1.48
Earnings Date 04/20/05 (confirmed)
Average Daily Volume = 2.8 million 

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Career Education - CECO - close: 34.99 chg: -0.15 stop: 32.45

No change from our previous update on 05/23/05. We're expecting the market to dip and CECO should dip with it. Wait for the pull back before considering new bullish positions. 

Picked on May 23 at $ 35.24
Change since picked: - 0.25
Earnings Date 05/02/05 (confirmed)
Average Daily Volume = 2.5 million 

---

Federated Dept Stores - FD - cls: 69.02 chg: -0.46 stop: 64.45 

Rival retailer Dillards (DDS) reported earnings today and missed results by 8 cents a share. The stock (DDS) lost more than eight percent. This weighed on the retail sector and shares of FD as well. We're not suggesting new positions at this time. More conservative traders can plan an exit in the 69.50-70.00 range. We're targeting a move into the 69.95-70.00 range. If the market pulls back we expect FD to pull back with it. The 10-dma near 66.50 is the next likely form of support.

Picked on May 17 at $ 66.60
Change since picked: + 2.42
Earnings Date 05/11/05 (confirmed)
Average Daily Volume = 2.9 million 

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Reynolds American - RAI - cls: 82.69 chg: -0.18 stop: 77.95

No change from our previous update on 05/22/05. We're still suggesting that readers look for a dip (probably in the $81-80 range) before considering new bullish positions.

Picked on May 16 at $ 81.31
Change since picked: + 1.38
Earnings Date 04/27/05 (confirmed)
Average Daily Volume = 866 thousand 

---

United Technologies - UTX - cls: 107.00 chg: -0.64 stop: 102.45

No surprises here. After Monday's big gain a little bit of profit taking was in order. It's encouraging to see the $106 level hold as support but if the Dow finally seems some profit taking UTX could trade even lower. Don't be surprised to see a dip to the $105 level. 

Picked on May 23 at $106.25
Change since picked: + 0.75
Earnings Date 04/20/05 (confirmed)
Average Daily Volume = 2.0 million 

Put Updates

Precision Castparts - PCP - cls: 75.84 chg: +0.11 stop: 75.05

No change from our previous update. We are still waiting for PCP to breakdown under support and hit our entry point at $71.95.

Picked on May xx at $ xx.xx <-- see TRIGGER
Change since picked: - 0.00
Earnings Date 05/03/05 (confirmed)
Average Daily Volume = 492 thousand

Dropped Calls

Eli Lilly - LLY - close: 58.62 change: -0.10 stop: 57.99 

It was somewhat of a volatile day for shares of LLY. The stock opened lower but support at the $58.00 level held. Traders bought the dip but the rally stalled again this time near $59.30. We don't like the relative weakness and would rather find another bullish candidate to focus on. We're exiting early for a loss. 

Picked on May 04 at $ 60.15
Change since picked: - 1.53
Earnings Date 04/18/05 (confirmed)
Average Daily Volume = 4.7 million 

Dropped Puts

None

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