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Daily Newsletter, Monday, 08/22/2005

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Table of Contents

  1. Market Wrap
  2. New Option Plays
  3. In Play Updates and Reviews
  4. Options 101

Market Wrap

Post-opex Squaring

Post-opex Mondays tend to be a little more volatile than the previous Friday. Most opex positions are squared prior to Thursday and certainly before Friday which leaves very little to be done on a Friday, especially so on a summer Friday. But Monday is when many new option positions are reestablished and it can cause some extra volatility. Also, during the summer months when traders return to work after their vacations they take care of their buying and selling so the combination can cause some extra volatility and it looks like today was one of those days. Unfortunately neither side was able to make a statement. While we saw a swing in the DOW greater than 100 points, it ended up essentially flat on the day. To those who check the end of the day scores, we had a slightly positive day, just like Friday, but intraday was quite different. The equity market continues to mark time leaving us guessing what its next move will be.

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It was a relatively quiet Monday as far as economic reports (no major reports today) and individual stock reports. Early in the morning the blue chips got a boost from Procter & Gamble (PG 55.20 +0.62), which was mentioned favorably in this weekend's Barron's about PG's $57B deal for Gillette (G), a better than expected Q1 (July) earnings from Heinz (HNZ) and a Citigroup upgrade on Archer Daniels Midland (ADM). There were some new M&A announcements including China's CNPC bid to pay $4.18B for PetroKazakhstan (PKZ 53.75 +8.35) while OSI Pharmaceuticals (OSIP 31.92 -8.85) agreed to acquire Eyetech Pharmaceuticals (EYET 18.13 +4.14) for $935M in cash and stock.

All this "good" news resulted in a gap up this morning followed by a rally up to a 10:00 high, giving the DOW an 80 point boost in 30 minutes. Investors seemed more focused on the slew of upbeat corporate news while the absence of any major economic data kept the fear out of the market. Then the market flattened out until noon when the sellers hit it and the DOW lost nearly 100 points in an hour. Once that was done we went into a boring sideways tight trading range for the rest of the day. So if you weren't quick on the trade button, you probably missed those two trades and got chopped up trying to trade the consolidation. We could see similar activity this week since it's expected to be a rather quiet week in terms of key events, and it's still summer.

Technology, as reflected in the SOX index, also showed relative strength, getting a boost from Intel (INTC 26.06 +0.41), which is expected to unveil new chip architecture at this week's Developer Forum. Motorola (MOT 20.91 +0.46) rose 2.1% amid analyst commentary suggesting that their Razr sales are tracking ahead of forecasts in Korea. There were some upbeat comments out of Goldman Sachs on EMC Corp. (EMC 13.29 +0.12) which gave it an early boost with a gap up but then it sold off for the rest of the day ending up in negative territory. I'm sure Goldman Sachs didn't have some inventory to unload giving them a reason for their upgrade. That would be unfair and I know they play fair (cough). Linear Technology (LLTC 38.07 +0.72) also received an upgrade from Banc of America. While not an S&P component, Research In Motion (RIMM 77.49 +4.21) got a nice 5.8% boost amid reports that it is entering into a new development deal with Intel.

Maytag's (MYG $18.69 -0.02) Board gave the OK to acquire Whirlpool (WHR $81.48 -0.35) valued at $21.00 per share. The Maytag Board has recommended that stock holders adopt the agreement.

While the daily charts look like the market is marking time, the intraday charts tell us a little more. But let's see what the longer term picture looks like.

DOW chart, Daily

The DOW's daily chart shows a choppy decline that looks more like a bull flag than anything else. It's currently being supported by its 50 and 200-dma's but if price drops through that support, watch for the lower uptrend line near 10450 for support.

SPX chart, Daily

This daily SPX chart shows a steep up-channel in place since early May and how price is finding support at its 50-dma and the uptrend line. The daily oscillators are into oversold so a bounce is either in progress or is right around the corner. Based on the larger pattern I am expecting another rally leg that takes us into September. If it plays out this way, this leg up will be the last one and will mark THE market high before resuming the great bear market.

SPX chart, 120-min

Zooming in a little closer on that steep up-channel I show a bullish descending wedge as price has worked its way sideways/down to the bottom of the channel. We should get an answer tomorrow to the question about the short term direction of the market. While price is being supported by the daily 50-dma and the uptrend line, it may need one more small leg down to finish the pullback. If tomorrow we see price rally higher than today's high, that will be longer term bullish and the pattern as depicted on this chart will look to be in motion. But if price drops back below today's low then it will look like we've got some more downside work to do. We could get an under-throw of the descending wedge, perhaps down to just above 1210, and that should then be followed by a rally into September. There's an interesting Fib projection on this chart--if we get two equal legs up from the low on July 7th, and if today's low marks the end of the pullback, we get a Fib projection of 1278 (where wave-C = wave-A). That's also where an important Gann number is (1278). If wave-C is only going to get to 62% of wave-A, a common Fib relationship, that's at 1253 which is of course the same 1253 as the 62% retracement of the 2000-2002 bear market decline. It'll be interesting to watch to see if this plays out. The other interesting thing on this chart is that the top of the up-channel crosses that 1278 level the week of September 16th which is the next major Fib turn date. I've said before I don't have a clue what could cause this market to rally that high at this time of year and I have trouble believing it but when I see this many "coincidences" I take notice.

Nasdaq chart, Daily

The Nasdaq continues to struggle to hold onto its 50-dma. If it loses this battle, I see neckline support at 2100 as the next support level, and likely strong support for at least a good bounce.

SOX index, Daily chart

The SOX met its Fib target at the top of its up-channel (which looks like a bear flag on the weekly chart) so it could be on its way back down now. From an EW perspective it would look ideal with one more push higher to give us a 5-wave move up from its April low. It may have had a 4th and 5th wave in the little consolidation mid July so this index may in fact be done. I show the need for one more new high which should top out below 500 if it does. This one could be a good one to watch as our "canary in the coal mine" to see what the broader market does since it's a good reflection of the aggressiveness, and fear, of the buyers.

I'd like to pick up where I left off last Thursday about my longer term expectations for our market. While we play much shorter term swings in the equity market I think it's a good idea to keep one ear on the train tracks so you can hear the train coming early. Many people call me pessimistic because of my bearish views on the market. Nothing could be further from the truth. I'm a "glass is half full" kind of guy and I'm almost always cheery and see the bright side of things. But that doesn't make me blind to what is reality and the reality is we've been living on borrowed time due to the Fed's attempt to keep the economy on steroids. But just like the athletes who suffer long term ill effects from performance enhancing drugs, so too will our economy. The excesses of the past 23 years' phenomenal growth due to Greenspan's daily injections of cash (the market's drug of choice) will mean we'll see shrinkage later on, if you know what I mean.

Last Thursday's Wrap I discussed the government monetary intervention under Greenspan, the likes of which a "free" market has probably never before experienced. This created the 5th wave up (the last in an EW 5-wave impulse) and it was a blow-off top. It was built on hype, excessive valuations (which were deemed OK at the time because we were in a "new economy"} and was typical of a 5th wave that saw all kinds of long term negative divergences at the new highs. After a 5-wave move (up or down) the market will always then correct that move and corrections are typically 3-wave moves (or derivations thereof), labeled A-B-C. The market since 2000 has started the correction of this 5-wave move and the downward correction we call a secular bear market. The first leg down from 2000 to 2002 was wave-A. The cyclical bull market we've been in since October 2002 has been wave-B. Due next is wave-C down and c-waves in an EW pattern tend to be the strongest moves--faster and steeper than a-waves. And that's why I say the next leg of the bear market is going to be swift and scary and will eventually take us below the lows of October 2002. Even a decline back to the October 2002 lows is scary enough.

Many think EW analysis is like palm reading and I have to admit sometimes I look at this stuff and think I'm making it all up. But the basis of it is in the measurement of human psychology and the collective changes in social mood. Very simply, when we feel good we buy, when we feel bad we sell. Social mood has very predictable patterns in its swings and the stock market happens to be one of the best gauges of social mood (songs and the general tone of movies happen to be other good reflections). Major wars tend to break out at the completion of major bear markets. At any rate this social mood and the consequent swings in the market is what EW analysis "reads". One indicator that we all watch, which is a good measure of investor mood, is the VIX. While VIX has changed over the years, it's still a good tool to use as a rough comparison to itself and the market. When investors are feeling especially bullish they tend to not have many cares in the world and become complacent about the future. This is reflected in low VIX readings. When investors are frightened of the future and social mood swings to the negative side of the spectrum, investors buy a lot of insurance (put options) and become convinced the sky is falling. Consequently the VIX shoots higher indicating investors are more willing to pay higher option premiums. Today we have an extremely low, historically low, VIX. This is typical by the way of the first bear market rally (our current rally from October 2002)--bullish complacency typically exceeds that which is seen at the previous market high and that's exactly what we're seeing today. Today's level is much lower than existed at the market tops in 1998, 2000, and 2002. These low levels indicate extreme investor complacency and optimism. Yet the S&P has only gained back 56% of its value. But remember, the VIX is not a timing tool to trade the market since we have no idea how low it will go. It's that irrational thing (the market can remain irrational far longer than you can remain solvent fighting it).

VIX index, Monthly chart

As can be seen by this monthly chart of the VIX, the reading is much lower than that which we saw at previous market highs. The investing public is convinced we're headed to new all-time market highs. While I feel there's a chance we could rally a little more before topping out (jury's still out on that one), the market is now extremely vulnerable to starting the next leg down. Many people feel that we'll get a pullback and then head higher into the end of the year. The EW pattern does not support that at the moment but of course anything is possible. The preferred interpretation at the moment calls for another minor new market high (still looking for SPX 1253-1257, possibly as high as 1278) that should start very soon, perhaps this coming week, otherwise there may be a good chance the market high is already in. This pattern calls for the next bear market leg to begin once the high has been put in. In other words, if the market has already peaked and we start down in earnest now, we're not coming back. We will likely see a strong decline that takes us into the beginning of 2007 (yes, 2007 not 2006). What I'm trying to do at this point is figure out whether or not we've put in the last high or if we've got one more to go.

For those who may still feel that the bottom in October 2002March 2003 marked the end of the bear market I would make the following argument from a fundamental standpoint. At the market top in 1929 the average P/E ratio was 21 and at the bottom in 1932 the P/E was at 8.5. The top in 1937 had an average P/E ratio of 18 at the bottom in 1943 the average P/E ratio was 7. The top in 1973 had an average P/E ratio of 19 and at the bottom in 1974 the P/E stood at 7. At the market top in 2000 the average P/E ratio for the S&P 500 sat at a whopping 32 and at the market bottom in 2002 the average P/E was still at 28, much higher than any previous market top in the last 100 years. Here's a chart, courtesy Shane Rawlings, which shows the stock market since the 1929 crash.

DJIA chart, last century

Hopefully this chart is clear enough to read. If you can't read the two lines near the bottom of the chart, the first one reads "S&P needs to drop 60% to 483 to have a P/E of 8" and the second line reads "A similar drop in the Dow would take it to 4345". Now maybe it will be different this time and the bottom of the bear market won't need P/E's that low. But a dare say a P/E of 28 is still pretty high to mark THE bottom. Also, those numbers presume that earnings will stay the same and in a slowing economy that's not likely.

According to the Dow Theory discovered by Charles H. Dow the end of a bull market is accompanied by extremely high stock valuations and rampant speculation. And the end of a bear market is accompanied by great valuations in stocks and utter disgust toward stock by the general public. We certainly can state that the end of the 90's was marked by extremely high stock valuations and rampant speculation. But I think Mr. Dow might argue that a P/E of 28 at the market bottom in 2002-2003 was not a great valuation number for stocks. And there was certainly no disgust for stocks at that time. So until we see P/E's between 6 and 8 and utter disgust by the general public toward stocks this bear market has more work to do. That's not me being pessimistic, it's just recognizing that we human beings go through predictable cycles and there's no reason to believe that cycle is about to be busted.

Another measurement at a true market bottom are the dividend yields which are extremely high in order to attract buyers. Typical yields at market bottoms in the past have been 6% to 10%. The average dividend yield today sits around 1.5% but what we still hear is "why should we care about dividends, this is the new economy when things like P/E's and dividend yields don't mean anything because you can just buy a stock today and sell it for a higher price tomorrow." There is still a pervasive attitude that all one has to do is buy a stock and hold onto it since the market will always chug higher. This has been advised primarily by financial advisors who have only experienced the past 25 years. They look at a chart like the one above and say "see how the market just keeps going higher?" But you need to ask yourself if you could tolerate a pullback greater than 50% in the DOW that then takes > 20 years to recover, possibly much longer. Ask the people who took a 90% haircut in tech stocks and have recovered a whopping 25% of it by now. This "buy and hold" attitude was certainly prevalent in the run-up to the 1929 crash, and to the high in 2000, and it still exists today. No disgust whatsoever in the market, and in fact just the opposite.

Greenspan & Co. have artificially held our economy and the market up, rather than let it go through its normal cleansing cycle (the bust cycle gets rid of the waste and inefficiencies and makes the next boom period that much healthier). Think of it as a healing process rather than a negative (that's me looking at the brighter side). And for those of you comfortable trading the short side in the market, you will likely see unprecedented profit opportunities. Many people look down on short sellers, but think about who has the money to start buying the market again when it hits bottom. So all we have to do is identify when we're into a down trend so that we can start trading that way. As I show in most of my charts, we are close to breaking uptrends but the longer term charts are still bullish. There's still a chance we could get another rally leg higher and it could last several weeks. That's why I continue to caution against too big a short position at this time. You'll have plenty of time to enjoy a good ride down. Catching the top is not that important (it's fun when you do, but it's also one of the riskiest parts of trading). So moving on to the other sectors let's see if they're giving us a different read than the major indices.

BKX banking index, Daily chart

The Financials are interest-rate sensitive and have a lot of influence on the broader market. They've actually shown resilience lately in the face of higher borrowing costs, as investors have been looking for bargains in a sector that has underperformed all three of the major averages. But the bounce in the banks looks labored and corrective. This index continues to give me a bearish impression and really makes me question the likelihood of another rally in the majors to a new high. If the banks can climb back above the 200-dma (again), watch the downtrend line from last December, currently near 101.

Oil chart, August contract, Daily

Energy paced the way higher today as worries about supply disruptions in the Middle East helped crude oil prices extend gains. This chart is the September contract but the new front month is October which I'll use next week. The larger price pattern makes it look like we'll consolidate for a little while before getting one last thrust higher to finish a longer term rally in oil. The upside Fib target is $69.27 as per this chart, $69.23 on the October contract. If that happens in the next few days instead of consolidating first beneath that level, I'll be looking for evidence of topping. I believe oil will then be set up for a much longer and deeper pullback.

Oil Index chart, Daily

Even though crude oil futures barely closed higher, the Energy sector extended last Friday's 1.5% surge by closing marginally higher as well. The oil index bounced up to near the broken uptrend line before pulling back again, giving the appearance of a kiss goodbye on that trend line. The daily oscillators are pointing to more downside action so watch for additional pullback on this index, either now or after an attempt to push marginally higher than today's high. I think it's too early to be thinking long on a dip here.

Transportation Index chart, TRAN, Daily

The Trannies look like they could go either way here, somewhat like the broader market. If they are to drop a little further, watch for support at the 38% retracement of the rally up from June, at 3653, which might also have its 200-dma there at the same time. If the broader market starts its next leg up, I expect the TRAN to also rally to a new high and it may try for its 3900 Fib target in that case

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

This index continues to see profit taking. If it's to press a little lower I see support at the uptrend line from last October, or slightly higher than that. But this index is now oversold and it sports a clean 5-wave decline which says it's ready for a bounce. However, since the decline is a 5-wave impulse we should get some kind of 3-wave corrective bounce and that will lead to another leg down so look to short the next rally that leads to overbought on the daily. That might be the leg that breaks the uptrend and has it heading down to the 200-dma.

U.S. Dollar chart, Daily

After bouncing off its 200-dma the US dollar bumped its head on the 50-dma and its broken uptrend line, giving it a kiss goodbye. At the same time the daily oscillators are rolling back over. This looks like a good short. One thing that will continue to deflate the value of the dollar is what the Fed is doing. As the Fed continues to pump more money into the monetary system, it devalues the dollar and increases the risk of inflation. M-3 is up over $60B in the past month, an 8% annualized growth rate, which is more than double the GDP rate. It's up over $153B, almost 7%, in the past 3 months. And this at a time when they keep talking about the risk of inflation and how they have to stay vigilant and keep raising interest rates, blah, blah, blah. Meanwhile the man behind the curtain keeps pumping money into the system to keep the pump primed. This is what is helping keep equities and bonds afloat. When the music stops there will be hell to pay. And by the way, with a higher risk of inflation due to the Fed's actions, watch bonds for a good selling opportunity. Once they get a whiff of the inflation bonds should sell off a lot harder than they have thus far.

Gold chart, August contract, Daily

After breaking out of the consolidation pattern, gold is fighting to hold on here. If the dollar continues to drop then maybe that will give the gold bulls a reason to buy. They need to do so quickly otherwise a drop back inside this consolidation pattern would leave us guessing again which way gold is going to head longer term.

Earnings season is clearly winding down and with a quiet week ahead of us for economic reports, and this being a quiet summer period, we should probably not expect a lot of market action. Or if we do get market action it could be volatile like today due to the relatively low volume which is easier to spike around with a buy or sell program. Speaking of earnings though, of the 95% of the S&P 500 companies having already reported quarterly results, 71% have beaten analysts' expectations. Sounds pretty good but I often wonder how many are beating lowered expectations. It's pretty worthless information really....

Tomorrow's economic reports include the following:

Tomorrow's trading could end up being a little choppy as the bulls and bears duke it out for control. We should get an answer tomorrow, assuming either today's high or low will be broken (in other words we don't up with an inside day), as to which direction the market should head in the short term. If we break below today's low, play the downside for a little longer. If we break above today's high that would signal that the end of the pullback is here and I would look to buy the dips. The larger price pattern still suggests that once this pullback is finished we should then get another rally leg out of it. So even if we get the downside move tomorrow, it should be the finishing touch to the pullback we've been in for some 6 weeks now. The lack of impulsive movement to the downside leads me to believe that we've been in one large sideways/down correction of the previous rally. That means we should head to new highs once it's done.

The only way for this bullish scenario to get knocked on its fanny is for the market to start charging to the downside and I mean a rapid sell off, not just a continuation of the meandering downward path we've been on. The pattern needs a swift decline to prove out the bearish wave count, such as what getting an outside shock to the system might do. Without that violent sell off I see this pullback coming to an end. And if the pullback is coming to an end the larger pattern is quite clear--a rally to a new annual high is coming. As I showed on the SPX chart above, I've been waiting and watching for SPX 1253 to get hit and we almost got there in July. Had we pulled back more sharply from that high I would say that was it, THE high, time to get shorty in a major way. It hasn't happened that way. Therefore I'm thinking we'll try for it again but this time I now see the possibility to extend higher and hit the 1278 Fib/Gann target and do it by September 16th, a major Fib turn date (and opex Friday and near a full moon). I of course have no idea if that will happen but there are enough things lining up now to say there's a good possibility for it to happen. And if we do get the new high, the larger price pattern says that will be it, finit, kaput, stick a fork in it, the rally will be done and it will be time to get short for the long slide down the hill. Until this question clears up I suggest trading lightly, swing both ways, take profits early, look both ways before crossing the street, don't eat yellow snow and have fun. Good luck.
 


New Plays

New Option Plays

Call Options Plays
Put Options Plays
None None

New Calls

None today.
 

New Puts

None today.
 


Play Updates

In Play Updates and Reviews

Call Updates

Kerr Mcgee - KMG - close: 86.72 chg: +0.73 stop: 81.99

An intraday spike higher in crude oil helped keep the momentum alive for oil-related stocks. Shares of KMG hit another new all-time high this morning before the stock pared its gains. If traders don't feel like chasing KMG here then watch for a possible pull back toward the $84.50-85.00 region and buy the bounce. Our short-term target is the $89.50-90.00 range.

Picked on August 21 at $ 85.99
Change since picked: + 0.73
Earnings Date 07/27/05 (confirmed)
Average Daily Volume = 2.4 million

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Sierra Health Svs. - SIE - cls: 68.31 chg: -0.70 stop: 66.95

There is no change with our strategy on SIE. We're waiting for a breakout over round-number resistance at $70.00 and technical resistance at the 50-dma. Our suggested entry point to buy calls is at $70.11. If triggered our target is the $75.00-75.25 range.

Picked on August xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 07/25/05 (confirmed)
Average Daily Volume = 426 thousand
 

Put Updates

Best Buy Co - BBY - close: 47.45 chg: -0.20 stop: 51.01

Retail stocks continued to under perform the market on Monday and shares of BBY followed suit with its second decline under its 50-dma in as many days. We continue to target the $45.50-45.00 range but would not be surprised to see BBY bounce from here and retest the 50-dma or its 10-dma as overhead resistance before moving lower again.

Picked on August 08 at $ 49.31
Change since picked: - 1.86
Earnings Date 09/13/05 (unconfirmed)
Average Daily Volume = 5.0 million

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Building Materials - BMHC - cls: 74.68 chg: +2.07 stop: 75.01

The homebuilders under performed the market today but that didn't stop BMHC, a supplier for the industry, from bucking the trend and posting a strong 2.8% gain. We cannot find any catalyst for today's show of strength in BMHC. It is worth noting that shares are very close to resistance at the $75 mark and its 50-dma. More importantly traders need to be defensive here as BMHC looks poised to breakout to the upside from its two-week trading range. Our stop loss is at $75.01.

Picked on August 16 at $ 71.33
Change since picked: + 3.35
Earnings Date 07/26/05 (confirmed)
Average Daily Volume = 289 thousand

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Carnival Corp - CCL - close: 51.13 chg: +0.20 stop: 52.51

An analyst firm reiterated their "out perform" rating on shares of CCL today and that helped propel the stock higher at the open. The rally was short lived but CCL still looks poised to rebound toward the $52 level and technical resistance at its 100-dma and exponential 200-dma. We're not suggesting new plays at this time as short-term oscillators are pointing higher and its MACD is nearing a new buy signal.

Picked on August 10 at $ 51.79
Change since picked: - 0.66
Earnings Date 09/15/05 (unconfirmed)
Average Daily Volume = 2.5 million

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Federated Dept. Stores - FD - cls: 71.90 chg: -0.45 stop: 75.75

Retail stocks under performed the broader market today and contributing to the group's decline was FD, which broke down under minor support at the $72 level. Today's decline under $72 has opened the play at our suggested trigger of $71.99. Our target is the $67.00-65.00 range but we fully expect to see a bounce on the way down at the $70 mark and/or its 100-dma. Readers can open positions here or watch for a failed rally under its 10-dma near $73.40.

Picked on August 22 at $ 71.99
Change since picked: - 0.09
Earnings Date 08/10/05 (confirmed)
Average Daily Volume = 2.2 million

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Fedex Corp - FDX - close: 83.84 chg: -0.93 stop: 86.01

FDX under performed the broader market and its peers in the transportation sector today. We remain on the sidelines with a suggested trigger to buy puts at $82.99. Yet we can't help but wonder if today's decline, pulling its technical indicators lower, might not be the beginning of the next leg lower. More aggressive traders might want to consider positions with FDX under the $84 level.

Picked on August xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 09/22/05 (unconfirmed)
Average Daily Volume = 2.0 million

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F5 Networks - FFIV - close: 37.90 chg: +0.06 stop: 40.01

There has been very little follow through on FFIV's oversold bounce. The stock has essentially churned sideways for the past three sessions. Yet it may be worth noting that the short-term trend is one of higher lows. We are not suggesting new plays at this time. Traders with open put positions might want to tighten their stop losses.

Picked on August 03 at $ 38.76
Change since picked: - 0.86
Earnings Date 07/20/05 (confirmed)
Average Daily Volume = 1.4 million

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Google - GOOG - close: 274.01 chg: -5.99 stop: 293.01

Monday proved to be an interesting day for GOOG. We were expecting a bounce back toward $284-285 to fill the gap down from last week. Instead the early morning strength was very quickly sold and the stock hit new relative lows at $273.35 before managing an afternoon bounce, which also failed. This sort of action makes GOOG look even weaker and our target at the 100-dma is looking pretty good. The 100-dma is currently at $261 but we're using a range of $262-260 to exit. Keep in mind this is a moving target and we're updating the exit price as we go. In the news today GOOG confirmed reports that it was working on a new sidebar program, which is being seen as a threat to both Yahoo (YHOO) and Microsoft (MSFT).

Picked on August 11 at $284.50
Change since picked: -10.49
Earnings Date 07/21/05 (confirmed)
Average Daily Volume = 13.6 million

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Ingersoll Rand - IR - close: 78.98 chg: -0.08 stop: 80.61

The action in IR today might be interpreted as a positive for the bears. The early morning rally failed at the $80.00 mark but unfortunately there was not much follow through to the downside. IR still has short-term support at the $78.00 level, which is why our suggested entry point is at $77.49. Remember, we do not have much time left in this play because we do not want to hold over IR's September 2nd stock split. That means that if IR doesn't hit our trigger soon we're going to exit early.

Picked on August xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 07/21/05 (confirmed)
Average Daily Volume = 1.1 million

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KOS Pharma - KOSP - close: 67.85 chg: -1.67 stop: 72.51

Biotech stocks under performed the market today and KOSP helped lead the way down with a 2.4% decline on above average volume. This decline broke technical support at its simple 50-dma and the move under $69 has produced a fresh Point & Figure chart sell signal that now points to a $62 target. Our suggested entry point was $68.25 so the play is now open. Our target is the $62.00-60.00 range. However, if the 100-dma rises above $62.00 we'll adjust the target to the 100-dma.

Picked on August 22 at $ 68.25
Change since picked: - 0.40
Earnings Date 08/04/05 (confirmed)
Average Daily Volume = 642 thousand

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3M Co. - MMM - close: 71.92 change: -0.15 stop: 74.46

There is nothing new to report on for MMM. The stock's intraday volatility left it with a 15-cent decline, which erased Friday's 15-cent gain. MMM could be trying to build a base here so we are not suggesting new plays. More conservative traders may want to tighten their stop loss. Our target is the $70-68 range.

Picked on July 19 at $ 74.29
Change since picked: - 2.37
Earnings Date 07/18/05 (confirmed)
Average Daily Volume = 3.4 million

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Simon Prpty Grp - SPG - close: 75.43 chg: +0.37 stop: 77.26

We see no changes from our weekend update on SPG. More conservative traders may want to wait for a decline under $74.75 before considering new plays. Our target is the $70.75-70.00 range near its 100-dma.

Picked on August 18 at $ 75.24
Change since picked: + 0.19
Earnings Date 07/28/05 (confirmed)
Average Daily Volume = 946 thousand

---

United Parcel Svc - UPS - cls: 72.35 chg: +0.87 stop: 74.21

UPS is still trying to bounce from the $71.50 level and its 50-dma. Today the stock had some success and we would not be surprised to see UPS trade near the $73 level before the bounce failed again. We would not suggest new positions until UPS traded back below the $72 mark or even the afternoon low near $71.80. Our target is the $68-67 range.

Picked on August 17 at $ 71.99
Change since picked: + 0.36
Earnings Date 07/21/05 (confirmed)
Average Daily Volume = 2.6 million

---

Wynn Resorts - WYNN - close: 49.00 chg: -0.35 stop: 54.01

Shares of WYNN continued to sink lower today confirming Friday's breakdown under round-number support at the $50.00 mark. We see no changes from our weekend update. Our target is the $45.25-45.00 range.

Picked on August 19 at $ 49.95
Change since picked: - 0.95
Earnings Date 08/01/05 (confirmed)
Average Daily Volume = 2.0 million
 

Dropped Calls

None
 

Dropped Puts

None
 


Options 101

Gamma - The Greeks: What Really Do They Mean?

Part II of III - It's All Greek To Me

The Theory Behind The Practice

The GAMMA of an option tells you how much the Delta of an option
changes as underlying stock or stock changes. In Part I of our series on DELTA, we learned that every option has a DELTA, but we need to
expand on that knowledge to include the fact that the value of
that DELTA changes as the stock value changes. As the stock goes up or down in value, the DELTA also changes.

Scenarios

(Example: A call option, which is near the money and has a DELTA of 50,
would see an increase or decrease in that DELTA as the price of
the stock rises or falls.

(e.g. If the hypothetical stock RRR was at 200 and went up 20
points and it RRR 200 call increased 10 points, the DELTA, which
was at 50 may change and go up to a DELTA of 60. The higher the
stock goes, the greater the DELTA becomes of that option as it
moves deeper into the money.

GAMMA tells you the rate at which the option will increase or
decrease as the stock moves up or down.

(i.e., If the RRR 200 call, had a GAMMA of 3, this would mean that
the DELTA would increase 3% for every point rise in the stock.

With the stock trading at 200, Let's look at the example below.

DELTA GAMMA
RRR Jan 200 Call @ 4 50 4

(The above option has a DELTA of 50 and the GAMMA is 4.

This would mean that if the stock goes to 205, the option that was at 4 would go to 6 (because of the DELTA of 50, then the GAMMA of 4) would increase the DELTA to 52 because (4% increase of 50 is 2, 50+2 = A 52 DELTA)

If the stock goes up another 5 points to 210, the option would go
up to 9 1/8, and the DELTA of 52 would now go up to 54 because of
the GAMMA of 4.

See the Table Below

RRR 200 205 210
RRR JAN 200 Call 4 6 9 1/8
DELTA >>>>>>>>>> 50 52 54
GAMMA >>>>>>>>> 4 4 4

Note: This is a hypothetical example of how DELTA relates to the
GAMMA function. In the real world the GAMMA would also change in
relationship to the stock.

Puts and Calls have GAMMA values, and understanding GAMMA will
help you to determine how much the DELTA of your option will
change. By using GAMMA, you know how much the DELTA will change
and GAMMA will let you know how quickly you must adjust your
positions.

Please keep in mind that this would require constant monitoring
and a lot of time. Unless you are a trader who wants to constantly
monitor positions, this should just be a lesson for you to become
familiar with how GAMMA and DELTA work together, and give you a
better understanding of their inter-workings.

Option Hedgers are always adjusting positions attempting to keep
these positions DELTA NEUTRAL.

Now, let's recall our definition of GAMMA, it defines the rate or
the speed or how much an option will increase or decrease DELTA
points as the Underlying stock moves.

The DELTA on a call option increases with the increase of the
stock, but as am stock decreases, so does its DELTA. GAMMA just
tells you how fast the change is taking place.

( e.g. An option with a GAMMA of .5 would tell us that for every
point rise in the stock, we would have a 1/2 point rise in the
DELTA of the option being traded. If the GAMMA were 2, the DELTA
would increase 2 points for every 1 point move in the stock.

(see example below )

IF
RRR STOCK DELTA GAMMA
MOVES MOVES EQUALS
1 point 1 point 1
1 point 2 points 2
1 point 5 points 5

The Real World Visual:

Figure 1-1: An Option trading sheet demonstrating the relationship of DELTA and GAMMA - ERICY

The Bottom Line

Unfortunately, just as DELTA is not constant, neither is GAMMA.
That's right GAMMA changes in value, just like DELTA. The GAMMA
is highest when the option is at the money. The further out of
the money the option is, the greater decreases in the GAMMA,
meaning slower and smaller changes of the DELTA. Also, as get
closer to expiration, GAMMA will change.

Gamma is significant because it helps you manage and measure how
much risk you are taking. We learned that DELTA was important
because it taught us that options move at varying amounts in
relationship to the stock, and you might also need several options
to get the same result as the move of the underlying stock. If we
know DELTA , we cam determine how many options we need to equal
the move of the underlying stock.

GAMMA becomes important because DELTA is always changing and as it
changes we learned that one may need to readjust one's positions.
Knowing GAMMA helps to determine how quickly the DELTA is going to
change and put you in a position to make adjustments.

Most traders use positions with relatively low GAMMAS to reduce
their risk. The reason is because they want their DELTAS to
change less, hence they don't have to re-adjust their positions as
much.

Big GAMMA positions are usually considered riskier, because you
could be caught long or short much quicker than you would like to.

JUST A NOTE IN CLOSING: GAMMAS like DELTAS have a negative or positive designation.

Long Positions = Positive GAMMAS
Short Positions = Negative GAMMAS

Until Next Time
 

Today's Newsletter Notes: Market Wrap by Keene H. Little, Options 101 by Steven Gail, and all other plays and content by the Option Investor staff.

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