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Daily Newsletter, Tuesday, 08/30/2005

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Table of Contents

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

Market Wrap

Katrina Toll Mounts

News about the damage from Katrina is getting worse with every minute that passes. Damage to the oil and gas infrastructure is still days away from even being known and weeks to months from being repaired. Millions of residents are without power and water and hundreds of thousands are without homes. Cost estimates are now over $30 billion and continuing to rise. It could be weeks before an accurate count of lost lives can be tallied. Since Friday's close and the sharp drop in oil prices the price of all energy components has shot up to new records and there is no end in sight.

Dow Chart - Daily

Nasdaq Chart - Daily

SPX Chart - Daily

There are no words to describe the devastation except to say that it could be years before the impact of Katrina is completely erased. The market volatility is increasing as the damage becomes known. Some analysts claim the rebuilding effort will produce record profits for companies that supply materials such as lumber, cement and other products like furniture and appliances. With estimates of up to 50,000 cars destroyed there is expected to be surge in auto sales. Insurance companies will take a serious hit but they will also raise rates to recover those losses and cover future events. Despite any profits from the rebuilding effort there will be a large hit to the GDP for the current quarter and Q4 from businesses unable to open for business until repairs are made.

The economic reports released today were completely ignored given the harsh reality of pictures from New Orleans. Chain Store Sales fell -0.3% for the fourth consecutive weekly drop. Factory Orders fell -1.9% in July for the largest decline in 15 months. Durable goods orders fell -4.9%. On the flip side the FOMC minutes for the August 9th meeting were surprisingly upbeat despite indications that inflation had increased. Most of that increase was due to higher energy prices. The Fed raised their estimates of economic growth for the rest of 2005 based on this new data. They also lowered estimates for 2006 growth based on expectations for higher rates and even higher energy prices. They saw demand increasing and consumers starting to spend some of their cash. They did see some evidence of slowing in several regions and expressed concern over how the housing bubble would unwind. They noticed some banks had tightened loan requirements and were reducing use of non-standard mortgage products. This suggests that banks are worried that the housing boom has run its course.

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Contrary to the Consumer Sentiment last week the Conference Board Consumer Confidence survey rose to 105.6 from 103.2 for August. This was an unexpected jump with consensus estimates for a drop to 100.3. The largest boost came from a jump in the present situations component from 119.3 to 123.6. Consumers with plans to make a major purchase dropped across the board. Those who planned to buy a home dropped to 3.4% from 3.8%, autos to 6.3% from 7.6% and major appliances to 29% from 31.7%. With this across the board drop it is surprising that the headline number rose. Given the jump in gasoline prices and the damage from Katrina the odds are good confidence will drop in the next release.

According to retailers U.S. consumer demand is evaporating as gasoline prices rise. Finish line added its name to the list of companies warning and was knocked for a -13% loss. Gasoline prices are set to rocket over $3.00 probably before you read this commentary. Gasoline futures rose +20% today or +41 cents to a new record of $2.49 and are up another +7 cents in after hours. To see what this means to gasoline prices in your area you can add 48 cents to the last price per gallon you paid. That equates to $3.14 in Colorado and could break $3.50 in many areas of the country. This is only the beginning and it could be a major blow to consumers.

Unleaded Gasoline Chart - Daily

Natural Gas Chart - Daily

Crude Oil Chart - Daily

The major problem with gasoline is damage as a direct result of Katrina. 10% of already strained U.S. refinery capacity is offline with much of it not expected to come back online for weeks to come. Several refineries that did not experience damage are offline due to power outages. Entergy said they had two electric plants offline and it could be as much as six weeks before they are operational again. Just getting them operational is only half the battle. The electric grid in Louisiana has been severely damaged and much of it is still under water. It could be months before electricity is restored to all the major areas. Valero said its refinery could be back in operation within two weeks once power is restored. XOM and Murphy oil both have refineries down due to lack of power. Chevron can't even get to one of its refineries due to high water. The Louisiana area is not the only area with power problems. The railroads that run through the area have been shutdown and supplies of coal for power plants north and east of the area are backing up on the railroads for hundreds of miles. Electric plants consume huge amounts of coal and those 100-car trains have to keep running to feed that appetite. If the tracks are not put back into service soon there could be power shortages all over the southeast.

Not only are the refiners offline but the crude supplies necessary to feed the refineries has also been cut sharply. There are several major pipelines that run through the New Orleans area and while they were not severely damaged the lack of power and lack of new supplies has caused shutdown of several. The Colonial pipeline from Houston to New York and a major supply of oil supplies to the North East is down and that means refineries in the North East have nothing to refine. There is a very good chance there will be a shortage of gasoline very soon. Not only will prices continue to rise but supplies will continue to shrink.

The government said late today that 95% of Gulf oil production is still shut in and 88% of natural gas supplies are shut in. A shortage of fuel in the area is limiting the access to the more than 4000 rigs/platforms off the coast of Louisiana. Boats and planes simply do not have enough gas to make the trip. For those who have reached some platforms they are finding heavy damage to quite a few. It could be weeks before the extent of the damage is known and that means weeks before any major uptick in oil/gas production. The Louisiana Offshore Oil Port, (LOOP), seems to have escaped major damage and operators claim they can have it back in operation within hours of having power restored. The LOOP is the only deepwater terminal for oil tankers and processes 1.3 mbpd of imported oil. Without the LOOP running those tankers are just parked offshore waiting to unload.

This is another problem that will build for the future. If the tankers are parked there for several weeks then the steady flow of oil from around the world will cease. Tankers will stack up in the Gulf but none will be headed back to ports in the Middle East, South America, etc to reload. The orderly tanker traffic will stagnate and it will take weeks for the flow to recover once offloading begins again. This means 20-40 days out there will be a loss of imports while we wait for the newly unloaded tankers to make the return trip to get a new load. The entire tanker supply chain will be impacted with schedules thrown out the window.

Late reports claim that Newfield has lost a production platform in the Gulf. Diamond Offshore said one rig was a total loss. Global Sante Fe has located five of their rigs adrift with two grounded and listing. Rowan said it lost one rig valued at $8.4 million. These are just the early reports and the damage reports are going to get much worse as rigs are found. Many rigs have radio locator beacons to allow tracking but many of those with beacons are reported to have stopped transmitting. That suggests they may have sunk. Apache is still trying to locate and verify damage to 336 of its 386 platforms but was being hampered by a shortage of fuel and a shortage of aircraft.

On Friday investors sold off oil on late reports that Katrina was going to miss the oil fields. When it became apparent that Katrina was taking dead aim on the New Orleans energy sector oil and natural gas futures soared to new highs on Sunday night. Those highs were broken on Tuesday as they will probably be broken again and again as the week progresses. This is a major catastrophe and nobody knows what the end result to the U.S. energy picture will be. Crude oil rose to $70.90 intraday and refused to back off appreciably with it trading at $70.20 in after hours. $75 appears to be a sure thing and several analysts think $80 is not out of range. Unleaded gasoline hit $2.50 in after hours and is currently holding at $2.55. Natural gas, now well over the $10 threshold that held for most of August, hit a high of $12 and is holding at 12.20 overnight. All of these prices will continue to rise until we work through the damage in the Gulf. This is a period where we should be building up supplies of heating oil, jet fuel and diesel for the high demand in Q4. With all the operating refineries unable to satisfy demand for just gasoline over the next four weeks it is going to put us way behind the demand curve for Q4. This is as close as we can get to the perfect storm for energy.

In just the last two months wholesale gasoline has risen +90 cents or +60% to $2.50 from $1.56. Only an idiot would deny that this is a major problem for the U.S. economy. Despite being down today the markets are still not factoring in the impact this will have on the economy and on corporate profits. Investors are in denial. They feel we have hurricanes every year, so what? They always cause damage and it never causes a problem anywhere but where it hit. Why should we be worried this time? Because of the damage to the oil infrastructure at a critical time in the supply cycle. While $3 gas may be painful it is not going to be as bad as $3.50 or higher. When investors are in a block long gas line in New Jersey, Chicago or even Montana just waiting to dole out precious dollars for limited supplies they may realize then that this was more than just a southern storm.

So far this week the Dow is up +16 points despite the Katrina pounding. Yesterday's spike was sold today but it still closed back over 10400. Two days now the Dow has dipped to 10350 only to recover as dip buyers appeared in the face of disaster. The support level at 10400 is clearly defined but I believe it is temporary. The Nasdaq refuses to break the 2120 level and the SOX is actually up for the week. Novellus warned after the close and dropped sharply. This could weaken that SOX support for techs. Today was the second highest volume in the last eight days and the internals were negative at 3:2 in favor of decliners but not as bad as it could have been. The pickup in overall volume on a down day should worry those trying to buy the dips.

While I still think there are lower lows ahead we know that U.S. investors tend to buy after natural disasters. I believe this is one time that this trend will end badly. Despite the resilience of the major indexes the trend is still down. It should remain down as long as gas/oil continues higher. We are well past gas prices as a conversational topic at cocktail parties and we are approaching maximum pain at the pump. If this continues for the rest of 2005 it will undoubtedly cause a recession and one that could be severe. Already the Fed is reducing growth estimates for 2006 and that was before the hurricane. The hurricane damage is likely an offset to the Fed and there is a good chance they will stop their hikes after the September meeting. Rising interest rates and soaring energy prices would guarantee that recession. Bonds are already pointing to a slowdown ahead with a drop to 4.09% yield on the ten-year note today. This is a two-month low and a break under 4% would be a clear warning signal.

Investors will get a full calendar of economic reports tomorrow with the GDP, NAPM and PMI attracting the most interest. We will also get Semiconductor Billings, Mortgage Applicationa, Kansas City Fed Survey, and Oil and Gas Inventories. The oil inventory numbers will be for the prior week and should not reflect any change from Katrina. After this week each Wednesday inventory report will take on major implications as we head into the Q4 demand cycle.

My recommendation would still be to short the rallies until the trend changes and buy oil on any dip. The Strategic Oil Reserve will undoubtedly be tapped to help get us through this period but it should not produce any material long-term drop in prices. Refiners will still have to replace any oil used and at higher prices. This will not provide any material drop in gas prices. Any drop in crude on SPR comments should be seen as a buying opportunity. Also, I would avoid Marathon and Murphy Oil as they are seen as having the most exposure to the damage in the Gulf. Refiners Valero (+4.91) and Sunoco (+3.85) saw the strongest gains today on expectations that refining margins would increase for those still operating and able to process cheaper sour crude. Coal companies also soared on the drop in natural gas inventories. Electric plants will have to buy more coal to keep the lights on when they can't get the gas. BTU would be my choice in that sector. As always, enter long positions passively and only when the price comes to you and be ready to exit aggressively if the trend changes.
 


New Plays

New Option Plays

Call Options Plays
Put Options Plays
None ERTS
  URBN

New Calls

None today.
 

New Puts

Electronic Arts - ERTS - close: 56.41 change: -1.88 stop: 60.01

Company Description:
Electronic Arts (EA), headquartered in Redwood City, California, is the world's leading interactive entertainment software company. Founded in 1982, the company develops, publishes, and distributes interactive software worldwide for videogame systems, personal computers and the Internet. Electronic Arts markets its products under four brand names: EA SPORTS(TM), EA(TM), EA SPORTS BIG(TM) and POGO(TM). In fiscal 2005, EA posted revenues of $3.1 billion and had 31 titles that sold more than one million copies. EA's homepage and online game site is www.ea.com. (source: company press release or website)

Why We Like It:
We would normally be bullish on ERTS due to its 800-pound gorilla status in the growing business of video games. Yet the technical picture is drastically deteriorating for the stock. Maybe it's another reaction to investors worried about the impact of rising fuel costs on consumers' discretionary income. What we do know is that the technical picture is bearish and its P&F chart has a perfect failed rally at resistance and a new sell signal now pointing toward the $52 level but this target will probably be adjusted lower. Today's high-volume breakdown under technical support at its simple 200-dma looks like an entry point to buy puts. Our target is the $51.00-50.00 range. More conservative traders might want to wait for confirmation with a decline under the 100-dma near 55.85. Others might prefer to see a failed rally under the $57.50 region as a new entry point.

Suggested Options:
We are suggesting the October puts.

BUY PUT OCT 60.00 EZQ-VL OI=1106 current ask $4.80
BUY PUT OCT 55.00 EZQ-VK OI= 102 current ask $2.05
BUY PUT OCT 50.00 EZQ-VJ OI= 143 current ask $0.65

Picked on August 30 at $ 56.41
Change since picked: + 0.00
Earnings Date 10/25/05 (unconfirmed)
Average Daily Volume = 3.7 million

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Urban Outfitters - URBN - cls: 55.05 chg: -1.16 stop: 57.01

Company Description:
Urban Outfitters, Inc. is an innovative specialty retailer and wholesaler which offers a variety of lifestyle merchandise to highly defined customer niches through 82 Urban Outfitters stores in the United States, Canada, and Europe; an Urban Outfitters web site and catalog; 69 Anthropologie stores in the United States; an Anthropologie web site and catalog; and Free People, the Company's wholesale division, which sells its product to approximately 1,100 specialty stores, department stores and catalogs, as well as through 4 Free People stores and a web site. (source: company press release or website)

Why We Like It:
Another way to play the weakness in retailers is URBN. Analysts have not been too keen on the apparel industry this season and readers can see on URBN's chart that the short-term up trend has been broken. Longer-term the stock looks incredibly strong but we suspect that the current atmosphere of rising oil and fuel costs will continue to weigh on the retailers as a group. That could pull shares of URBN back toward stronger support at its 200-dma. Plus, the Point & Figure chart for URBN has already reversed into a sell signal now pointing to a $49 target. Our strategy is to use a trigger at $54.25. Currently URBN has found support near $54.50 twice this month and has additional support at the 100-dma (now at 54.50). If URBN breaks down we want to catch it and target the $50.25-50.00 range. The 50.00 level should be round-number, psychological support and the 200-dma (now at 49.23) will rise to bolster this area. Readers should know that URBN is due to split 2-for-1 on September 26th. While normally this might lend the stock some strength we believe the overall market weakness (with September traditionally being the worst month of the year) will prevail.

Suggested Options:
We are suggesting the October puts.

BUY PUT OCT 60.00 URQ-VL OI= 11 current ask $6.00
BUY PUT OCT 55.00 URQ-VK OI=119 current ask $2.80
BUY PUT OCT 50.00 URQ-VJ OI= 12 current ask $1.05

Picked on August xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 08/11/05 (confirmed)
Average Daily Volume = 1.1 million

 


Play Updates

In Play Updates and Reviews

Call Updates

Kerr Mcgee - KMG - close: 87.06 chg: +1.57 stop: 81.99

As Wall Street began to understand the amount of devastation that Hurricane Katrina actually did to the gulf coast and the oil infrastructure there the price of crude oil hit a new high at $70.85 a barrel. The U.S. Minerals Management Service said that 95 percent of U.S. oil and natural gas production in the gulf has been shut down. This sent oil stocks back toward their highs. Yet talk of the President approving a release from the Strategic Oil Reserve probably slowed the advance in oil stocks but crude still closed above $70. Meanwhile shares of KMG jumped 1.8% but remains under resistance at the $88.00 level. The company issued a press release stating that they have already opened their western oil platforms in the Gulf as they survived the brunt of the storm. We are strongly considering a change in our target price. The way things are shaping up with oil production and refining shut down in the gulf oil stocks could be strong for a while yet. We're going to suggest that readers consider selling half their position at our initial target of $89.50-90.00 and then the second half in the $92.00-92.50 region. Keep in mind that the strategic oil reserve remains an unknown variable. We do not know if the government will release oil from it, how soon, or how much. We do not know how Wall Street will react to the news. We suspect there will be a negligible amount released from the reserve and we're not expecting any sort of sell-off in oil stocks on the announcement.

Picked on August 21 at $ 85.99
Change since picked: + 1.07
Earnings Date 07/27/05 (confirmed)
Average Daily Volume = 2.4 million
 

Put Updates

AutoZone - AZO - close: 93.90 change: -1.47 stop: 97.75

Retail stocks were hit hard today with the RLX index down 1.67%. The markets are concerned about the rising price of fuel and its affects on the consumer. Plus, the hurricane's impact on store closures and lost sales are another worry. Shares of AZO dipped to $92.95 before bouncing. Look for the $96 level to act as short-term resistance in its current trend of lower highs. Our target is the 91.25-91.00 range near its simple 200-dma.

Picked on August 28 at $ 95.45
Change since picked: - 1.55
Earnings Date 09/20/05 (unconfirmed)
Average Daily Volume = 732 thousand

---

Carnival Corp - CCL - close: 49.09 chg: -1.01 stop: 52.01

Good news! CCL reversed yesterday's bounce and hit new lows today before a late day rebound. Shares lost just over two percent on above average volume, which should suggest more weakness ahead. Our target is the $47.75-47.00 range.

Picked on August 10 at $ 51.79
Change since picked: - 2.70
Earnings Date 09/15/05 (unconfirmed)
Average Daily Volume = 2.5 million

---

CDW Corp - CDWC - close: 59.59 chg: -0.56 stop: 62.01

CDWC tried to rally at the open but failed under its current trendline of lower highs. The stock closed back under round-number support at the $60.00 mark and under technical resistance at its 50-dma and 200-dma. We are waiting for CDWC to hit our trigger to buy puts at $58.99.

Picked on August xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 07/19/05 (confirmed)
Average Daily Volume = 867 thousand

---

Federated Dept. Stores - FD - cls: 69.48 chg: -1.05 stop: 75.01

Shares of retail giant FD lost ground today and slipped under support at the $70.00 level and its simple 100-dma as investors sold off the retail sector. As mentioned earlier Wall Street is concerned over how rising fuel prices will impact consumers spending money. Technically speaking today's breakdown came on above average volume, which is not generally a positive sign. However, the extra volume could be due to FD finally completing its $17 billion acquisition of May Department stores. According to FD's press release "May company shareholders as of the time of the merger on Aug. 30, 2005, will receive $17.75 in cash and 0.3115 shares of Federated common stock for each share of May Company common stock." Traders can look for the $70 level to begin acting as resistance. Our target is the $67-65 range.

Picked on August 22 at $ 71.99
Change since picked: - 2.38
Earnings Date 08/10/05 (confirmed)
Average Daily Volume = 2.2 million

---

Fedex Corp - FDX - close: 81.37 chg: -0.83 stop: 86.01

Transport stocks were hit again as the price of crude oil hit new highs. Shares of FDX lost one percent mirroring the decline in the Dow Transportation index. We do expect a bounce once FDX touches round-number support near $80.00 but our target is the $76-75 range. Watch for the $83 region to act as overhead resistance.

Picked on August 23 at $ 82.99
Change since picked: - 1.62
Earnings Date 09/22/05 (unconfirmed)
Average Daily Volume = 2.0 million

---

Google - GOOG - close: 287.27 chg: -1.18 stop: 290.51

We are surprised that GOOG has not yet stopped us out. If not for the market's weakness today shares of GOOG probably would have broken through the $290 level. We are not suggesting new plays. Instead we're suggesting that traders exit to avoid further losses even though this is a high-risk, speculative play.

Picked on August 11 at $284.50
Change since picked: + 2.77
Earnings Date 07/21/05 (confirmed)
Average Daily Volume = 13.6 million

---

Ingersoll Rand - IR - close: 77.53 chg: -0.11 stop: 80.01

Time is running out for IR to produce any sort of follow through on its bearish breakdown. The stock failed to participate in the market's weakness today and that doesn't bode well for bears. Remember that we're planning to exit on Thursday at the close to avoid holding over the stock split.

Picked on August 24 at $ 77.49
Change since picked: + 0.04
Earnings Date 07/21/05 (confirmed)
Average Daily Volume = 1.1 million

---

Illinois Tool Works - ITW - cls: 83.07 chg: -1.34 stop: 87.35

So far so good. ITW is trading lower from the top of its channel. Today's 1.58% decline put it back under its 50-dma. Our target is the $80.25-80.00 range.

Picked on August 23 at $ 85.05
Change since picked: - 1.98
Earnings Date 07/21/05 (confirmed)
Average Daily Volume = 1.2 million

---

KOS Pharma - KOSP - close: 65.86 chg: -2.12 stop: 70.51*new*

We don't have any complaints here. Shares of KOSP under performed its peers and the broader market with a 3.11% decline on very strong volume. The stock actually hit an intraday low of $63.85. An oversold bounce back toward $68.00 might be used as a new bearish entry point. Our target is the $63-62 range. We are lowering the stop loss to $70.51.

Picked on August 22 at $ 68.25
Change since picked: - 2.39
Earnings Date 08/04/05 (confirmed)
Average Daily Volume = 642 thousand

---

3M Co. - MMM - close: 70.98 change: -0.10 stop: 72.25*new*

Hmm... shares of MMM don't appear to be going anywhere. The stock didn't react to the market bounce on Monday and it's not reacting to the market weakness today. That makes us cautious. Could MMM be trying to build a base here above the $70 level. Our target is $70.00 but we've been suggesting that traders consider an early exit in the $70.50-70.00 region. We're going to lower our stop loss to $72.25.

Picked on July 19 at $ 74.29
Change since picked: - 3.31
Earnings Date 07/18/05 (confirmed)
Average Daily Volume = 3.4 million

---

Simon Prpty Grp - SPG - close: 74.56 chg: +0.23 stop: 77.01

SPG seems to be having trouble producing any sort of bearish follow through on the recent breakdown. The stock has bounced twice from the $73.50 mark in the last two days. The overall pattern suggests more weakness ahead but readers should use caution considering new positions. Watch for the $75.00 level to act as overhead resistance. Our target is the $71.50-70.50 range near its 100-dma.

Picked on August 18 at $ 75.24
Change since picked: - 0.68
Earnings Date 07/28/05 (confirmed)
Average Daily Volume = 946 thousand

---

United Parcel Svc - UPS - cls: 70.42 chg: -0.78 stop: 74.21

UPS hit new relative lows today as investors sold off the transports with crude oil hitting new highs. We expected a bounce from the $70 level, which acts as round-number support. Now readers can watch for a bounce toward the 50-dma near $71.35. A failed rally there can be used as a new entry point. Our target is the $68-67 range.

Picked on August 17 at $ 71.99
Change since picked: - 1.57
Earnings Date 07/21/05 (confirmed)
Average Daily Volume = 2.6 million

---

Wynn Resorts - WYNN - close: 46.77 chg: -1.38 stop: 50.25 *new*

Shares of WYNN hit new three-month lows today (-2.8%) despite positive comments from Jim Cramer of Mad Money. The stock is approaching our target range in the $45.25-45.00 region. We're going to lower our stop loss to $50.25.

Picked on August 19 at $ 49.95
Change since picked: - 3.08
Earnings Date 08/01/05 (confirmed)
Average Daily Volume = 2.0 million
 

Dropped Calls

None
 

Dropped Puts

None
 

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