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Daily Newsletter, Monday, 09/26/2005

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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

Rita Rally Reverses

Traders watched the futures melt up overnight as Hurricane Rita proved less malevolent than expected. But the gains were short lived, with prices chopping sideways from their opening highs before accelerating to the downside by mid-afternoon. Crude oil and natural gas had opened with light losses before reversing strongly to the upside in spite of a steady stream of mostly upbeat bloviation from officials and the financial press.

Volume was strong for Dow and Nasdaq, but light for QQQQ. Volume breadth started very strong, with the Nasdaq in blowoff territory at the open with over 9 advancing shares for each declining. Those numbers declined until well into the afternoon, finishing with advancing volume leading over declining 1.36:1 on the NYSE and 1.17:1 on the Nasdaq, effectively neutral.

Daily Dow Chart

The Dow has been a picture of uncertainty since Thursday, and made good on that assessment again today as the opening highs were sold. This left a doji star that would have been a gravestone doji if not for the bounce in the final hour of trading. This is not a bullish picture, despite today's constituting the second day of higher highs and higher lows for the index. The daily cycle downphase continues, but a close above the 10500 area should be enough to at least stall it. Today's low at 10410 is immediate support, with the key line in the sand at 10360. For the day, the Dow gained 25 to close at 10444.

Daily S&P 500 Chart

The SPX gained .34 to close at 1215.63 after bouncing from a late afternoon low at 1211.84. The opening bounce got rejected at 22 and 50 DMA resistance in the 1222 area, and as with the Dow, the daily cycle is so far ignoring the pattern of higher highs and higher lows. Also like the Dow, the daily action is fraught with uncertainty and reversals, with doji shadows printing in both directions. With the weekly cycle in the early stages of a new downphase and the SPX unable to hold any gains since June, I'm bearish on a longer term basis. While the intraday and even day-to-day action holds potential gains for bulls as well as bears, my interpretation of the pattern since June is that we're seeing a distribution top being formed. A strong break above 1245 would change that, but currently, the 1204 support level is much closer at hand.

Daily Nasdaq Chart

The Nasdaq closed +4.62 at 2121.46, 9 points off the session low. The opening high at 2132.60 was quickly sold, and the weakness intensified into the final hour. Below 2112, next support is in the 2100 area. Bulls have strong resistance at 2140. My guess is that the current bounce will resolve to the downside, as the daily and weekly cycle downphases continue to point south. But above 2140 resistance, the daily cycle should stall, above which the key line in the sand for bears will be at 2160 resistance.

Daily TNX Chart

Although Greenspan talked down the impact of Rita, the Fed nevertheless ponied up an impressive $10 billion new dollars via overnight repurchase agreement with its dealers. There were no repos maturing this morning, and so that amount constituted a large net addition available to the markets. Notwithstanding the large repo add, ten year notes remained weak, and equities spent most of the session bleeding from their gap open highs.

At 10AM, the National Association of Realtors reported that existing home sales rose 2% to an annual rate of 7.29 million units in August, up from a revised 7.15 million rate in July. The August figure was up 7.8% y-o-y, the second highest gain ever recorded. Median home prices are up 15.8% y-o-y to $220,000. The inventory of homes for sale rose 3.5% to 2.86. a 4.7 month supply.

At 1PM, the Treasury auctioned $32 billion worth of 13- and 26-week bills. Foreign central banks purchased a respectable $7.5 billion of the total. The 13 week bills sold for 3.44% yielding 3.518%, generating 2.28 bids tendered for each accepted. The 26-week bills sold for 3.745% yielding 3.87%, with a bid-to-cover ratio of 2.12.

Despite the Open Market Desk's generosity this morning, treasuries were weak throughout the day. Ten year note yields (TNX) finished well above opening gap support, +4.6 bps at 4.294% and just off a high above 4.3%. The daily cycle has begun trending just below overbought territory, having printed a nominally higher high above this month's prior high at 4.3%. 4.25%-4.26% is now support.

Daily Chart of Crude oil

Hurricane Rita came and went, and the consensus was that she caused less damage than expected. Fed Chairman Greenspan was reported as telling Russian Finance Minister Kudrin that risks to the oil market from the two hurricanes "had peaked" and that pressures on refineries should diminish from here. In particular, here's the Reuters quote:

"'Greenspan believes that now we've overcome all the peaks of the risks of those storms ... (and) Katrina and Rita have exhausted their influence on the oil market already,' [Kudrin] told a small group of reporters through a translator."

Upon reading that this morning, I went through a difficult process of trying to interpret the statement as anything but "farce" majeure. Jim Brown did an excellent job discussing the impact of Katrina and Rita on the oil and natural gas infrastructure in the weekend Wrap. Without belaboring the point, the damage wrought by these storms is considerable and will take a long time to repair, and I cannot fathom how it will be business as usual now that the storms have passed. Greenspan's record with respect to predictions about the direction of the oil and natural gas markets has been less than stellar, and the Chairman should stick to banking.

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Sabine Pipelines issued a force majeure notice covering all receipt and delivery points. Sabine serves the Henry Hub, which was submerged beneath what appeared to be several feet of oil or some other substance as of this morning, presumably caused by ruptures and leaks. There were also reports of natural gas leaks, and the ongoing power outages only complicate what will inevitably be a difficult recovery to this and other key infrastructure. The Minerals Management Service reported that 1.5 million bpd of oil are shut in in the region, roughly 100% of daily production. It reported that 7.843 bcf of natural gas are shut in, approximately 78.4% of daily production. Up to 653 oil and gas platforms and 92 oil and gas rigs had been evacuated.

The DOE reported that 1,265,924 are without electric power in Texas, Louisiana, Arkansas and Mississippi.

The news wasn't all bad, however. Chevron (CVX) reopened its Galena Park terminal and reported that its Houston offices will reopen tomorrow. Marathon Oil (MRO) reported that its Texas-City refinery is starting back up, and expects to bring some its pipelines back online. Shell's North Houston and Pasadena are reportedly fully operational. ConocoPhillips reported that its Houston area terminal is open. However, its Ewing Bank and 3 of its South Pass platforms are still shut in. VLO expects to have two refineries back this week, while GSF, RDC, DO and CVX report missing or damaged rigs and/or platforms. This is very far from an exhaustive list- just some of the items that crossed my screen during the day. For the day, crude oil closed +1.63 at 65.825, unleaded gasoline close +.0826 at 2.0775 and natural gas rose closed +.413 at 13.10.

President Bush made an appearance in the morning to discuss the impact of Rita on petroleum supplies, stating that the government would release further supplies from the SPR should producers find themselves lacking. He urged federal officials to eliminate non-essential travel, and the public to conserve energy. He added that the US needs additional refining capacity and said that he intends to work with Congress to build new refineries- presumably in the event that the private sector somehow doesn't find it profitable to do so. The President did not mention Henry Hub, which continues in day 4 of its shutdown, but said that he would maintain the suspension of antipollution laws for gasoline and the Jones Act shipping rules to facilitate port-to-port transport of oil.

In corporate news, Walgreen (WAG) reported Q4 earnings that rose from $324.4 million or 32 cents in Q3 2004 to $329 million or 32 cents in the current quarter. Included was a $54.7 million or 3 cent per share charge related to Katrina. Sales rose 11.3% to $10.5 billion, up from $9.43 billion in Q4 2004. Estimates were for 37 cents EPS, however, and the stock got clocked for a 3.5% hit in premarket trading. However, its Green Canyon platform is severely damaged. WAG closed -1.01 at 41.50.

The IMF adopted a plan to address the growing energy crisis, which focuses on increasing supply, investing in refineries, and conservation. Director de Rato noted the global nature of the problem and emphasized that such requires a global solution. The IMF also intends to cancel $55 billion in debt owed by 37 of the world's poorest countries, following through on previous commitments made by the G8 countries.

In other news out of the IMF and G8 meetings this weekend, French Finance Minister Thierry Breton revealed that Greenspan told him that " The US has lost control of their budget at a time when racking up deficits has been authorized without any control [from Congress]" and said that " We were both disappointed that the management of debt is not a political priority today. The situation that is creating tension today on the currency market ... is clearly the American deficit." The Treasury responded by stating that "things can get lost in translation" and added that "This administration is absolutely committed to the President's goal of halving the deficit as a percentage of GNP by 2009 and we have every expectation of meeting that goal."

After the opening bell, Fed Governor Susan Bies spoke with reporters, telling them that higher fuel prices could affect general prices throughout the economy and have a negative impact thereon, but that there remains a "core-resilience" to the US economy. This was pretty much in line with Ben Bernanke's weekend comments, reported by CBS News: "I remain pretty optimistic about the economy. There is of course the direct impact of the shutting down a part of the economy, the loss of several hundred thousand jobs and reduced energy production in the Gulf."

Greenspan delivered a speech to the American Bankers Association, making headlines with "Any decline in home prices would not necessarily be disruptive." The gist of his comments was that because of the "equity cushion" that most homeowners have secured, a rise in mortgage rates would negatively impact consumer spending but spur a higher savings rate and lower US trade deficit. The impact on those "equity cushions," and developments such as interest only loans and "exotic" variable rate mortgage deals "will require our ongoing scrutiny in the period ahead, lest more adverse trends emerge." He noted that with sales of secondary residences at historic high levels, speculative activity might be motivating at least part of the rally in home prices.

After the bell, Fitch announced its downgrade of GM and GMAC's debt to "BB" from "BB+" on "a lack of tangible progress" in GM's attempt to reduce its fix-costs and overhead. Fitch also cited higher fuel prices and their effect on GM's core focus on large vehicles, margin squeezes caused by incentive programs, and elevated risks posted by GM's exposure to DPH, which is in restructuring and at risk of bankruptcy.

After last week's reprieve, this is set to be a busy week for economic data. Tomorrow is Consumer Confidence and New Home Sales, followed by Durable Orders on Wednesday. On Thursday, we get the Q2 GDP and Chain Deflator, Initial Claims, Help Wanted Index and, on Friday, Personal Income and Spending, Michigan Sentiment and the Chicago PMI.

Today's failed gap open felt more bearish than it appeared at the end of the day. Despite the actual damage wrought by Rita, the indices have closed higher than the previous day for the second day in a row. I have no doubt that the Fed's whopping $10 billion in repo money helped to postpone gravity, but shorts don't handle higher prices well, and enough squeezing should eventually trigger a more sustainable short covering exodus. Until the year highs are broken, I will continue to be skeptical of the bounces. So far, Katrina and Rita have both resulted in market rallies. The Katrina rally unraveled more quickly than it advanced, however, and I don't see anything that suggests bullishness from these natural disasters. A shortage of petroleum products presents a very significant threat to economic and market strength, and the economy had plenty about which to worry before these storms landed. Consumers were already maxxed out, running the first negative savings rate in many decades, and amendments to the bankruptcy rules loom large in the coming weeks. Many consumers have no doubt been transferring those savings to home equity, but Greenspan has been specifically targeting gains in that sector with his talk and his rate increases. The bottom line is not to get married to your expectations in either direction, and on a trading basis, the charts tell all. But the downside looks more compelling to me than the upside below the year highs.
 


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

Apache - APA - close: 75.71 change: +1.85 stop: 72.49

News that hurricane Rita did not do as much damage as expected did not stall the climb in shares of crude oil. Oil closed over $66 a barrel and the oil sector rallied sharply with the OIX jumping 1.8% and the OSX services index surging 2.4%. Shares of APA rallied with a 2.5% gain following Friday's dip to fill the gap. Our target is the $79-80 range.

Picked on September 18 at $ 73.42
Change since picked: + 2.29
Earnings Date 10/27/05 (unconfirmed)
Average Daily Volume = 2.6 million

---

Apollo Group - APOL - close: 66.33 chg: +0.24 stop: 64.65

APOL tested the $65.00 level again this morning but traders where there to buy the dip. Given the upward tilt throughout Monday's session we remain short-term bullish. Remember, we're just trying to scalp a few points on an oversold bounce back toward resistance near $70. Our target is the $69-70 range.

Picked on September 25 at $ 66.09
Change since picked: + 0.24
Earnings Date 10/04/05 (confirmed)
Average Daily Volume = 1.8 million

---

Broadcom - BRCM - close: 45.69 chg: +0.64 stop: 42.85

BRCM continues to display relative strength and out performed the NASDAQ and the SOX with today's 1.4% gain. Today's move also broke through its short-term two-week trend of lower highs. Our target is the $49-50 range.

Picked on September 25 at $ 45.05
Change since picked: + 0.64
Earnings Date 10/21/05 (unconfirmed)
Average Daily Volume = 7.0 million

---

Cardinal Health - CAH - close: 61.26 chg: -0.69 stop: 59.85

Uh-oh! CAH displayed some relative weakness today and produced what might be considered a failed rally with this morning's gap higher and sell-off. The selling did pause near support at the $61 level but the trend doesn't look encouraging. Readers thinking about new bullish positions may want to wait and see if CAH pulls back and bounces from the $60 level first. We'll remain bullish on CAH as long as it trades above $60.00 but traders may want to cautiously enter new positions.

Picked on September 25 at $ 61.95
Change since picked: - 0.69
Earnings Date 11/04/05 (unconfirmed)
Average Daily Volume = 2.0 million

---

Cameco Corp - CCJ - close: 53.47 chg: +1.25 stop: 49.49

Monday proved to be an interesting session for CCJ. The stock gapped lower and dipped to $50.25 before bulls showed up to buy the dip above round-number, psychological support at the $50 level. The strong rally back above Friday's close looks like a new bullish entry point to buy calls. We would suggest the November calls. Our target is the $58-60 range.

Picked on September 18 at $ 53.30
Change since picked: + 0.17
Earnings Date 11/01/05 (unconfirmed)
Average Daily Volume = 862 thousand

---

Altria Group - MO - close: 72.52 change: +0.61 stop: 69.90

MO continues to rebound from Thursday's low and volume is picking up as shares trek higher. We see no changes from our previous update. Our target is the $78-79 range.

Picked on September 18 at $ 73.14
Change since picked: - 0.62
Earnings Date 10/19/05 (unconfirmed)
Average Daily Volume = 6.7 million

---

Noble Energy - NBL - close: 46.77 chg: +0.94 stop: 43.24

Oil stocks remain strong and shares of NBL added another two percent on Monday. We see no changes from our previous update. Our target is the $49-50 range.

Picked on September 11 at $ 44.90 *post-split price
Change since picked: + 1.87
Earnings Date 11/02/05 (unconfirmed)
Average Daily Volume = 796 thousand
 

Put Updates

Adobe Sys. - ADBE - close: 28.15 chg: +0.07 stop: n/a

ADBE is still showing strength with a minor gain despite a loss for the GSO software index. ADBE tested overhead resistance at its exponential 200-dma today. This was a strangle play on ADBE's 9/15 earnings report so we're not suggesting new positions.

Picked on September 13 at $ 26.82
Change since picked: + 1.33
Earnings Date 09/15/05 (confirmed)
Average Daily Volume = 6.2 million

---

Black & Decker - BDK - close: 81.68 chg: -1.39 stop: 85.05

BDK is performing on cue with its failed rally today under the exponential 200-dma. We see no changes from our weekend update. Our target is the $78-77 range.

Picked on September 14 at $ 83.31
Change since picked: - 1.63
Earnings Date 10/25/05 (unconfirmed)
Average Daily Volume = 636 thousand

---

Hovnanian - HOV - close: 51.10 chg: -0.13 stop: 55.01

The homebuilders produced some early strength after a report this morning stating that existing home sales came in higher than expected. Unfortunately for shareholders the builder did not hold their gains. Shares of HOV look poised to test support near $50.00 and our target in the $50.25-50.00 range.

Picked on September 18 at $ 54.75
Change since picked: - 3.47
Earnings Date 09/07/05 (confirmed)
Average Daily Volume = 1.2 million

---

Hershey Co. - HSY - close: 56.06 change: +0.56 stop: 58.01

No surprises today with an oversold bounce from the $55 region. We see no changes from our weekend update. The 57.50 level should act as resistance. Our target is the $54-53.50 range.

Picked on September 14 at $ 57.90
Change since picked: - 1.84
Earnings Date 10/20/05 (unconfirmed)
Average Daily Volume = 760 thousand

---

Itron - ITRI - close: 45.44 change: +0.62 stop: 46.51

Early morning strength in shares of ITRI failed near the $46 region and its simple 100-dma. The rest of the session was spent churning sideways in a narrow range. We'd like to think that today was the extent of its oversold bounce but it may not be over yet. We'd probably look for a new move under $45.00 before considering new bearish positions.

Picked on September 22 at $ 44.24
Change since picked: + 1.20
Earnings Date 11/02/05 (unconfirmed)
Average Daily Volume = 435 thousand

---

MBIA Inc. - MBI - close: 57.37 chg: +0.16 stop: 58.75

MBI rallied higher this morning with the markets but failed to hold the majority of its gains. This looks like another failed rally near the top of its descending channel.

Picked on September 13 at $ 57.75
Change since picked: - 0.38
Earnings Date 11/01/05 (unconfirmed)
Average Daily Volume = 1.2 million

---

WellChoice - WC - close: 70.60 change: -0.01 stop: 71.65

WC failed to participate in today's market bounce and that could spell good news for put holders like us. The stock continues to struggle with resistance near the $71.50 level. We would not suggest new bearish positions until we saw another decline under the $70 mark (or even 69.50).

Picked on September 22 at $ 69.54
Change since picked: + 1.06
Earnings Date 10/27/05 (unconfirmed)
Average Daily Volume = 248 thousand
 

Dropped Calls

None
 

Dropped Puts

None
 


Options 101

Options in Your IRA
What you can and can not do in your Individual Retirement Account

The Theory Behind the Practice

Historically, the IRA has been a vehicle where individuals could set aside money for retirement, usually because they were not a member of a corporate pension or profit sharing plan or a modern day 401(k) or 4013(b). As time went on and investments revolved to a more sophisticated level, so did the IRA. The introduction of the ROTH IRA and the increase of custodians that would handle more creative investment vehicles than their traditional peers. However, the custodians that allowed options to be utilized in their accounts were slow to modify their values as to what were acceptable transactions inside a Traditional or ROTH Individual IRA Plan.


Traditional Custodians

Most custodians followed traditional lines and allowed only the ability of its account holders to sell covered calls. Traditionally, that was a great strategy, getting paid a premium to give someone the right to take your stock from you at a higher price, and it if it didn't go up that much, you just keep the premium. Great concept! Great concept until everyone under the sun was doing it. Simple analysis, if more and more individuals become SELLERS of options, whether in a normal account or an IRA account, the amount of premium becomes less attractive, because there are fewer buyers actively seeking the long side. Simple, the law of supply and demand. So what historically became a great concept has been more controversial as of late because of the lower premiums that historically call option writers have been receiving.


Limited Protection

In addition to the historically lower premiums, the option seller (writer) in an IRA has a limited flexibility because of those custodial limitations. Why? Simple. Options have a number of ways that they can be used to benefit their buyer or seller, but no one strategy is right for all situations. The IRA environment is no exception. The seller of a call option in an IRA has no flexibility in case of a major downturn in the market like 1987 or the Internet Bubble. Once an IRA client has sold a covered call, he has given up a lot of his potential upside and has NO flexibility to do anything else to protect his potential downside. Traditionally, and even today many custodians do not allow, "put buying" in traditional or ROTH IRA accounts. So a simple analysis can be concluded, they IRA client has no real ability to protect his asset, because the custodian has eliminated his only try vehicle to insure the assets in his IRA, they have eliminated the Put hedge option. That would be like driving around in our autos with no chance to buy insurance, or having no ability to purchase life insurance for our loved ones. This has always bewildered me. Yet traditionally, that was the norm and rarely and I mean rarely the exception.


The Acceptance of the Put Hedge

As time passed, several custodians became more liberal in their approach to the plight of its clients and these custodians allowed the use of call writing and put buying, so that individuals could at least hedge there long stock positions and maybe protect against a "bear market" scenario without having to necessarily sell all there equities only to buy them back later and pay two sets of commissions, one to sell and one to buy back again. It seemed traditionally they only give you the ability to play with 12/ a deck.


The Real World Times are a changin'

Just as the business and investment cycles change from time to time, investor needs also will vary. Finally the custodial community began to see the need for more flexibility within their Traditional IRA and ROTH accounts. Several, aggressive brokerage firms offered its IRA clients the ability to trade spreads, which in the long run gave its clients greater flexibility to manage their retirement money than the traditional custodians who placed such restrictive controls on what you could do with options, that it was a wonder that anyone made any money in their IRA accounts. Although the number of these firms that allow this more flexible approach in their IRA accounts is still small in number, they are growing in popularity.
Traditionally, the only way to have a full range of option strategies available to you in a retirement account was to have a SELF directed Defined Benefit Plan or Defined Contribution Plan where you were the Trustee and the Trust specifically specified what type of option trading that you could use inside of those plans; we have come a long way since then. However, a survey of most custodians and brokerage firms that will serve as custodians on your IRA Traditional and ROTH accounts still have pretty stringent guidelines as to what and what not their clients can invest in. One needs to take a comprehensive search of the custodians that are out their to find the few that currently will allow strategies like the use of spreads in your IRA.


The Bottom Line

Change is inevitable, and change to the IRA retirement market will be no exception. In the heat of the social security discussions and more and more individuals becoming self employed and starting their own businesses, the face of the retirement industry is due for a face-lift as well. The limitations that current custodians place on its clients, do not allow them the opportunities to have their assets working for them and in the long run the big loser is the individual client himself, because he was not given all the tools to adequately be able to maximize his retirement portfolio of funds. The emergence of these custodians that allow more flexibility offer better opportunities for the traditional IRA and ROTH client, but with opportunity comes uncertainty. That uncertainty comes in the form of "prudence" and a fiduciary understanding of the consequences of mishandling retirement funds. With every knock on the door from opportunity, there comes risk, but the greater risk is not to answer the door, because we never know if opportunity will find its way to our door and knock again.
Maybe it's something to think about.

Until next time
 

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

DISCLAIMER

Option Investor Inc is neither a registered Investment Advisor nor a Broker/Dealer. Readers are advised that all information is issued solely for informational purposes and is not to be construed as an offer to sell or the solicitation of an offer to buy, nor is it to be construed as a recommendation to buy, hold or sell (short or otherwise) any security. All opinions, analyses and information included herein are based on sources believed to be reliable and written in good faith, but no representation or warranty of any kind, expressed or implied, is made including but not limited to any representation or warranty concerning accuracy, completeness, correctness, timeliness or appropriateness. In addition, we do not necessarily update such opinions, analysis or information. Owners, employees and writers may have long or short positions in the securities that are discussed.

Readers are urged to consult with their own independent financial advisors with respect to any investment. All information contained in this report and website should be independently verified.

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