Option Investor
Newsletter

Daily Newsletter, Wednesday, 11/23/2005

HAVING TROUBLE PRINTING?
Printer friendly version

Table of Contents

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

Market Wrap

Catching the Wind

A funny thing happened on the way to sailing through another positive day. With all bullish sailboats lined up for the race, futures turned lower after the Labor Department released jobless claims that were higher than expected and Research in Motion (RIMM) forecast lower numbers of subscribers. As the markets opened and the race began, investors appeared uncertain which way to send indices during earliest trading. Some indices rose modestly, sailing into the recent bullish winds. Then even their sails luffed, flapping in those bullish winds while they waited for economic releases that would show them the next direction. After the inventories numbers, the wind stiffened, sails caught the wind, and the race to see which index or sector could sail the fastest was engaged.

The TRAN, a recent market leader, headed down into the inventories numbers released at 10:30, but was to spend the day tacking back and forth, trying to catch the wind but ending up where it started. The EIA reported a rise in crude stocks by 354 thousand barrels against expectations of rise of 250 thousand. Gasoline inventories rose 238 thousand barrels against expectations of a rise of 1.1 million barrels, and distillates rose 1.17 million barrels against expectations of a rise of 750,000 barrels. U.S. refinery utilizations rose to 88.1 percent from 86.2 percent.

API figures differed, as they usually do, showing bigger increases in some inventories than the EIA figures. January crude futures had been trading between $58.45-58.50 before the release and dipped immediately toward the 200-sma for that contract. The TRAN luffed a while longer while market participants waited to see if crude would hold above the 200-sma. Then the TRAN caught the wind and shot up toward what I believe to be a possible finish line before it turned back again to close near its open. The crude contract did steady above its 200-sma, but the TRAN's sails may have just been tattered from a prolonged race.

Annotated Weekly Chart of the TRAN:

The attraction of Dow 11,000 was apparent today, as the Dow sailed through strong resistance, only to pull back to that resistance by the close. Another shot at 11,000 can't yet be ruled out, but Wednesday's close was not strong, reinforcing the importance of the resistance rather than suggesting that the Dow had cleared it. A further gust of wind to push the Dow up toward 11,000 or even 11,035-11,070 next resistance can't be ruled out, perhaps as early as Friday. However, the Dow, like other indices, has left support far behind and looks desperately in need of sideways consolidation or a pullback.

Annotated Daily Chart of the Dow:

The SPX punched up into levels not seen since the summer of 2001. In October of 2004, the SPX confirmed an inverse H&S on its weekly chart, although there are some reasons to question its validity, and the SPX has consolidated since breaking above that neckline. Some might be revisiting the idea of the big inverse H&S with this breakout, but that's a debate for another time. For now, be careful with long positions as long-term resistance is tested.

Annotated Daily Chart of the SPX:

The Nasdaq broke out above its rising wedge on its weekly chart. Friday's close will prove important.

Annotated Weekly Chart of the Nasdaq:

The SOX's daily chart shows what might happen with the Nasdaq: a breakout followed by consolidation. If trading Nasdaq stocks, watch the SOX to see if it heads down toward a gap fill. It's not particularly bullish that the SOX keeps piercing that resistance but can't close above it.

Annotated Daily Chart of the SOX:

The natural gas inventories number did not prove as market positive as the crude inventories, with the EIA reporting that working gas in storage declined 8 Bcf from the previous week and 32 Bcf than the same time last year. In all regions, inventories remained above the five-year average, however. Even the lull in the winds produced by this number was to be brief, however. Except for a brief decline near the open, the three-minute 21-ema had been bouncing the indices.

The pre-market lull had been precipitated by initial jobless claims, rising 335,000 in the week ending November 19, with those gains higher than expected. The four-week moving average rose 1,250 from the previous week's revised four-week average.

RIMM plunged in pre-market trading after the BlackBerry maker trimmed its forecast for both the third and fourth-quarter's subscriber additions. The company said its third- and fourth-quarter revenue outlooks remained the same, and blamed the subscriber difficulty on the delay in the sale of two new handsets. The stock opened at $62.60 but closed down only 1.19 percent at $66.28, well off the low of the day. RIMM's decline didn't hurt other techs, with techs being among the earliest and strongest-performing sectors in gains that were broad-based.

Advertisement

Profit from the Q's

The once a week candlestick chart of the Nasdaq 100 (QQQQ) reveals simple yet powerful strategies for profiting from the stock market - whether down or up!

Click here for your complimentary report:

http://www.hotstix.com/public/weekly.asp?aid=755

Other events contributed to the pre-market jitters. Yesterday, markets had probably sailed too close to the wind after the FOMC minutes were released and they bet on an end-of-tightening rally. Overnight developments were to take some wind from those sails. Many ex and current central bank monetary policy committee members from around the globe sounded off during the night. The Bank of Japan's Fukui asserted that although the central bank shared the government's goal of bringing about sustainable economic growth and stable price movements, the central bank's policy board will make the appropriate decision and take full responsibility. Tension has existed between the central bank and the government, with the government anxious that the central bank not end easy monetary policy too soon. The Bank of England's member Walton noted that CPI was above target and that consumer spending and growth data appeared encouraging, concluding that the central bank needed to keep rates steady rather than ease, as some have hoped.

Jim Brown reported in last night's Wrap that here in the U.S., Ben Bernanke had filed his written responses to Senator Jim Bunning's questions, with Bernanke commenting that continued increases in energy prices could create upside risks in the inflationary outlook, with those comments likely to dampen the post-FOMC-minutes party spirit. Last night, two ex-Fed governors, Meyer and Hoskins, spoke of increasing inflation risks and vowed that the Fed was likely to err on the side of being too tight rather than too easy. Hoskins thought the Fed might become less transparent about its intentions soon. Current FOMC member, the Richmond Fed's Lacker, reportedly countered the more dovish tenor of the FOMC minutes released yesterday with more hawkish statements. The WSJ appeared to agree with Hoskins' belief that the Fed might be less transparent about its intentions soon.

If those pre-market events set a somewhat wary tone in earliest trading, the revised University of Michigan November sentiment figure blew toward the bullish side. That number showed a strengthening to 81.6, increased from its preliminary 79.9 number earlier in the month and from October's 74.2 reading. The help-wanted index was below consensus, but few noted the number.

Another early morning release related to the much-watched housing sector. The Mortgage Bankers Association publication on mortgage applications for the week ending November 18 showed weakness. All components fell, with refinance activity down 17.4 percent from the month-ago level. When seasonally adjusted four-week moving averages are considered, all components except for the purchase index fell. The average contract interest rate for 30-year fixed-rate mortgages fell to 6.26 percent from the previous week's 6.33 percent, and points decreased.

The Dow Jones Home Construction Index's sales luffed all day, ending lower by 0.30 percent, perhaps under the weight of that mortgage information or ahead of next week's home sales figures. Not helping was a decline in bonds after lackluster demand in an auction for two-year bonds, sending yields higher. The ten-year bond closed down 10 ticks at a 4.47 percent yield.

The rise in yield did not deter rate-sensitive sectors such as the financials and utilities, as investors look ahead to a day when the Fed stops raising rates.

Even steel-related stocks climbed during the early part of the session, perhaps somewhat surprising given China's Baosteel's statement Tuesday that it was dropping product prices in the first quarter of 2006 by an average of more than 10 percent. By the end of the day, stocks such as X and PD were to drop sharply off their highs of the day, however, leaving bearish candles and potential reversal signals behind. In X's case, the day produced strong volume, showing that sellers were active.

Last week, I suggested that new bullish plays be opened on retests of and bounces from the 10-sma's on the daily charts. That would have been a good idea except that indices sailed ahead without rounding those buoys again. They've left them far in the distance, and will have to either wait until they float up to their current positions or they'll have to backtrack quite a distance. Now, with the traditionally bullish Thanksgiving week nearly completed and with indices overstretched as they face the next resistance bands, I'm recommending something different. I'm recommending that those in anything other than aggressive bullish daytrades consider locking in profits on some of those positions and tightening stops on the rest so that positions would be closed with some profit intact if a sudden downdraft should occur. A cautious stance with your bullish profits is now warranted. If your opinion is still strongly bullish, taking partial profits and tightening stops on the rest of your positions remains a good account-management tactic.

The Nasdaq has clearly broken out above the wedge's resistance but it's the weekly close that remains important. A drop below 1235-1248 seems unlikely on a holiday-shortened Friday on a week with a traditionally bullish tenor, but stranger things have happened. The SOX's example lends some caution to the belief that such a breakout would lead to an immediate thrust higher, however. The SOX expended much effort leaping above its descending trendline, and now consolidates, piercing next resistance, but not yet able to stay above it on an intraday basis. The SOX may be one of the first indices to show us whether others are likely to consolidate sideways while their 10-sma's catch up or plunge straight to--or through--those moving averages. Keep it on your radar screen Friday. The TRAN produced a doji, almost an inside-day candle, at the top of its steep climb, so that index should be watched, too, remembering that an upside break again could send it into that 4,200-4,275 next resistance zone.

By the weekend, we may have part of the answer, and Jim Brown will be letting you know what he sees. He has great perceptions on seasonal patterns.

Tomorrow is Thanksgiving for our U.S. readers. Happy Thanksgiving to you all with our good wishes extended to those readers who live outside the U.S., too. We're thankful for the readers who contact us, challenge us and sometimes teach us.

Friday will be a holiday-shortened day with no major economic releases. Volume may be light, with market movements perhaps not particularly predictable according to standard technical analysis tools. If you're watching the markets, as those of us who write for the Market and Futures Monitors will be doing, consider scaling down to one and two-minute charts, paper trading the setups you see there, testing your theories but not putting your money at risk in new positions.
 


New Plays

New Option Plays

Call Options Plays
Put Options Plays
Strangle Options Plays
NFINoneNone

New Calls

Novastar Fincl. - NFI - cls: 31.65 chg: +0.97 stop: 29.24

Company Description:
NovaStar Financial, Inc. is one of the nation's leading lenders and investors in residential mortgages. The company specializes in single-family, nonconforming mortgages, involving borrowers whose loan size, credit details or other circumstances fall outside conventional mortgage agency guidelines. A Real Estate Investment Trust (REIT) founded in 1996, NovaStar efficiently brings together the capital markets, a nationwide network of mortgage brokers and American families financing their homes. NovaStar is headquartered in Kansas City, Missouri, and has lending operations nationwide. (source: company press release or website)

Why We Like It:
If Wall Street believes that we could be nearing the end of the FOMC's rate hike cycle it could be good news for mortgage lenders like NFI. It appears that this train of thought, following the release of the latest FOMC minutes on Tuesday, is what pushed NFI to breakout from its consolidation pattern. The high-volume breakout on Tuesday also pushed the stock above its simple 50-dma and above its 3 1/2 month trendline of lower highs. We are going to suggest new plays here at $31.65 but there is a good chance that NFI will pull back and retest the $30.50 region as support. Patient traders might do well to wait for a dip and then evaluate a bullish entry. NFI's next earnings report is not until February so we're going to target the 200-dma near $35 over the next eight weeks.

Suggested Options:
We are suggesting the January calls.

BUY CALL JAN 30 NFI-AF open interest=4641 current ask $2.75
BUY CALL JAN 35 NFI-AG open interest=2525 current ask $0.60

Picked on November 23 at $ 31.65
Change since picked: + 0.00
Earnings Date 02/06/06 (unconfirmed)
Average Daily Volume = 621 thousand
 

New Puts

None today.
 

New Strangles

None today.
 


Play Updates

In Play Updates and Reviews

Call Updates

Amerada Hess - AHC - close: 131.58 chg: -1.13 stop: 124.49

Oil stocks hit some profit taking today after a better than expected weekly inventory report for gas and distillates. This prompted shares of AHC to dip to $128.50 before rebounding back above the $130 level. The intraday bounce reinforces AHC's short-term trend of higher lows. We see no changes from our previous updates. Our seven-week target is the $139.85-140.00 range.

Picked on November 16 at $128.49
Change since picked: + 3.09
Earnings Date 01/25/06 (unconfirmed)
Average Daily Volume = 1.9 million

---

Apache Corp. - APA - close: 68.79 chg: -0.60 stop: 64.95

The rally in APA also stalled a bit due to the oil and gas inventory numbers today but the pattern remains bullish. We would suggest new plays over $69.00 or more conservative traders may want to wait for a move over the $70.00 mark before buying calls. A breakdown under the 50-dma near $68 would be bad news. Our target is the $75-76 range by year-end.

Picked on November 22 at $ 69.05
Change since picked: - 0.26
Earnings Date 01/26/06 (unconfirmed)
Average Daily Volume = 3.7 million

---

Goldman Sachs - GS - close: 134.08 chg: +1.48 stop: 126.49*new*

New highs! Shares of GS pushed past its September 2000 highs to score and close at new all-time highs today. We expect the stock to continue marching higher into its mid-December earnings report. Our target is the $139-140 range. We are raising the stop loss to $126.49.

Picked on November 20 at $131.58
Change since picked: + 2.50
Earnings Date 12/15/05 (unconfirmed)
Average Daily Volume = 3.6 million

---

Hovnanian - HOV - close: 51.07 change: +0.02 stop: 44.45

The rally in some of the homebuilders took a holiday on Wednesday. Shares of HOV churned sideways. We see no changes from our previous updates. Our target is the $54.50-55.00 range. We do not plan on holding past HOV's earnings report.

Picked on November 21 at $ 49.25
Change since picked: + 1.82
Earnings Date 12/07/05 (unconfirmed)
Average Daily Volume = 1.5 million

---

Intl. Bus. Mach. - IBM - cls: 88.80 chg: +0.81 stop: 84.85 *new*

Hardware stocks continued to tick higher and IBM added 0.9% as it broke through minor resistance at the $88 level. Our target is the $89.90-90.00 range and IBM almost hit our target this afternoon. We would not be surprised to see IBM challenge the $90 level on Friday. Be ready to exit. We're raising the stop loss to $84.85.

Picked on November 15 at $ 85.25
Change since picked: + 3.55
Earnings Date 01/16/06 (unconfirmed)
Average Daily Volume = 5.6 million

---

NovAtel Inc. - NGPS - close: 30.91 chg: -0.55 stop: 27.75

It's not uncommon for a stock to pull back and retest broken resistance as support. That's what NGPS looks like it might do with a dip back toward the $30.00-30.50 region. Traders can be ready to buy the bounce as a new entry point. Our target is the $35.00-36.00 range by year-end.

Picked on November 21 at $ 30.45
Change since picked: + 0.46
Earnings Date 01/26/06 (unconfirmed)
Average Daily Volume = 292 thousand

---

Phelps Dodge - PD - cls: 129.11 chg: +0.39 stop: 123.45

PD did manage an intraday move over the $130 level but failed to hold its gains. We remain bullish on the stock with its six-week trend of higher lows. Our target is the $139.90-140.00 range. The Point & Figure chart for PD points to a $150.00 target. More conservative traders may want to target the October high near $138.50.

Picked on November 18 at $131.25
Change since picked: - 2.14
Earnings Date 01/26/06 (unconfirmed)
Average Daily Volume = 2.7 million

---

Polaris Ind. - PII - close: 49.56 change: +0.46 stop: 45.95

PII continues to rally and added another 0.9% with shares approaching round-number resistance near $50.00. Our target is the $54-55 range.

Picked on November 21 at $ 48.47
Change since picked: + 1.09
Earnings Date 01/12/06 (unconfirmed)
Average Daily Volume = 467 thousand

---

Rockwell Autom. - ROK - cls: 56.90 chg: +0.05 stop: 54.80

We see no change from our previous update on ROK. The stock's recent relative weakness is not a great sign for a continuation of the rally. We will consider exiting early if shares trade under the $56.25-56.00 range. We are not suggesting new plays.

Picked on November 03 at $ 55.90
Change since picked: + 1.00
Earnings Date 11/03/05 (confirmed)
Average Daily Volume = 804 thousand

---

Walter Inds. - WLT - close: 51.39 change: -1.04 stop: 45.95

Shares of WLT hit a little bit of profit taking today. Broken resistance at $50.00 should now act as new support. Watch for a bounce from $50 as a new bullish entry point. Our target is the $57-58 range by December 31st. More conservative traders can aim for an exit near $55.

Picked on November 20 at $ 51.50
Change since picked: - 0.11
Earnings Date 10/26/05 (confirmed)
Average Daily Volume = 927 thousand
 

Put Updates

None
 

Strangle Updates

(What is a strangle? It's when a trader buys an out-of-the-money (OTM) call and an OTM put on the same stock. The strategy is neutral. You do not care what direction the stock moves as long as the move is big enough to make your investment profitable.)

---

AmerisourceBergen - ABC - cls: 79.28 chg: +0.03 stop: n/a

We see no changes from our previous update on ABC. The stock is nearing round-number resistance at the $80.00 mark. We are not suggesting new strangle positions. Our current strangle involves the December $80 calls (ABC-LP) and the December $70 puts (ABC-XN). Our estimated cost was $2.80. Our current target is for a rise to $5.00 in the strangle.

Picked on October 16 at $ 74.81
Change since picked: + 4.52
Earnings Date 11/03/05 (confirmed)
Average Daily Volume = 900 thousand

---

Amer. Eagle Out. - AEOS - cls: 24.90 chg: -0.17 stop: n/a

The rally in AEOS appears to have stalled under its exponential 200-dma near $25.70. At this time we're not suggesting new strangle positions. The current strangle has an estimated cost of $2.35 with the January $27.50 calls (AQU-AY) and the January $22.50 puts (AQU-MX). We are targeting a rise to $4.70.

Picked on November 13 at $ 25.47
Change since picked: - 0.56
Earnings Date 11/15/05 (confirmed)
Average Daily Volume = 3.6 million

---

Abercrombie&Fitch - ANF - close: 63.31 chg: -0.69 stop: n/a

ANF met some minor profit taking on Wednesday. We are not suggesting new strangle positions at this time. The options in our strangle are the January $65 calls (ANF-AM) and the January $55 puts (ANF-MK). Our estimated cost was $5.15. We're looking for a rise to $8.50.

Picked on November 13 at $ 59.67
Change since picked: + 4.33
Earnings Date 11/15/05 (confirmed)
Average Daily Volume = 2.7 million

---

Chicago Merc. Exchg. - CME - cls: 386.67 chg: +4.76 stop: n/a

A positive press release from the company helped push CME up another 1.24% today. Here's what CME said, "CME, the world's largest and most diverse financial exchange, today reported that year-to-date trading volume in its CME E-mini equity index options exceeded four million at 4,006,366 contracts as of yesterday. This represents a 727 percent increase over the total of 487,727 CME E-mini equity index options traded in 2004." We're not suggesting new strangle positions at this time. Our current play involves the January $400 calls (CMJ-AK) and the January $350 puts (CMJ-MA). Our estimated cost was $26.70. We're aiming for a rise to $40.00 in the strangle before January options expire.

Picked on November 20 at $375.90
Change since picked: +10.77
Earnings Date 01/24/06 (unconfirmed)
Average Daily Volume = 879 thousand

---

D.R.Horton - DHI - close: 36.67 chg: -0.22 stop: n/a

The rally in homebuilding stocks took the day off. Shares of DHI spent much of the session trading sideways. We are not suggesting new strangles at this time. Our current play involves the January $35 calls (DHI-AG) and the January $30 puts (DHI-MF). Our estimated cost was $3.15. We're aiming for a rise to $6.00.

Picked on November 13 at $ 32.56
Change since picked: + 4.11
Earnings Date 11/16/05 (confirmed)
Average Daily Volume = 3.2 million

---

Four Seasons - FS - close: 50.40 chg: +0.27 stop: n/a

FS continues to churn sideways along the $50.00 mark. We see no changes from our previous update on FS. We are not suggesting new strangles at this time. The options in our strangle were the January $60 calls (FS-AL) and the January $50 puts (FS-MJ). Our estimated cost was about $2.60. We're aiming for a rise to $5.00 or more.

Picked on November 08 at $ 55.37
Change since picked: - 4.25
Earnings Date 11/10/05 (confirmed)
Average Daily Volume = 319 thousand

---

Hutchinson Tech. - HTCH - cls: 27.02 chg: +0.25 stop: n/a

HTCH did manage to breakout over resistance near $27 and hit new two-month highs today. We are not suggesting new strangles at this time. The options in our strangle were the January $30 calls (UTQ-AF) and the January $20 puts (UTQ-MD). Our estimated cost was $1.65. We have adjusted our initial target from $3.00 to breakeven at $1.65 since the post-earnings reaction was not as big as expected.

Picked on October 26 at $ 24.89
Change since picked: + 2.13
Earnings Date 11/01/05 (confirmed)
Average Daily Volume = 666 thousand

---

Lear Corp - LEA - close: 28.44 chg: +0.19 stop: n/a

LEA continues to languish in its long-term bearish trend but currently the short-term pattern is sideways. We see no changes from our previous updates on LEA. We are no longer suggesting new strangle positions. The options in our strangle are the January $35 calls (LEA-AG) and the January $25 puts (LEA-ME). We are targeting a rise to $3.20 or more.

Picked on November 06 at $ 30.24
Change since picked: - 1.55
Earnings Date 10/26/05 (confirmed)
Average Daily Volume = 1.8 million

---

Loews - LTR - close: 97.80 change: +0.10 close: n/a

There isn't much change in shares of LTR and its bullish up trend looks like it is in jeopardy. We're not suggesting new plays. The options in our strategy are the December $95 calls (LTR-LS) and the December $85 puts (LTR-XQ). Our estimated cost is about $3.05. We plan to exit if our strangle rises to $5.00 or if shares of LTR hit 99.90.

Picked on October 23 at $ 89.94
Change since picked: + 7.86
Earnings Date 10/27/05 (confirmed)
Average Daily Volume = 602 thousand

---

Verifone Holdings - PAY - cls: 22.85 chg: -0.50 stop: n/a

PAY continues to slip back toward support near its 200-dma and the $22.00 level. We are not suggesting new strangle positions. Our remaining strangle involves the January $22.50 calls (PAY-AX) and the January $17.50 puts (PAY-MW). Our estimated cost was $2.60 and we're aiming for a rise to $4.50 or more.

Picked on October 12 at $ 19.98
Change since picked: + 2.87
Earnings Date 11/18/05 (unconfirmed)
Average Daily Volume = 259 thousand

---

Protein Design Labs - PDLI - cls: 28.67 chg: +0.19 stop: n/a

We see no changes from our previous update on PDLI. We are not suggesting new strangle positions. The options in our strangle are the December $30 calls (PQI-LF) and the December $25 puts (PQI-XE). Our estimated cost was at $1.80. We'll plan to sell if either side rises to $3.25.

Picked on October 30 at $ 27.70
Change since picked: + 0.97
Earnings Date 11/01105 (confirmed)
Average Daily Volume = 1.8 million

---

Spectrum Brands - SPC - close: 18.90 change: +0.52 stop: n/a

SPC's oversold bounce continues and the stock is testing resistance at the bottom of its gap down near $19.25. The $19.25 and $20.00 levels should act as overhead resistance. In the news today SPC announced it is selling its Nu-Gro fertilizer technology and Canadian professional products divisions to Agrium (source: Reuters). We are not suggesting new strangle positions at this time. Our estimated cost for this strangle was $1.25. The options in our suggested strangle are the December $22.50 calls (SPC-LX) and the December $17.50 puts (SPC-XW). We are aiming for a rise to $2.50 or more.

Picked on November 08 at $ 20.63
Change since picked: - 1.54
Earnings Date 11/10/05 (confirmed)
Average Daily Volume = 576 thousand

---

Questar Corp. - STR - close: 76.71 chg: -0.70 stop: n/a

STR is still stuck in its sideways consolidation. Our suggested entry window for strangles was the $75.50-77.00 (the closer to $75.00 the better) range. Our strangle involves the January $80 calls (STR-AP) and the January $70 puts (STR-MN). Our estimated cost was $5.10 and we're aiming for a rise to $9.50 or more.

Picked on November 20 at $ 76.25
Change since picked: + 0.46
Earnings Date 01/26/05 (unconfirmed)
Average Daily Volume = 716 thousand

---

Valero Energy - VLO - close: 100.58 chg: -1.80 stop: n/a

Bingo! VLO pulled back from Tuesday's spike higher and declined into our suggested entry window of $101.00-99.00 today. The dip to $100 (low today was 100.01) was a great entry point to launch new strangles. We're suggesting the January $110 calls (VLO-AB) and the January $90 puts (VLO-MR). Our estimated cost is $5.85. We are aiming for a rise to $9.50. Post split that target will change to $4.75 as our cost will adjust to $2.825. VLO will split 2-for-1 in December.

Picked on November 21 at $101.00
Change since picked: - 0.42
Earnings Date 01/30/06 (unconfirmed)
Average Daily Volume = 10.7 million
 

Dropped Calls

None
 

Dropped Puts

None
 

Dropped Strangles

None
 


Trader's Corner

Trader's Corner

This week also brought some OIN SUBSCRIBER QUESTIONS about where I see this market going, which included this question:
"How would you characterize this market? You wrote recently that the market was getting too far ahead of itself, but prices keep going up. Is there a best way to trade these kind of moves?"

RUNAWAY MOVES
I would characterize this market as being in a 'runaway' kind of price move or trend. The current market cycle I have also called a 'leg', which is a trend of ABOVE average force and staying power. It is fueled by very bullish sentiment and, at times, by bouts of short-covering type buying by those thinking that it was overdone but prices have kept rising anyway. So much of the market is driven by perceptions of earning trends not yet realized and hence by market psychology or 'sentiment'.

There is in technical analysis, a fair amount that is written about price 'gaps'. This is where a stock or where in SOME indices, prices open higher, even substantially higher, than the preceding day's close and the preceding day's high.

You won't see price gaps in the daily charts of the S&P indices: when there is not an immediate open in some of those stocks due to delayed openings stemming from order imbalances, 'opening' price levels for the S&P 100 (OEX) and S&P 500 (SPX) stocks are 'assumed' to be the prior close. This is not the case in the Dow average, or the Nasdaq indices. You CAN see where the price 'gaps' are in the HOURLY OEX and SPX charts however.

Upside or downside gaps that form in the beginning of a price move are typically called 'breakaway' gaps, implying that the trend is 'breaking away' from what came before, the trend has accelerated, and a move is starting that has a great degree of buying or selling driving it.

After such a strong move has been underway for a while, there sometimes comes another gap or series of gaps, also in the direction of the preceding trend; i.e., in an uptrend, a further price gap(s) form that is above the high end of the preceding day's price range. This kind of gap is called a 'runaway' and is sometimes also called, a 'measuring' gap.

It's as if the trend has gone into high gear; e.g., in an uptrend, the bulls go for 'broke' and buy still more ('greed' rises or takes over) and the more diehard bears start covering short positions or exiting puts ('fear' rises or takes over).

Runaway gaps are often seen about half way in a move and are said to have a 'measuring' implication that way. If a move began at 100 and a stock has reached 125, followed by a another gap higher and an even stronger move, a possible MINIMUM objective is to 150; to 'at least' 150, but prices can overshoot this rule of thumb price target.

Substantial buying (or selling) was underway for some time already, but accelerates again. In recent market circumstances, a perception develops that the Federal Reserve may be nearly done raising interest rates, which is seen to take away a bearish cap on how high stocks will rise. Buying increases even more dramatically. Perceptions of risk tend to diminish significantly.

CHART GAP EXAMPLES -
The first gap in the daily chart for the Nasdaq 100 (NDX) below, occurred between the Friday 10/28 NDX high at 1157.5 and the following week's low on (Mon) 10/31 at 1559.8. So the gap was a about two points. Nothing dramatic, but it was showing a definite change and that bullishness was increasing.

This gap was a 'breakaway' gap. The bull had gone into a trot. It went into a gallop between 1601 and 1611; not surprising that the distance between the prior day's high and the next session's low had increased to 10 points! This was the runaway type gap.

We measure the start of an advance from the low, in the case of the move seen on the NDX chart above, from 1515. To measure a possible minimum upside target once the breakaway (measuring) gap is seen, we consider the first segment of this move to be 86 points, from 1515 to 1601. From the gap area, taking the high end of it at 1611 and adding 86 points, a target implied by the measuring gap is to 1696. Hey, where we closed today!

If this was a POSSIBLE objective, why was I suggesting taking profits on NDX calls BEFORE today's peak was seen? Besides apparent stupidity you mean? Well, I raised the possibility that the sharp upside price acieration seen early this month could be about half way in a move.

But, such simple rule of thumb measurements as I have just described above, don't always work out of course. This is the 'we'd all be rich' axiom or truism of trading the market. If the market was this simple to figure out all the time, we'd ALL be rich or 'too' rich for the market to work as a mechanism to transfer wealth.

Plus my particular STYLE of trading is not that of trend following. Trading styles tend to break down into two styles or methods: that of 'trend following' and anticipating and trading typical trading ranges. Since the market 'TRENDS' strongly in one direction only about one-third of the time and VERY strongly only about a third of those times, the market most often is in a trading range.

I tend to try to locate and buy the low end of a probably price range and sell near the high end of the PROBABLE range. Only in the middle am I a trend 'follower'; e.g., I will stay with the trend UNTIL what we would normally expect for the duration of a move or there is a trendline break of significance.

The limitation here is that in strong to very strong trends, ONLY staying with the trend until definite signs of a REVERSAL and slowing momentum occurs, will keep you in that trend for most or more of the rare tsunami moves. And, we've come a long way baby indeed!

You can also modify and mix trading styles. For example, when the strong upside acceleration suggested by the runaway price gap occurring around 1600 in the NDX chart above, you could decide that the move underway might exceed 'normal' trading parameters and switch to a trend following mode.

Unlike a trading range market, a runaway move would see the major indexes get VERY overbought, index leadership might shift (e.g., the small caps might UNDER-perform for a change), bullish sentiment would get very HIGH or extreme before a correction set in, etc.

At that determination, a trader could switch to a 'trend following' mode; e.g., exit only when there was a dip under a moving average like the 21-day average shown in the NDX chart above. OR, effective in an instance of a very steep trend, ONLY on a break of a well-defined up trendline, even though steep.

Exit on calls could have been after the achievement of the 'measured move' objective implied by adding the distance of the first advance to the mid-point gap; i.e., at 1696. There is no one 'right' way to trade. There are some limitations in any one trading style.

But I digress, as I want to also look at the other '100' trading index, the S&P 100 (OEX) index in terms of any gaps seen there by using the HOURLY charts as is necessary in the S&P. While there are a couple of small gaps, both got 'filled in' by prices later coming back to the low end of the price gap. We have to look at other ways to measure either measure price targets for the current move OR to stay in AS LONG AS the uptrend continues.

There is a definite shift in upside momentum in the up trend from late-October to mid-November and after. The first advance is 20 points: 545 to 565. The next accelerated move (trendline slope is higher) has also run nearly 20 points; from 545 to 584. The moves are getting close to equal. A measured move objective, where we assume two price swings of equal length, would be to 585.

In terms of exiting OEX calls ONLY if the trend appears to reverse, use of a relevant up trendline can be opportune, such as would occur on a dip below the green up arrow on the hourly chart below. Profits are major if calls were held from near to the starting point of this advance (from late-Oct/early-Nov.); many traders will seek to stay in the trend, but ALSO attempt to protect most of those profits by having a tight exit 'trigger'.

A technical exit trigger when prices pierce an up trendline takes that event as forewarning of a deeper pullback and correction to a prolonged advance. Other traders might assume a further 'Santa Claus' rally occurring in December, like last year and only exit on a break of the 21-day moving average; or, on a break of a shorter 'weighted' average like a 10-day weighted moving average.

As always, even after exiting the high leverage of call options, a lower risk instrument (less leveraged) like staying long something like the QQQQ Nasdaq 100 tracking stock is a way to continue to profit if the this trend continues to blast higher; with the risk of a substantial correction growing with it.

** E-MAIL QUESTIONS/COMMENTS **
Please send any technical and Index-related questions for possible use in my next Trader's Corner article to support@optioninvestor.com with 'Leigh Stevens' in the Subject line.

** Good Trading Success! **

Today's Newsletter Notes: Market Wrap by Linda Piazza, Trader's Corner by Leigh Stevens 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.

To ensure you continue to receive email from Option Investor please add "support@optioninvestor.com"

Option Investor Inc
PO Box 630350
Littleton, CO 80163

E-Mail Format Newsletter Archives