Option Investor
Newsletter

Daily Newsletter, Saturday, 03/04/2006

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

Change In Plans

Intel had planned on halting its mid quarter updates and provide only an annual outlook in January with adjustments to that outlook with earnings each quarter. Unfortunately conditions changed drastically for Intel and they had to abort those plans and issue a warning for Q1 on Friday.

SPX Chart - 240 min

Dow Chart - Daily

Nasdaq Chart - 180 min

Intel published a press release that was very harsh with numerous qualifications concerning business concessions. Intel said its previously published outlook for Q1 and for 2006 "no longer reflects the company's current expectations." They lowered revenue expectations for Q1 to $8.7B to $9.1B from expectations of $9.1B to $9.7B. This -5% cut in estimates is only the tip of the iceberg. Intel also said Q1 margins would be adversely impacted by their lower revenue and changing expense structure. Intel published a bullet list of six paragraphs containing factors that could impact operations going forward. Basically the 350 word description of adverse factors included competition, fixed costs, R&D costs, economic conditions, product mix, unit costs, obsolete inventory, order cancellations, customer order patterns, excess channel inventory and "market acceptance of Intel products." Essentially Intel threw every excuse they had against the wall hoping some of them would stick and obscure the real reason for the profit warning. The real answer in three letters is AMD. AMD is beating the heck out of Intel in the middle market. AMD is gaining share and new product offerings are exploding that use the faster/cheaper AMD chips. Intel lost its momentum and AMD is chipping away at its user base.

Advertisement

TradeKing offers $4.95 trades to everyone. Same price - market or limit - no price tiers. Add just $.65 per option contract. Get a great value in a Web-based brokerage with free option tools, scanners, charts and the "must-have" probability calculator. TradeKing features power tools for the wired investor - free blog publishing editor and RSS newsreader integrated right into your trading platform. Click here to check out TradeKing.

www.tradeking.com/AdTrack/optinvemail1Q106/HOME

Normally when Intel warns, especially an unexpected warning, the market crashes hard. Friday's initial dip was bought and the indexes rallied, some to new highs, before the Friday afternoon weakness settled in. The SOX actually rallied into positive territory with many chip stocks shaking off the Intel news as Intel specific. In reality it is Intel specific and the chip gains for the year illustrate this fact. While Intel is down -19% for 2006 and hitting a new 18 months low on Friday other chip stocks are in strong rally mode. For instance BRCM is up +58% for 2006, AMD +33%, NVDA +35%, even Cisco, a quasi chip stock of sorts is up +23%. Dell a staunch Intel supporter is also struggling with a close Friday only +50 cents above a 2.5-year low. However, Hewlett Packard has been selling out of its AMD powered computers and the stock price of HPQ at $34 is right at a five year high. It appears that hitching your wagon to the Intel star, a successful strategy in the past, has turned into a liability. Intel's star is falling fast and it is not likely to be a brief dip. Getting a momentum lead in the chip sector can be a lengthy process with lead times of 12-18 months. Once achieved the loser is faced with that same period before they can reverse the loss, sometimes even longer. Intel has the clout but it is a huge ship that turns very slow.

Intel Chart - Weekly

A milestone settlement was reached on Friday between RIMM and NTP in their long running patent infringement case. RIMM reportedly settled with NTP for $612.5 million and the court case was dismissed on Friday afternoon. This takes the cloud off of RIMM and the Blackberry product. RIMM paid the $612.5 million as payment of all past claims and for a fully paid up lifetime license covering all RIMM processes, services and technologies. Before you rush out and buy RIMM on Monday there is something else you need to know. RIMM also warned late after the close on Friday that revenue would be flat with Q3 at $550-$560 million and profits would be substantially below current analysts estimates. RIMM expects profits to be in the 64-66 cent range and analysts had been expecting 76-81 cents. They attributed the drop in revenue to a sharp drop in new subscribers over the last quarter due to the looming shutdown of the Blackberry system. This drop in revenue/earnings failed to offset the gain from the settlement of the suit. RIMM traded up +$13 in after hours despite the earnings warning.

RIMM Chart - Daily

RIMM Chart - 90 min

Friday's economic news was lost after the Intel headline with Consumer Sentiment slipping only slightly to 86.7 from 87.4. This tame report was ignored after the Intel news. The ISM non-mfg Index rose to 60.1 from 56.8 in January and was inline with the regular ISM gain we saw on Wednesday. Despite the tame economics interest rates continued their three-day rise. Yield on the ten-year note rose to close at 4.684% and a new 18-month high. This is very negative for the economy, the homebuilder sector and the markets. A 5% yield is typically acknowledged as a point where bonds become preferable to stocks. A yield over 5% provides a safe haven in times of market uncertainty. This is going to be a problem for the equity markets if it rises any higher.

Rates are going higher according to most analysts. There are rate hikes in the works on a global scale including Japan close to a very rare hike. Lehman officially raised their target for the Fed Funds rate to 5.5% on Friday. According to Lehman the inflation indicators are rising and the Fed will be forced to continue raising rates. This is contrary to a statement by Minneapolis Fed President Gary Stern on Friday. The markets were trading nearly flat until after lunch when Stern commented in a Reuters interview that he viewed current Fed rates as at or near neutral and there was no reason to raise them any further. He said incoming data could change that view but for now there was no reason to raise rates. The markets reacted strongly with the Dow spiking from 11020 to 11106 over the next 90 minutes, a jump of +86 points. The Nasdaq added +15 point on the news and the S&P +10. Those gains evaporated shortly thereafter and all the indexes fell back into the red by the close.

Oil prices hit $63.80 intraday and closed only slightly below that level. The three-week high in oil prices combined with high interest rates and the Intel warning to kill any market gains by days end. OPEC president Edmond Daukoru said at a Press Club meeting on Friday that OPEC would discuss price cuts when it meets on March 8th. He did not expect any cuts but a -500,000 bpd drop was possible. He also said that while oil prices were over $60 production would continue at the current levels. The context of his comments were clear. $60 is now the floor that OPEC is comfortable with and the price is rising. Remember only a couple months ago it was $50 then $55 and now $60. Daukoru also said OPEC "may" meet between the scheduled March and June meetings to discuss production cuts. This tease only serves to keep prices higher on the possibility OPEC might meet. They are milking this production cut thing for all it is worth. The entire production quota ruse is a sham anyway since several countries can't meet current quotas due to production declines and equipment problems from lack of investment. Others are pumping at 100% of capability regardless of quotas. Still OPEC is managing the price almost perfectly with a rising price floor. Daukoru also played "pin the blame on speculators" for the current price level. This is also a recurring ploy to take the blame off OPEC for rising prices. Last year it was "blame it on the refiners." It boggles my mind they can play "support the price at $60" in one sentence and then blame speculators for the price hikes several sentences later.

Crude Oil Chart - Daily

Other factors impacting oil prices continue to be the Nigerian rebel problem and Iran. Iran will be probably be referred on Monday to the UN security council. With the Russian enrichment deal crumbling around the edges the outcome of the referral may not be very positive. Check the LEAPS Trader this weekend for more about Iran and the coming problem. China is also nearing completion of their strategic petroleum reserve and they will start diverting oil from the market to fill this stockpile this summer. The first facility will hold 33 million bbls with another 101.9 million bbls in three other sites on the eastern seaboard. China's oil demand is expected to grow +8% in 2006 to 7 mbpd making them the second largest oil consumer nation. This is half of last years growth rate but still very strong. China is planning on building their SPR to hold up to a 90-day supply by 2010. That would be close to a billion barrels by 2010 given their current growth rate. The U.S. is also adding to its SPR ahead of the coming hurricane season. The 26-member International Energy Agency is also quietly refilling its 1.4 billion bbl emergency stockpile after 60 days of draws to fill the void left by hurricane disruptions. India recently announced they were going to build a strategic reserve as well and it is initially expected to hold 40 million bbls. To put these numbers in perspective a fill rate of 100,000 bpd, the same rate the U.S. uses to limit the impact to prices, would take 400 days to fill the Indian reserve. Add in the 26-nation IEA reserve, China and the U.S. and that is a huge drain on supply on for the next several years.

Next week should see volatility in oil prices as the OPEC chatter comes to a head with their meeting. Interest rates are expected to continue to rise ahead of the March 28th Fed meeting. Both of those factors will influence the market. However, the economic calendar is very light. The only report of any real consequence is the employment report on Friday. Expectations are for a gain of +185,000 jobs. Pundits are very quiet on unofficial estimates given the recent volatility. Over the last four months job gains have fluctuated wildly from only +37,000 in October to +354,000 in November with Dec/Jan retreating into the middle of that range at +140K and +193K. The Friday number could miss estimates substantially and create havoc in the marketplace. Too strong a number would stimulate the Fed even higher and too weak a number could cause slowdown worries. This concern over jobs could keep the markets uneasy ahead of the report.

Other than economics there is little news to move the market. Q1 earnings are over and we are still a couple weeks ahead of the Q2 warnings cycle. This is the perfect time for the market to pick a direction unhampered by facts. Unfortunately we are still stuck at the recent highs with material gains very hard to make and hold. The Dow is starting to look like the Nasdaq of several weeks ago. The recent high was set back on Feb-22nd with a series of volatility spikes to progressively lower highs and a pattern of nearly instant retracements. Five times since the 22nd we have seen serious selling spurts and Dow 11000 is looking more like the Alamo every day. Bulls are shoring up their defenses at 11000 while the bears amass by the thousands just overhead. If that support level breaks it could be a long drop.

The Nasdaq has suddenly found buyers and it came within 8 points of a new high on Friday. That +25 point spike off the Intel induced lows was quickly erased and support at 2300 was the only thing that kept us from a dramatic sell off. The support for the Nasdaq rally came from the SOX, which rallied +27 points from Tuesday's close to hit 550 on Thursday. The SOX gave a bunch of that back on Friday. With Intel poisoning the chip sector we could see some more weakness despite some of the majors trying to break free from Intel's shadow.

Nasdaq Chart - 30 min

The SPX rallied to hit 1297 on Monday and promptly retreated to 1280 on end of month selling on Tuesday. After fighting for three days to recover that 1297 high it was successful on Friday despite Intel. Unfortunately it could not hold the high ground and collapsed to 1287 at the close.

While I would like to believe that there is a stealth rally still lurking behind all of this volatility we still need a breakout to confirm it. The repeated attempts to make that break continue to fail but we are chipping away at the overhead resistance. The other side of the coin is the March history I provided for you on Tuesday night. With the history of March declines so bearish there are clearly quite a few bears sitting on the highs hoping for a repeat. This sets up the potential for a bear-b-que if something does produce a sudden breakout.

I would continue to honor our new long/short indicator at 1280. As long as we hold over that level I would remain long in hopes of the stealth rally making a charge. However, as each day passes without a breakout the chances for a breakdown increase. Do not hesitate to short a break of 1280. Keep your eyes on the chatter about the jobs report due out Friday and try not to let it sneak up on you. That could be the pivot point for the week and what the bulls are waiting for to power a breakout. Should the markets turn negative before the report the numbers will probably be ignored until the correction runs its course. Remember the table of March declines I posted in the Tuesday newsletter. This is March and the clock is ticking.
 


New Plays

New Option Plays

Call Options Plays
Put Options Plays
Strangle Options Plays
CCJ AAPL None
UPL IBM  
VLO KBH  

New Calls

Cameco - CCJ - close: 38.01 change: +0.67 stop: 35.29

Company Description:
Cameco, with its head office in Saskatoon, Saskatchewan, is the world's largest uranium producer. The company's uranium products are used to generate electricity in nuclear energy plants around the world, providing one of the cleanest sources of energy available today. Cameco's shares trade on the Toronto and New York stock exchanges. (source: company press release or website)

Why We Like It:
We are going to try and play CCJ again but this time as a call candidate. We are very bullish long-term on the stock. On a big-picture basis oil is only going higher and as countries around the world look for alternatives they'll be compelled to use nuclear energy. CCJ is a major supplier of uranium so business should be good for the foreseeable future. The stock has spent the last month consolidating its post-earnings trauma and traders bought the dip at its rising 50-dma. Now after two weeks of consolidating (mostly) between $36.00 and $38.00 the stock looks ready to breakout higher again. We are going to suggest a trigger to buy calls at $38.51. More aggressive traders may want to jump the gun and consider bullish positions over $38.00. If triggered then we will target a rally into the $42.00-42.50 range. We do expect some resistance at the $40.00 level. Our time frame is about six weeks.

Suggested Options:
We are suggesting the April calls.

BUY CALL APR 35.00 CCJ-DG open interest=642 current ask $4.20
BUY CALL APR 37.50 CCJ-DU open interest=479 current ask $2.60
BUY CALL APR 40.00 CCJ-DH open interest=680 current ask $1.50

Picked on March xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 02/01/06 (confirmed)
Average Daily Volume = 2.7 million

---

Ultra Petrol. - UPL - close: 54.60 change: +2.13 stop: 51.95

Company Description:
Ultra Petroleum is an independent, exploration and production company focused on developing its long-life natural gas reserves in the Green River Basin of Wyoming, and oil reserves in Bohai Bay, offshore China. (source: company press release or website)

Why We Like It:
Looking at the daily chart for UPL and it's easy to see that shares have broken their longer-term up trend. The P&F chart is also bearish and points lower. However, these don't tell the whole story. The stock bounced from round-number support near $50.00 this past week and we don't believe the bounce is over yet. The weekly chart has produced a "hammer" style candlestick pattern, which is typically seen as a bullish reversal. Meanwhile short-term technical oscillators have turned higher but then again that doesn't take much since UPL was so oversold. More importantly we expect the global oil markets to react negatively to the next U.N. security counsel meeting when they discuss Iran. Only if the counsel chooses not to pursue Iran over its nuclear arms ambitions would oil (temporarily) turn lower. The rebound in shares of UPL has stalled at the simple 10-dma. We are going to suggest a trigger to go long at $55.05. If triggered then we will target a quick rebound into the $59.50-60.00 range, which is under resistance at the 50-dma. More aggressive traders may want to use a wider stop loss.

Suggested Options:
We are suggesting the April calls.

BUY CALL APR 50 UPL-DJ open interest=1176 current ask $6.70
BUY CALL APR 55 UPL-DK open interest=1347 current ask $3.70
BUY CALL APR 60 UPL-DL open interest= 969 current ask $1.80

Picked on March xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 05/09/06 (unconfirmed)
Average Daily Volume = 1.7 million

---

Valero Energy - VLO - close: 56.52 change: -0.21 stop: 53.49

Company Description:
Valero Energy Corporation is a Fortune 500 company based in San Antonio, with approximately 22,000 employees and annual revenue of more than $80 billion. The company owns and operates 18 refineries throughout the United States, Canada and the Caribbean with a combined throughput capacity of approximately 3.3 million barrels per day, making it the largest refiner in North America. Valero is also one of the nation's largest retail operators with approximately 5,000 retail and branded wholesale outlets in the United States, Canada and the Caribbean under various brand names including Valero, Diamond Shamrock, Shamrock, Ultramar, and Beacon. (source: company press release or website)

Why We Like It:
We're adding another oil stock to the play list and this one's a refiner. VLO has rebounded sharply from its lows in February where it bounced from its simple 200-dma. Over the last two weeks the stock has been churning sideways between $53.50 and 57.00. If VLO can breakout of this trading range we think it will make another run at its highs. We're suggesting a trigger to buy calls at $57.55. If triggered we'll target a move into the $62.50-63.00 range.

Suggested Options:
We are suggesting the April calls.

BUY CALL APR 55.00 VLO-DK open interest=4213 current ask $4.20
BUY CALL APR 57.50 VLO-DY open interest=6410 current ask $2.80
BUY CALL APR 60.00 VLO-DL open interest=2741 current ask $1.80

Picked on March xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 05/02/06 (unconfirmed)
Average Daily Volume = million
 

New Puts

Apple Computer - AAPL - cls: 67.72 change: -1.89 stop: 70.11

Company Description:
Apple ignited the personal computer revolution in the 1970s with the Apple II and reinvented the personal computer in the 1980s with the Macintosh. Today, Apple continues to lead the industry in innovation with its award- winning desktop and notebook computers, OS X operating system, and iLife and professional applications. Apple is also spearheading the digital music revolution with its iPod portable music players and iTunes online music store. (source: company press release or website)

Why We Like It:
It looks like the oversold bounce in shares of AAPL is fading. The mid-February rally topped out at $73.00 under the descending 50-dma. Friday's decline proved to be a failed rally at $70.00 and a breakdown below its simple 100-dma. Technical oscillators are turning bearish and even the company's latest new products announcement failed to generate any excitement for the stock. If you look at an intraday chart (30-minute or 60-minute) you'll see that AAPL has produced a bearish head-and-shoulders pattern over the last three weeks with the neckline at the $68.00 level. This H&S pattern points to a $63.00 target. We agree. We're going to suggest puts here with AAPL under $68.00 and target a decline into the $63.00-62.50 range.

Suggested Options:
We are suggesting the April puts.

BUY PUT APR 70.00 QAA-PN open interest=22163 current ask $5.60
BUY PUT APR 67.50 QAA-PU open interest=19531 current ask $4.20
BUY PUT APR 65.00 QAA-PM open interest=32529 current ask $3.10

Picked on March 05 at $ 67.72
Change since picked: + 0.00
Earnings Date 04/19/06 (unconfirmed)
Average Daily Volume = million

---

Intl. Bus. Mach. - IBM - cls: 79.96 chg: +0.02 stop: 81.05

Company Description:
IBM is the world's largest information technology company, with 80 years of leadership in helping businesses innovate. Drawing on resources from across IBM and key IBM Business Partners, IBM offers a wide range of services, solutions and technologies that help enable customers, large and small, to take full advantage of the new era of e-business on demand. (source: company press release or website)

Why We Like It:

Shares of Big Blue have been under performing the market and its peers for several weeks in a row now. The slow trend of lower highs is pressing the stock closer toward the bottom of its $79.00-82.00 trading range. The P&F chart is bearish with a triple-bottom breakdown sell signal and points to a $73.00 target. We suspect that the next move will be lower. We're suggesting that traders use a trigger to buy puts at $78.89, under the February low. If triggered then we'll target the $74.00-73.00 range.

Suggested Options:
We are suggesting the April puts.

BUY PUT APR 85 IBM-PQ open interest=12553 current ask $5.30
BUY PUT APR 80 IBM-PP open interest=26516 current ask $1.90
BUY PUT APR 75 IBM-PO open interest=19122 current ask $0.50

Picked on March xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 04/18/06 (unconfirmed)
Average Daily Volume = 6.2 million

---

KB Home - KBH - close: 65.47 chg: -1.46 stop: 68.05

Company Description:
Building homes for nearly half a century, KB Home is one of America's premier homebuilders with domestic operating divisions in some of the fastest-growing regions and states: West Coast -- California; Southwest -- Arizona, Nevada and New Mexico; Central -- Colorado, Illinois, Indiana, Louisiana and Texas; and Southeast -- Florida, Georgia, Maryland, North Carolina, South Carolina and Virginia. Kaufman & Broad S.A., the Company's publicly-traded French subsidiary, is one of the leading homebuilders in France. In fiscal 2005, the Company delivered homes to 37,140 families in the United States and France. KB Home also offers complete mortgage services through Countrywide KB Home Loans, a joint venture with Countrywide Financial Corporation. (source: company press release or website)

Why We Like It:
Homebuilders continue to look weak despite the onset of spring in many parts of the country. You may be seeing a lot more open-house signs but the markets are worried about a slow down in new home sales and how rising interest rates will affect mortgage applications. Checking out the daily chart for KBH and you'll see that the mid-February bounce failed under the simple 200-dma and happened to be an almost perfect reversal at the 38.2% Fibonacci retracement level of its January-February decline. Aggressive traders can look for a failed rally near the 10-dma as a new entry point. We're suggesting readers wait for a new relative low. Our trigger to buy puts will be $64.75. If triggered then we'll target a decline into the $60.50-60.00 range. Keep your eyes and ears open for any news on Tuesday, March 7th since KBH will be presenting at a Citigroup conference. We will plan to exit before KBH's earnings announcement in March.

Suggested Options:
We are suggesting the April puts although we plan to exit ahead of the late March earnings report.

BUY PUT APR 70 KBH-PN open interest=1798 current ask $6.10
BUY PUT APR 65 KBH-PM open interest=4820 current ask $3.30
BUY PUT APR 60 KBH-PL open interest=3242 current ask $1.55

Picked on March xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 03/22/06 (confirmed)
Average Daily Volume = 1.9 million
 

New Strangles

None today.
 


Play Updates

In Play Updates and Reviews

Call Updates

Ashland - ASH - close: 66.10 change: +0.71 stop: 64.75

Be careful here. We are urging caution with ASH. We cannot find any news or catalyst to explain it but shares of ASH gapped higher to open at $67.11 this morning and then promptly crashed right back toward support near $65.00. We have been suggesting a trigger to buy calls at $67.05 so this morning's spike higher would have opened the play. The good news here is that traders did buy the dip toward support at $65.00. The bad news is that ASH remains under resistance in the $66.50-67.00 region. We would not suggest new positions at this time. Wait for a new relative high over $67.11 before initiating new bullish call positions. Our target is the $72.00-72.50 range. The P&F chart points to a $97 target and today's spike higher has produced a new ascending triple-top breakout buy signal.

Suggested Options:
We are not suggesting new call plays at this time. However, if ASH can trade to a new relative high then we'd pick the April calls.

Picked on March 03 at $ 67.05
Change since picked: - 0.95
Earnings Date 01/31/06 (confirmed)
Average Daily Volume = 689 thousand

---

Cigna - CI - close: 123.52 change: +0.21 stop: 119.90

The choppy sideways action in the major averages is not helping shares of CI. The stock is churning sideways itself between $122 and $124.50. We really hesitate to suggest new bullish long positions here with the failed rally in the DJIA and NASDAQ on Friday. A move to a new high (around $124.60) might be okay as an entry point to buy calls. Currently our target is the $129.75-130.00 range. CI's P&F chart is bullish and points to a $154 target.

Suggested Options:
We are not suggesting new bullish positions at this time. If CI can hit a new high we'd consider buying the April calls.

Picked on February 26 at $124.57
Change since picked: - 1.05
Earnings Date 02/08/06 (confirmed)
Average Daily Volume = 944 thousand

---

Garmin Ltd. - GRMN - cls: 74.00 change: +1.30 stop: 67.75

GRMN is a new bullish play from our Thursday night newsletter. The stock displayed relative strength on Friday with another new high on rising volume. We don't see any change from our original play description so we are reposting it here:

Lately there have been some negative comments about GRMN facing tougher competition for its global positions and navigation systems. Yet that has not stopped the stock from breaking out to new all-time highs. What we could be seeing right now is a potential short squeeze. The latest data puts short interest at 17.4% of its 59.8 million-share float. On a technical basis we certainly like Thursday's breakout and we're going to suggest that traders consider new call positions in the $70.00-73.00 range. However, we would prefer a pull back toward the $70.50-70.00 region as our entry point but GRMN's relative strength may not produce any dips in the near term. The P&F chart is bullish and points to an $85 target. We are going to target a rally into the $77.00-78.00 range.

Suggested Options:
We are suggesting the April calls.

BUY CALL APR 70 GQR-DN open interest=4768 current ask $5.90
BUY CALL APR 75 GQR-DO open interest=7365 current ask $2.95

Picked on March 02 at $ 72.70
Change since picked: + 1.30
Earnings Date 02/22/06 (confirmed)
Average Daily Volume = 1.2 million

---

Hartford Fin. Srv. - HIG - cls: 82.03 chg: -0.87 stop: 79.95

Friday's trading in HIG looks pretty bearish. The stock produced a bearish engulfing candlestick pattern and closed right at short-term support at the $82.00 level. We have very little doubt that HIG will retest the $80.00 level soon, which is another level of support bolstered by its rising 200-dma. If you do not want to risk HIG dipping to $80 and then continuing lower it might be wise to consider an early exit right here near $82.00 to limit any losses. We are not suggesting new bullish plays at this time. We'll be looking for a bounce from the $80.00 level as a potential entry point.

Suggested Options:
We are not suggesting new bullish plays at this time.

Picked on February 14 at $ 82.12
Change since picked: - 0.09
Earnings Date 01/26/06 (confirmed)
Average Daily Volume = 1.1 million

---

Monster Wrldwde - MNST - close: 48.98 chg: -1.16 stop: 47.75

MNST is a new bullish candidate from our Thursday night newsletter. We do not see any change from our original play description so we're reposting it here:

MNST has spent the first half of February consolidating its earnings-inspired rally toward $50. The second half of February witnessed a slow climb higher and now shares are testing resistance in the $50.00-50.50 range. This is a momentum play. The stock looks very overbought from its lows in October but there's no telling where the momentum will stop. We believe that if MNST breaks out to a new high then odds are it will rally toward the $55.00 level. We're suggesting a trigger to buy calls at $50.65. If triggered we will target a rally into the $54.85-55.00 range.

Suggested Options:
We are suggesting the April calls.

BUY CALL APR 45 BSQ-DI open interest=769 current ask $5.30
BUY CALL APR 50 BSQ-DJ open interest=360 current ask $2.15
BUY CALL APR 55 BSQ-DK open interest= 64 current ask $0.65

Picked on March xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 05/03/06 (unconfirmed)
Average Daily Volume = 1.7 million

---

Altria Group - MO - close: 72.11 chg: +0.50 stop: 71.85

MO's performance on Friday looks like a bounce from rising, technical support at the 200-dma. Aggressive traders might want to consider potential entry points here. We would rather wait. Many of the technical indicators are still bearish (except the daily RSI, which is starting to look positive) and MO still has short-term resistance at $74.00 and its 50-dma, now at 73.96, and its 100-dma, now at $73.70. We are suggesting that traders wait for a breakout over $74.00 and use a trigger at $74.10 to buy calls. If triggered we'll target a rally into the $77.50-78.00 range.

Suggested Options:
We are not suggesting new bullish positions at this time. If MO hits our trigger then we'd pick the April calls.

Picked on February xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 04/19/06 (unconfirmed)
Average Daily Volume = 8.1 million

---

Occidental Petrol. - OXY - cls: 95.00 chg: +0.72 stop: 89.49

The oil sector indices closed on Friday near unchanged levels but that didn't stop OXY from hitting new four-week highs. The company had some positive news on Friday. The country of Ecuador lost an appeal in a British court in a legal fight with OXY over a $75 million tax dispute (source:Reuters). Looking at shares of OXY we are not suggesting new bullish positions right now. We'd only consider new plays if we saw a bounce from the 10-dma, near $92.00. Our target is the $97.50-98.00 range. The Point & Figure chart suggests a $108 target.

Suggested Options:
We are not suggesting new bullish plays at this time.

Picked on February 21 at $ 92.00 *gap higher*
Change since picked: + 3.00
Earnings Date 05/09/06 (unconfirmed)
Average Daily Volume = 3.4 million

---

Potash - POT - close: 97.65 chg: -1.13 stop: 92.49

The upward momentum in POT stalled a bit on Friday as traders did some profit taking ahead of the weekend. Shares are relatively close to our target, which is the $99.50-100.00 range, so we're not suggesting new bullish positions at this time. More conservative traders may want to seriously consider just exiting early right here to protect any profits.

Suggested Options:
We are not suggesting new bullish plays in POT at this time.

Picked on February 23 at $ 93.05
Change since picked: + 4.60
Earnings Date 04/29/06 (unconfirmed)
Average Daily Volume = 826 thousand

---

Total - TOT - close: 126.39 change: -0.91 stop: 124.95

French oil company TOT is still struggling to gain any upward traction. Shares have drifted back toward support at its rising 200-dma but the stock can't seem to build on any bounce. We are not suggesting new bullish positions at this time. More aggressive traders can use a bounce from $125.00 or a move over the 10-dma (127.47) as a new entry point. More conservative traders can wait for a move over the 100-dma near 128.60 or the 50-dma near 130.66. If TOT does rebound then we would target the $137.00-140.00 range. The P&F chart still points to a $176 target.

Suggested Options:
We are not suggesting new bullish positions at this time.

Picked on February 16 at $127.61
Change since picked: - 1.22
Earnings Date 02/15/06 (confirmed)
Average Daily Volume = 836 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.)

---

Building Materials - BMHC - cls: 68.61 chg: -0.48 stop: n/a

Our time with BMHC is growing short. March options expire in just two weeks and if you want to exit ahead of the stock split then we have about a week and a half. Currently for this play to be a success we need to see BMHC continue lower and sink toward the $60.00 level. A week ago we adjusted our target to breakeven at $8.20. More conservative traders may want to adjust their target even lower to increase their chances at recouping some of their capital. We are not suggesting new strangle positions. The options in our strangle play are the March $90 calls (BGU-CR) and the March $70 puts (BGU-ON). Our estimated cost is $8.20.

Suggested Options:
We are not suggesting new strangle plays.

Picked on December 18 at $ 80.95
Change since picked: -12.34
Earnings Date 02/07/06 (confirmed)
Average Daily Volume = 527 thousand

---

Encana Corp. - ECA - close: 43.91 chg: +0.68 stop: n/a

ECA has been chopping up and down in a $5.00 range for the last three weeks. We need to see ECA pick a direction and go. This sideways action is bad news for a strangle play. Fortunately, we still have some time left. We are not suggesting new strangle positions. Our strangle strategy involves the April $50 calls (ECA-DJ) and the April $40 puts (ECA-PH). Our estimated cost is $3.45. We are aiming for a rise to $5.95.

Suggested Options:
We are not suggesting new strangle plays.

Picked on January 10 at $ 45.56
Change since picked: - 1.65
Earnings Date 02/15/06 (confirmed)
Average Daily Volume = 4.4 million

---

Loews Corp. - LTR - close: 94.59 change: -0.03 stop: n/a

Our aggressive strangle on LTR only has two weeks left before options expire. We are not suggesting new strangle positions. Buying this strangle was a bet that LTR will be trading at more than $102 (above resistance) or less than $88 (under support) by March expiration. The options in our strangle are the March $100 calls (LTR-CT) and the March $90 puts (LTR-OR). Our estimated cost is $1.75.

Suggested Options:
We are not suggesting new strangle plays.

Picked on February 13 at $ 95.72
Change since picked: - 1.13
Earnings Date 02/16/06 (confirmed)
Average Daily Volume = 513 thousand

---

Ryland Group - RYL - close: 68.43 change: -1.63 stop: n/a

Homebuilders continued to see profit taking on Friday and shares of RYL lost 2.3% to close under the $70.00 level again (and its exponential 200-dma). We are not suggesting new strangle positions at this time. Our play involves the April $80 calls (RYL-DP) and the April $70 puts (RYL-PN). Our estimated cost is $7.00. Our target is $12.00.

Suggested Options:
We are not suggesting new strangle plays.

Picked on January 22 at $ 75.19
Change since picked: - 5.77
Earnings Date 01/24/06 (confirmed)
Average Daily Volume = 1.1 million
 

Dropped Calls

Beazer Homes - BZH - close: 63.13 change: -0.77 stop: 62.65

Homebuilders continued to be under pressure on Friday. The DJUSHB home construction index lost 1.85% and technical indicators for the sector index are definitely turning more bearish. Shares of BZH could not handle the pressure and broke down intraday under technical support at its simple (and exponential) 200-dma. We have been stopped out at $62.65.

Picked on February 15 at $ 65.05
Change since picked: - 1.92
Earnings Date 01/19/06 (confirmed)
Average Daily Volume = 1.2 million

---

MDC Holdings - MDC - close: 60.10 chg: -0.55 stop: 61.15

MDC is another homebuilder caught up in a two-week long sell-off that doesn't seem to be showing any signs of stopping. We had been suggesting that readers buy calls on a breakout over $65.00 with a trigger at $65.05. The play has never been triggered so we're dropping MDC as a candidate. If the stock moves under the February low and it might be time to evaluate MDC as a bearish candidate.

Picked on February xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 04/18/06 (unconfirmed)
Average Daily Volume = 856 thousand

---

Prudential - PRU - close: 74.73 change: -0.86 stop: 74.95

The breakout in PRU has failed. The stock continued to sink on Friday and traded below round-number support at $75.00 and technical support at its 50-dma. We were stopped out at $74.95. If PRU continues to sink and trades under the 100-dma, then traders might want to consider bearish positions and target the 200-dma near $70.00.

Picked on February 24 at $ 77.10
Change since picked: - 1.51
Earnings Date 02/08/06 (confirmed)
Average Daily Volume = 1.9 million
 

Dropped Puts

None
 

Dropped Strangles

None
 


Trader's Corner

A Primer on Elliott Wave Theory--Part II

Last week I introduced the concept of Elliott Wave Theory and why it's so effective in measuring stock price movements. If you missed the article here's the link: http://www.OptionInvestor.com/page/oin/commentary/newsletter/2006/02-25.html>

This week I want to continue the introduction to EW analysis and show some practical ways to use it.

Practice is the key. There are charting programs out there that make an effort to label the waves for you. I have found all of them deficient and it's mostly due to these corrective waves. Labeling waves by hand on your own chart is the single best way to learn the nuances of them and helps you get a feel for how the market is moving. An example of getting a feel for a wave count is what I call the sniff test. If it doesn't look right it probably isn't. Computer programs have a hard time with the sniff test whereas the human brain is very good (with a little practice). Since the corrective wave count is often not clear until after it finishes, or just before it's about to finish, the human brain is better than a computer at projecting (visualizing) possibilities.

As mentioned above, Fibonacci retracements of a move give us targets for a correction. The most reliable Fib retracements to use are 21.4%, 38.2%, 50%, 61.8% and 78.6%. The combination of these retracements and the Fibonacci projections based on Fib relationships between the waves can be very helpful in identifying price targets. Another useful technique, and quite simple to employ, is the use of trend lines and parallel channels. Trend lines are used by many traders and parallel channels do a good job at showing you the measured moves that the market tends to make.

The wave patterns very often stick to trend lines and parallel channels. In an uptrend take a parallel to the uptrend line and attach it to the first high between the two lows. Referring to the figure below, you first draw a line from the start of a rally through the first pullback which is wave-2. The parallel is then attached to the top of wave-1 and the extension of it is often times a good guide for where wave-3 will stop.

Drawing Parallel Channels

After drawing in the trend lines as described above, once it appears wave-3 may have ended, draw a line from wave-1 to wave-3 and attach a parallel to wave-2. This lower line will often mark where wave-4 will find support. If wave-4 stops at a different place than the parallel line, draw a line from wave-2 to wave-4 and then attach a parallel to wave-3. This parallel line will then often mark where wave-5 will end.

One other thing that I like to do, which is not shown above, is draw in a mid-line centered between the two parallel lines. This often marks minor support and resistance during a move and it very often marks where wave-5 will end (in other words it often does not make it up to the top line). Most programs will draw regression channels that are similar to these parallel channels but I like to draw them manually since they're off the EW count.

Drawing these kinds of parallel channels also works for corrections. Once you have two highs in a pullback and draw your downtrend line on them, take a parallel of that line and snap it to the low that is between those two highs and that often marks where the next leg down (wave-C) will stop. This will be especially true if the market gives two equal legs up or down in its correction (wave-A = wave-C).

Let's look at a couple of real life examples. Actual wave patterns are never as cut and dried, or as easy to identify, as the above patterns and this is where the subjective interpretation comes into play. A combination of EW analysis, Fibonacci retracements/projections and trend lines/channels makes for a powerful combination to determine price moves. Add in your other favorite technical tools for confirmation and you've got a trading system that is hard to beat. Let's take a look at a rally in the RUT to dissect the move and see how the count progressed:

RUT, Waves (1) to (3)

After the rally got underway, you can take a guess at waves (1) and (2) and then once we got a deeper pullback underway from the high in mid June we could label that as wave-(3). As an alternative it would have been labeled A-B-C in case it was going to be just a 3-wave upward correction against the decline from earlier in the year. So a red trend line was drawn from wave-(1) to wave-(3) and a purple parallel line was attached to wave-(2). This provided a guide as to where wave-(4) might pull back to. Some times it drops down to it and other times it chops sideways over to it.

And sure enough wave-(4) stopped near that lower trend line (middle of the chart below). Now it became a question where wave-(5) would end.

RUT, Finish Wave-(4) and Start Wave-(5)

As the rally progressed and came up near the upper trend line in mid July, it looks like it ended and first impression is that wave-(5) ended at that high. But looking a little closer at the inside of wave-(5) shows why it wasn't to be trusted as the end of the run up--as the rally progressed we got a quick succession of two highs and pullbacks, labeled waves 1 and 2 and then (i) and (ii) in the above chart. It can't be waves 1-2-3-4 where you'd label wave-(i) on the chart above as wave-3 intead and wave-(ii) as wave-4 because 4 would overlap wave-1 and wave-3 would be the shortest wave. Both would be rule violations.

So the small rally and pullback in the first week of July has to be another smaller degree 1st and 2nd wave as labeled above. This is the reason the high in mid-July would be labeled wave-(iii) and it meant we needed to look for waves (iii), (iv) and (v) to finish wave-3. Moving to the next chart, pick up from where we had wave-(iii) near the upper trend line, again about in the middle of the chart.

RUT, Finishing Wave-(5)

Remember, each impulsive wave, as wave-3 of (5) needs to be, consists of its own 5 waves so after wave-(iii) and then the pullback to wave-(iv), the next leg up was wave-(v). That finished one larger degree wave which was wave-3. Notice the negative MACD divergence against wave-(iii) and wave-(v) in mid July. The 5th wave is almost always negatively divergent against the 3rd wave and it's something you want to check for to add to your confidence that you have the correct count. Use either MACD or RSI for this as they're very powerful tools in EW analysis.

After the completion of wave-(v) and therefore wave-3, we got a sideways triangle wave-4 into the end of July and note how this predicted the last move up to wave-5 in early August. Sideways triangles in this position of a rally are highly accurate in predicting the last move is coming. Once wave-5 completed it finished the next larger degree wave-(5), thereby completing the 5-wave count up from the April low. Note how wave-(5) finished essentially at the mid-line of the up-channel, a common occurrence. Note also the continued bearish MACD divergence at the wave-(5) high.

One last technique to help identify where the final 5th wave will end is to look for the relationship between the 1st and 5th waves. The common relationship between these two waves is that wave-5 will equal 62%, 100% or 162% of wave-1.

RUT, Using Fibs to Project wave-(5)

This chart shows a Fib projection for wave-5 of (5) based on the size of wave-1. QCharts has a tool to do this but you can obviously calculate it by hand. Wave-1, of wave-(5), at the end of June, ran from 625.84 to 646.04 so 20.20 points. From where wave-4 ended at the end of July, at 668.82, adding 20.20 points gives us an upside target of 689.02 which is what the Fib projection on the above chart shows. Had the rally not stopped there, I would have been looking for the upside Fib target of 701.50 up near the upper trend line.

Once price broke down from the parallel channel we had confirmation that the 5-wave move up from April had completed. Many times price will then rally back up to test the bottom of the channel which is usually a good spot to get short. And then once that bounce completes and price continues lower you have your first two points (the high of the rally and then the high of the bounce) to draw your first downtrend line. Wait for the next leg down to complete and snap a parallel line to it and start the whole process all over, this time looking for a corrective pattern that corrects the 5-wave impulsive move up from April to August.

As I said at the start, this is not an easy tool to master. If you're serious about adding this technique to your toolbox, here is a recommended reading list. I would read them in the order listed so as to get a better understanding of the subject without getting overwhelmed with detail that's hard to understand. The last two books are less about the details of wave structure and more about the market and the economy and how you can see the application of EW Theory. You may email me any questions you have on the subject. Good luck and have fun with it.

1) The Elliott Wave Principle Robert Prechter and A.J. Frost
2) Mastering Elliott Wave - Glenn Neely and Eric Hall
3) Conquer the Crash Robert Prechter
4) The Wave Principle of Human Social Behavior Robert Prechter
 

Today's Newsletter Notes: Market Wrap by Jim Brown, Trader's Corner by Keene H. Little, 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