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Daily Newsletter, Tuesday, 07/18/2006

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Table of Contents

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

Market Wrap

Bernanke Watch

One report down and one to go but the biggest hurdle is still the Bernanke testimony on Wednesday. The Producer Price Index headline number showed inflation soaring at +0.5% but investors are holding out hope that the CPI on Wednesday will show a lack of inflation pass through at the consumer level. Personally I think we have a better chance of being struck by a meteor during the Bernanke testimony than we have of receiving a tame CPI number.

Dow chart - 60 min

Nasdaq Chart - Daily

The Producer Price Index headline number came in at +0.5% and much higher than the +0.3% consensus. Core intermediate goods rose +0.8% while core crude goods rose a whopping +1.7%. However, if you don't count food and energy the core rate for finished goods was a tame +0.2%. Bank America's Tom McManus echoed my often-repeated feelings on CNBC after the report. Food and energy are two of the biggest expenses for consumers and removing them from consideration just to provide a number that is easier for the market to digest is simply lying to ourselves. It is a scheme perpetrated by government economists to manage the numbers to their liking.

Using their numbering scheme inflation in producer prices at the core rate is up only +1.9% year over year and within tolerable levels according to the Fed. That is in sharp contradiction to the internal components with materials used by manufacturers rising by +31.7% over the last three months. Prices for crude food products rose +4.8% in July. Finished energy products rose +22.3% for the quarter and +6.3% in July. Core crude products rose +63.1% on an annualized rate during Q2. On Wednesday we will get the Consumer Price Index, which is conveniently expected to show a rise of only +0.2%.

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The major event for Wednesday is not the CPI although it will be closely watched. Bernanke will be the focal point as he presents his testimony on the state of the economy. Speculation is whirling faster than a twister in Kansas as to what he will say and how the markets will react. The Fed Funds Futures have risen ahead of his appearance to a 65% chance of a rate hike in August. The consensus view is a Goldilocks report with just the right amount of optimism mixed with the right amount of caution. How the markets interpret his comments is more of a challenge than the actual inflation dilemma.

Earnings are well underway and while results have been more positive than many expected the impact to stocks has been dismal. United Technology posted strong earnings that beat the street and provided upbeat guidance while raising their estimates. Sounds great, right? UTX barely managed a +.98 day even after being hammered for a -$6.50 loss over the prior three days on earnings fears. By any metric UTX was oversold and the reasons for the sell off were in error. Fears that the airline business was suffering were removed when UTX said sales of airplane components were strong. Buyers avoided UTX other than a little short covering at the open.

Wells Fargo posted earnings that were a penny shy of estimates and followed in Citigroup's penny miss shadow from Monday. WFC was spared the obligatory sell off and lost only -.30 cents. Merrill Lynch posted earnings of $1.58 billion that rose +42% and beat the analyst estimates by +11 cents. Merrill dropped a buck on fears that the tough market would impact results for Q3. It is not what you did for me last quarter but what will you do for us next quarter. Apparently Merrill failed to impress investors with its guidance. Blackrock (BLK) fell -7.11 after saying their deal with Merrill was on track. Overall worries about the future health of the financial sector added to its drop. Coca-Cola (KO) gained +85 cents after posting earnings that rose +7% on sales of water and Powerade. The results were inline with analyst estimates and not usually a reason to rally. Expectations for KO were negative making an inline report actually a positive surprise.

Those companies disappointing the street were beaten severely. Target (TGT) was punished for a -$2 loss after warning that same store sales would be at the low end of the expected range at +3-4%. Just last week target affirmed earnings estimates of +69 cents but that did not help them today. The drop in sales at Target was seen as a slowdown in consumer sales in general. Wal-Mart has said that customer visits have slowed with customers combining trips and driving less to cut down on gasoline expenses. This is being seen across the retail sector and suggests at least a few consumers are having trouble budgeting money for those non-core components of food and energy. Most retailers were down sharply with ANF losing -2.56 after AG Edwards downgraded it to hold from a buy. AEOS gave up -2.07. This was the story across the sector.

Eaton (ETN) beat the street by a nickel but was slammed for a -$4 loss on Monday after warning that growth could slow due to higher interest rates. Health insurer Centene (CNC) fell -7.50 or -35% to a new three year low after warning that profits would be lower than expected. Wellcare Healthplans (WCG) fell -4.10 after CNC warned and Deutsche Banc initiated coverage at a hold.

The housing sector continues to slump with almost daily warnings by some company in the sector. Today MGIC (MTG) lost -3.51 after reporting that income fell -14% due to the slowdown in the home market. MGIC reported a -5.5% drop in net premiums. The NAHB Housing Market Index fell from 42 in June to 39 in July and the lowest level since Dec-1991. Buyer traffic fell -2 to 27. The headline number has fallen -33 points since the June 2005 high at 72. The chart below is the most representative of the recent housing slump. NVR topped at $846 back in April and closed at $392 today and a new 3-year low. $400 was decent support but the continuing bad news was too much to bear. NVR has no options so I watch and weep as its moves make Google look tame.

After the bell IBM reported earnings that beat the street by a penny, which pushed the stock +1.70 higher in moonlight trading. IBM had been trading at a new 52-week low of $72.73 just prior to the close but a bout of short covering produced a +1.50 jump. That same bearishness that pushed IBM to that low was helping provide the after hours lift on additional short covering. Those shorts may reconsider their exit tomorrow after IBM said new contracts for services were only $9.6 billion and down from $11.9 billion in the current quarter. JPM had lowered their estimates to 11.0B and UBS to 10B over the last week. Evidently they needed to revise even lower. IBM saw revenues rise overall only +1% for the quarter. IBM rallied to just over $76 in late evening trading. One plus for IBM was the close of its PC business sale to Lenovo. That sale concluded one month into the quarter and takes away a major drag on IBM profitability going forward.

Yahoo reported earnings that earnings that were inline with the street at +11 cents but revenue was significantly below expectations. Yahoo also said they were delaying the launch of its new advertising technology to Q4 instead of Q3 as expected. YHOO fell -$4 or -10% in after hours trading. Guidance for the current quarter was also weak and below analyst's estimates. This may be more important for Google earnings on Thursday than Yahoo. If Yahoo's earnings were weak because they are losing business to Google then Google could report stronger numbers. If the low revenue is a system wide problem then it could impact Google more than Yahoo because its numbers are more highly scrutinized than Yahoo. As the new kid on the block revenue growth is more important to show a continuation of a successful business model. Google fell -17 after Yahoo earnings.

Yahoo Chart - 30 min

Two other tech giants are scheduled to report this week. Microsoft will report on Thursday and Intel on Wednesday. Fears over Intel's earnings pushed the Semiconductor Index (SOX) to a new 52-week low at 394 late Tuesday. The late day rebound in techs saw the SOX move back to 405 but that was little relief for the chip bulls. Investors fear Intel will miss earnings and lower guidance due to the slowdown in PC sales and the price war with AMD. If there was ever an opportunity for a positive surprise this is it.

Crude Oil Chart - Daily

Oil prices continued their slide from their all time high at $78.40 set last week. Oil closed at $73.55 today for a -1.76 loss or -4.85 from Friday's high. On the surface the drop was blamed on a cooling of tensions in the Middle East. Israel and Hezbollah are still fighting but initial fears that Iran and Syria would join the battle are rapidly subsiding. Condoleezza Rice triggered the afternoon sell off when she said the conflict was likely to remain localized. Other Middle East nations have come out against Hezbollah and even Hamas making it appear Iran has failed in its attempt to rally support against Israel. There are still comments against Israel from the various permanent anti-Israel voices but that is nothing new. For oil prices the only state that matters is Iran. As long as it remains quiet and does not play its oil card the situation will remain a local dispute. Excess oil inventories in the US and a slowing of demand post July-4th will continue to pressure prices unless a Gulf hurricane appears. We finally got a storm in the Atlantic but Beryl is headed up the east coast and is not a threat to the oil fields.

A reader sent me a link to a New York Times opinion column regarding the Israel conflict. It was short, sweet and to the point. Syria is staying out of the conflict to avoid the loss of its infrastructure. Israel could quickly eliminate its power stations, oil refineries, major bridges, etc, like they are doing to Lebanon. Syria has a stronger military but there is no future in fighting Israel. Syria has never violated the 1974 cease-fire and has suffered substantially whenever they go up against Israel. Iran was the other wildcard and even though Iran wants Israel destroyed they can't fire a shot without considerable risk. If they attacked Israel it would essentially give Israel the ok to bomb them back and any nuclear assets would disappear in the first wave of retaliation along with oil fields, refineries and infrastructure. Iran talks a big game against Israel but Israel has the bigger stick. They are probably wishing Iran would attack them so they can strike back without fear of global outrage. Bottom line as long as the Israel-Hezbollah war remains localized there should be no impact to oil or oil prices. The press has already quit reporting much of the fighting and Bernanke remains more of a risk to the market than the conflict. http://www.nytimes.com/2006/07/18/opinion/18luttwak.html?_r=1&oref=slogin

On Sunday I suggested we could get an oversold rebound this week if earnings were not as bad as expected and Bernanke was dovish tomorrow. So far earnings have been mixed but better than expected. A few high profile companies continue to spoil the outlook and analysts can't make up their mind about Bernanke. I view Wednesday as the key to the markets. Intel will lead the tech parade followed by AAPL, ASML, CDWC, EBAY, EFII, JNPR, LRCX, MOT, NVLS, QCOM, RMBS and TER to name a few. We should have a lot better picture of the chip sector by 6:PM on Wednesday. If those companies post positive guidance the extremely oversold chip sector could rally and spark buying of techs in general. There is still the problem with the CPI and the Bernanke testimony. Hopefully a less than catastrophic CPI is already baked into the cake and Bernanke will want to appease the markets rather than crash them. There are a lot of dominoes to fall before a rally can appear but they are lined up and waiting for the right push.

Market Internals Table

Despite the high profile disappointments earnings have been strong relative to projections. 64 S&P-500 companies have reported. Average earnings have risen +21.3% and revenues +14.6% for Q2. This is far better than the +12.3% overall projection but early reporters are typically the cream of the crop. Of those 64 companies 67% beat estimates, 13% missed and 20% were inline. Remember the statistics from Sunday. Only 44 S&P companies had reported and average earnings were up +31.5% and revenue +17%. As of today that earnings average has dropped a third to only +21.3% with only 20 additional companies reporting. The farther we get into the earnings cycle the more pressure we will see from weaker reports. The exception to that rule will be the energy sector, which begins reporting later this week. Their +32% earnings growth estimate will provide support for the S&P averages.

The Dow has held at 10700 and strong support for the last three days. It is as though traders were waiting for the Bernanke cloud to pass before making any commitments. So far they have been content to buy that support but they are not pressing their luck. Tuesday afternoon did see a short covering rally ahead of IBM and Yahoo, which lifted the Dow +119 off its lows to close at 10802. That is a pretty decent rebound for a weak market. It is just more evidence that the market is primed for launch and just needs the right spark.

The Nasdaq sank to 2012 and a new 52-week low at 1:30 but benefited from the short covering bounce, which added +30 points. Again, that was a decent rebound not immediately recognizable from the meager +5 point gain for the day. The Nasdaq futures are down -6 overnight after the Yahoo news. Google fears will probably keep it down and keep the Nasdaq under pressure until the Intel earnings change investor focus back to chips. The S&P-500 dipped to 1225 intraday before returning to its comfort zone between 1230-1240. This appears to be where investors are comfortable while on Bernanke watch.

I have not changed my outlook. Without a serious earnings miss I think investors are itching to buy the current dip. Unless Bernanke says rate hikes are over I believe that bounce will eventually fail and there are lower lows ahead. I would definitely buy any bounce using the current 12700/2000/1225 as a decision point. If we dip below those levels I would remain short. Once we get a rebound we will begin targeting a resistance failure based on the strength of the internals and the continuing earnings picture. One word of caution. The longer we linger here without a rebound the more likely it will not occur. Just like constant bumping against resistance weakens it for an eventual breakout, constant chipping away at support will eventually weaken it to the point of collapse. Wednesday is the key. CPI, Bernanke plus Intel and the chip crowd should give us direction. Follow that direction!
 


New Plays

New Option Plays

Call Options Plays
Put Options Plays
Strangle Options Plays
None None None

New Calls

None today.
 

New Puts

None today.
 

New Strangles

None today.
 


Play Updates

In Play Updates and Reviews

Call Updates

Dominion - D - close: 75.02 change: -0.76 stop: 74.49

Tuesday was a rather bleak day for shares of D. The stock slipped through out the session and hit a low of $74.58 before the very late afternoon market bounce appeared and probably saved us from being stopped out. Monday's trip above the $76.00 level is looking like a bull trap. We are not suggesting new plays with D under $76.00. Our target is the $81.00-82.00 range although more conservative types may want to exit near $80.00. Please note that we do not want to hold over D's early August earnings report.

Picked on July 17 at $ 76.05
Change since picked: - 1.03
Earnings Date 08/03/06 (confirmed)
Average Daily Volume = 1.5 million

---

EOG Resources - EOG - close: 66.88 change: -0.57 stop: 69.90

Oil stocks turned in a mixed performance today but overall the trend was negative with another 2.3% decline in crude oil following Monday's sell-off. The excuse today for crude's decline was the idea that the current Middle East conflict would not spread to oil-producing countries. The intraday bounce from EOG's simple 50-dma is encouraging but we're still on the sidelines and a long way from being triggered at $72.55. Nimble and aggressive traders might consider buying a bounce from current levels but EOG needs to breakout from its short-term trend of lower highs.

Picked on July xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 08/01/06 (confirmed)
Average Daily Volume = 3.5 million

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Fortune Brands - FO - close: 70.74 change: +0.19 stop: 69.74

FO continues to trade sideways and thus far is honoring support at the $70.00 level. That's a positive sign considering the weakness in the retail sector following Target's sales warning today. We are not suggesting new positions at this time. FYI: We still don't have a confirmed earnings date yet. One source says FO is due to report on July 28th. We may end up exiting on Thursday. We'll let you know tomorrow.

Picked on July 06 at $ 71.30
Change since picked: - 0.56
Earnings Date 07/21/06 (unconfirmed)
Average Daily Volume = 674 thousand

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Reynolds American - RAI - close: 120.37 chg: +0.55 stop: 117.45

The action in RAI on Tuesday looks like a new bullish entry point to buy calls. Traders were relatively quick to buy the dip near the stock's rising 10-dma this afternoon and the close over the $120 level is a positive sign. We would have liked to have seen more volume. Our short-term target is the $124.50-125.00 range.
We have a limited amount of time for this play to work since we plan to exit ahead of the late July earnings report.

Picked on July 17 at $120.20
Change since picked: + 0.17
Earnings Date 07/26/06 (unconfirmed)
Average Daily Volume = 636 thousand
 

Put Updates

Alcon Inc. - ACL - close: 93.83 chg: -0.85 stop: 100.05

Shares of ACL continue to show relative weakness. The stock lost 0.89% to close at another relative low on Tuesday. The close under June's low of $94.44 is a good sign for the bears. We're suggesting two targets. Our conservative target is the $90.50 mark. Our aggressive target is the $87.00-85.00 range. We do not want to hold over the July 24th earnings report so we don't have a lot of time.

Picked on July 13 at $ 95.61
Change since picked: - 1.78
Earnings Date 07/24/06 (confirmed)
Average Daily Volume = 805 thousand

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Air Products Chem. - APD - close: 61.90 chg: +0.39 stop: 65.01

APD managed a bit of an oversold bounce today but the rally failed to breakout past the $62.00 level and its simple 200-dma. We're not sure if it's significant but today's session did produce a bullish engulfing candlestick pattern. At this time we remain bearish and continue to target the $59.00-58.00 range.

Picked on July 09 at $ 62.95
Change since picked: - 1.05
Earnings Date 07/26/06 (confirmed)
Average Daily Volume = 1.2 million

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Apollo Group - APOL - close: 48.49 chg: -0.35 stop: 51.01 *new*

Good news! Earlier we mentioned that readers could look for a failed rally under $50 or its 10-dma as a new entry point. Well, APOL provided that failed rally today. More conservative traders may want to wait and see how the market reacts to tomorrow's CPI report before initiating new positions. We're going to lower our stop loss to $51.01. Our target is the $45.50-45.00 range. The P&F chart points to a $40.00 target.

Picked on July 09 at $ 49.92
Change since picked: - 1.43
Earnings Date 09/19/06 (unconfirmed)
Average Daily Volume = 1.4 million

---

Cardinal Health - CAH - cls: 63.50 chg: +0.30 stop: 65.25

CAH is still consolidating sideways. Aggressive traders might want to consider buying puts on a failed rally under $65.00. We're going to stick to our plan with a trigger at $62.25. If triggered then we'll target a decline into the $57.75-57.00 range. More aggressive traders might want to aim for the $55 region. The P&F chart points toward $40. We do not want to hold over the early August earnings report.

Picked on July xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 08/03/06 (confirmed)
Average Daily Volume = 1.6 million

--

Caterpillar - CAT - close: 69.47 chg: +0.58 stop: 72.31 *new*

CAT hit a new four-week low today before the last minute market rally pushed shares into the green again. Today's bounce from the $68.00 level is somewhat concerning and we've been warning readers that if the DJIA bounces CAT will probably follow. We only have a few days left before CAT reports earnings. We're not suggesting new plays at this time and we are choosing to adjust our stop loss to $72.31. Our target is the $67.50-66.50 range, which is just above the rising, simple 200-dma.

Picked on July 12 at $ 71.31
Change since picked: - 1.84
Earnings Date 07/21/06 (confirmed)
Average Daily Volume = 5.1 million

---

Express Scripts - ESRX - cls: 70.10 chg: -0.57 stop: 71.51

ESRX was moving our direction (lower) until the late day market rally that pushed shares back above the $70.00 level. Overall the technical picture still looks bearish but we're concerned that if the market rallies ESRX will follow! Our target is the $64.50-64.00 range. We do not want to hold over the July 26th earnings report.

Picked on July 17 at $ 69.30
Change since picked: + 0.80
Earnings Date 07/26/06 (confirmed)
Average Daily Volume = 2.0 million

---

IDEXX Labs - IDXX - close: 73.61 chg: +0.55 stop: 76.51

There is no change from our previous updates. Traders should strongly consider locking in some profits. If the market rallies on the CPI report or something said by Bernanke tomorrow then IDXX could definitely produce an oversold bounce. We're not suggesting new positions. Our conservative target at $75.25 has already been hit and we're aiming for the $72.00 level.

Picked on June 12 at $ 77.95
Change since picked: - 4.36
Earnings Date 07/28/06 (unconfirmed)
Average Daily Volume = 144 thousand

---

Jacobs Engineering - JEC - cls: 72.99 chg: +1.11 stop: 77.55

JEC produced a strong bounce today. Actually the stock produced an intraday double-bottom near $70.85. At this time we would expect the bounce to continue and for JEC to hit the $74.00-75.00 region. The simple 200-dma near $75.40 should offer overhead resistance. Wait for the rebound to roll over before considering new positions. Our target is the $69.00 level near the June lows. More conservative traders may want to exit at $70 while aggressive traders may want to aim lower. Bear in mind that we do not want to hold over the July 25th earnings report so we only have a few trading days.

Picked on July 16 at $ 73.75
Change since picked: - 0.76
Earnings Date 07/25/06 (confirmed)
Average Daily Volume = 583 thousand

---

Lazard Ltd. - LAZ - close: 34.40 chg: -0.60 stop: 36.75

There were a number of earnings reports in the investment-sector today with MER, SCHW, BLK, AMTD and JEF all reporting. Yet the news failed to rally inspire any buying, except for AMTD, which rallied strongly. Shares of LAZ definitely under performed its peers and the market with a 1.7% decline today. Our trigger to buy puts was at $34.49 so the play is now open. However, readers might want to be patient. LAZ was trading up from its lows late this afternoon and we wouldn't be surprised by a bounce toward $36. A failed rally near $36 would be an attractive entry point to buy puts. Our target is the $31.00-30.00 range. We do not want to hold over the early August earnings report.

Picked on July 18 at $ 34.49
Change since picked: - 0.09
Earnings Date 08/08/06 (unconfirmed)
Average Daily Volume = 504 thousand

---

Panera Bread - PNRA - close: 59.41 chg: -1.30 stop: 62.01

Shares of PNRA continued to sink on Tuesday and the stock hit a new eight-month low with today's 2.1% decline. Volume came in pretty strong on the sell-off, which is normally bearish. Our trigger to buy puts was at $59.49 so the play is now open and our target is the $55.50-55.00 range. We do not want to hold over the July 25th earnings report.

Picked on July 18 at $ 59.49
Change since picked: - 0.08
Earnings Date 07/25/06 (confirmed)
Average Daily Volume = 494 thousand
 

Strangle Updates

None
 

Dropped Calls

None
 

Dropped Puts

Whole Foods - WFMI - close: 56.78 chg: -2.14 stop: 63.01

Target achieved. Investors were already nervous about a slow down in the consumer due to high fuel costs and today's sales warning from Target (TGT) prompted a sharp sell-off in retail stocks. Shares of WFMI dipped to an intraday low of $54.66 before closing with a 3.6% loss on very strong volume. Our target was the $56.00-55.00 range.

Picked on July 12 at $ 61.20
Change since picked: - 4.42
Earnings Date 07/31/06 (confirmed)
Average Daily Volume = 1.4 million
 

Dropped Strangles

D.R.Horton - DHI - close: 20.00 change: -0.72 stop: n/a

Target achieved. Investors are also worried about a slow down in the economy and the housing sector. Today's news that homebuilders' confidence hit 15-year lows did not help matters. The DJUSHB index lost another 1.9% and leading the way was DHI, which fell another 3.4% today on big volume. The company is due to report earnings tomorrow. Our plan was to exit if either option in our strangle hit $2.55 or more. Today the August $22.50 put (DHI-TX) hit a high of $2.90. Our estimated cost was $1.70.

Picked on July 09 at $ 23.90
Change since picked: - 3.90
Earnings Date 07/20/06 (confirmed)
Average Daily Volume = 3.7 million
 

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