Option Investor

Daily Newsletter, Monday, 07/31/2006

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Table of Contents

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

Market Wrap

Natural Gas Explosion Leaves Majors Unchanged

September Natural Gas futures (ng06u) surged higher on Monday to settle up $1.027 per 1,000 cubic feet, or 14.3%, as temperatures across much of the Midwest and Northeast, combined with last week's surprising draw (7 billion cubic feet) in inventories brought strong buying into the complex.

The summer heat wave had temperatures reaching well into the 90's, with much of the nation's power grid seeing peak levels of demand.

Continued violence and little confirmation of a cease-fire in the Middle East also helped lift September Crude Oil futures (cl06u) back near last week's highs, with the September contract settling up $1.16, or 1.58% at $74.40.

Volume at the big board came in about average with July's average daily volume of 2.34 billion shares, while NASDAQ volume was notably weak and below July's average daily volume of 1.93 billion shares.

Merger activity was modest, but shares of Disk Drive Index (DDX.X) component M-Systems (NASDAQ:FLSH) $36.00 +13.24% jumped after the Israel-based maker of removable flash storage devices said it had agreed to be bought by SanDisk Corp. (NASDAQ:SNDK) $46.66 -1.01% for $1.35 billion.

SanDisk said it was offering M-Systems shareholders 0.76368 shares of SanDisk stock for each M-Systems share, which at Friday's close valued M-Systems at $36.00 per share.


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Copper miner Phelps Dodge (NYSE:PD) $87.34 +7.16% rose sharply after the company said it would no longer pursue an acquisition of Falconbridge (NYSE:FAL) $55.06 +0.07% after that company's shareholder-base rejected Phelps' offer. Phelps Dodge said it remained committed to its Inco (NYSE:N) $77.77 +1.79% acquisition strategy.

Prudential analyst John Tumazos upgraded Phelps Dodge's shares to "overweight" and lifted his price target to $110 from $60.

Meanwhile, Teck Cominco (NYSE:TCK) $66.12 +1.92% said it was raising its cash portion of a hostile cash-and-stock offer to buy Inco. The bid now stands at $14.5 billion, including up to $8.04 billion in cash payouts.

Today's earnings calendar was busy once again.

Shares of health service provider Humana (NYSE:HUM) $55.93 +8.51% surged $4.39 per share after the company said its Medicare Advantage plan pushed net income higher to $89.5 million, or $0.53 a share. Analysts were expecting EPS of $0.35 a share. The company said revenue climbed 52% to $5.41 billion and that full-year earnings may top estimates.

Shares of Scottish Re Group (NYSE:SCT) $3.99 -75.06% were the second-most actively traded at the big board and plunged after the life reinsurer said its CEO Scott Willkomm resigned, and that the company now expects to report an operating loss of approximately $130 million for the second quarter. The company said it has hired investment bankers Bear Stearns & Co. and Goldman Sachs to evaluate "strategic alternatives and potential sources of capital."

Drug giant and Dow component Pfizer (NYSE:PFE) $25.99 -0.45% edged down 12 cents and were atop today's list of most actively traded stocks. The company said today that Jeffrey Kindler will take over for embattled Chief Executive Hank McKinnel. Mr. Kindler is a former CEO of two McDonald's (NYSE:MCD) $35.39 +0.28% subsidiaries.

U.S. Market Watch - 07/31/06 Close

Airline stocks remain fairly volatile and just when they looked to be "taking off" the past couple of week, they were grounded today with Continental Airlines (NYSE:CAL) $26.34 -7.44% pacing declines on no company specific news that I could uncover.

UAL Corp. (NASDAQ:UAUA) $26.14 -5.01% reported its first profit since coming out of bankruptcy. Shareholders were rewarded with a post-bankruptcy new low of $25.80 intra-day.

The Oil Service HOLDRs (AMEX:OIH) $145.77 +2.94% took today's top spot among narrow list of sector winners in the U.S. Market Watch with top-weighted holdings Halliburton (NYSE:HAL) $33.36 +2.29%, Baker Hughes (NYSE:BHI) $79.95 +2.63%, Schlumberger (NYSE:SLB) $66.85 +2.45% and Transocean (NYSE:RIG) $77.23 +1.21% trading higher.

Retailers as depicted by the S&P Retail Index (RLX.X) 436.01 +0.31% finished flat. The group found a bid at the open when Wal-Mart (NYSE:WMT) $44.50 +0.08% said U.S. July same-store sales rose 2.4%, which was at the high end of the company's prior forecast.

Thomson Financial said it expects July same-store sales to rise an average of 3.6% overall, and increase 4.7% excluding Wal-Mart's sales.

Though same-store sales are an important metric of monthly performance, analysts cautioned not to read too much into results for July, the smallest month in the second quarter in terms of sales, according to Lehman Brothers.

Economic data released today had the National Association of Purchasing Management Chicago saying its index of area business activity rose to 57.9 in July on a seasonally adjusted basis from 56.5 in June. Economists were expecting a reading of 56.0.

Regional central bankers made some comments with little more than a week to go before the Fed's rate-setting committee next Tuesday (08/07/06). Two central bankers underscored their uncertainty surrounding the key question of whether another interest rate hike was in store.

Federal Reserve Bank of San Francisco President Janet Yellen said she thought monetary policy appears where it needs to be given a moderation in economic growth and the impact of rate hikes, but added that central bankers need to watch incoming data closely.

"It appears to me that the federal funds rate currently lies in a vicinity that is roughly appropriate for the Fed to attain its key objectives over the medium run," Yellen said. But she added "since all such approaches are inherently imprecise, policy must be responsive to the data that actually emerges."

Ms. Yellen said the data the Fed must watch is not limited to statistics on "inflation, output and employment" but should include "energy prices, the dollar, the stock market, long-term interest rates, housing prices and inflation expectations."

S&P 500 Index ($SPX) - 10-point box

I've yet to find "the chart" where technicals give any decisive sign of market direction. Friday's "weaker-than-expected" GDP data (+2.5% vs. +3.2% consensus) has me contemplating the proverbial double-edged sword, as we would likely expect numbers to come down on earnings growth rates.

I would have to say that the "market got it right" as Q1 GDP was a very robust +5.6%.

One internal measure I've drawn trader's and investor's attention to is the S&P 500 Bullish % ($BPSPX) measures, where for a third-time since August 2005 this measure of market RISK and internal strength/weakness is at 48%.

I focus a bit more on the SPX this evening as The Stock Trader's Almanac notes that August is the worst S&P month the last 15-years.

S&P 500 Bullish % ($BPSPX) - 2% box chart

The institutionally followed S&P 500 Bullish % ($BPSPX) from StockCharts.com shows a reversal back lower to "bear confirmed" status at what has been important levels of "support" since August (8=August in PnF charting).

Quantitatively, we're at midfield on a scale of 0% to 100% and the above internals would suggest sellers have a slight upper hand.

Dorsey/Wright and Associates' S&P 500 Bullish % (BPSPX) looks very similar to the StockCharts.com $BPSPX, but shows 4 different times since August 2004 that this major indicator of market RISK and internal strength/weakness has measured 48%, but NEVER 46%. At tonight's close, Dorsey's BPSPX comes in unchanged at 48.39%.

Dorsey/Wright does NOT adjust a stock's supply (O) / demand (X) for the payment of stock dividends and thus the slight discrepancy between these two charting services Point and Figure charts and bullish % measures.

The point here is that the SPX looks range-bound between 1,220 and 1,290, but internals are at what could be a VERY IMPORTANT level.

As we begin the month of August and trader's seemingly sitting on pins and needles with each economic report, a 46% reading could become a hole in the damn that triggers a waterfall of bearish enthusiasm.

At this evening's close, all of StockCharts.com's major market bullish % are in a "column of O" except for the NYSE Bullish % ($BPNYA). This is also true for Dorsey/Wright and Associates' major market bullish % charts.

StockCharts.com provides FREE PnF charts. If you would like to view some of the major market bullish % charts, which give insight to supply/demand internals of the major indexes, their symbols are as follows.

The very narrow Dow Industrials Bullish % (30 stocks) $BPINDU
The narrow NASDAQ-100 Bullish % $BPNDX
The narrow S&P 100 Bullish % $BPOEX
The broader S&P 500 Bullish % $BPSPX (see above)
The very broad NASDAQ Comp. Bullish % $BPCOMPQ
The very broad NYSE Comp. Bullish % $BPNYA

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

Cytec - CYT - close: 53.41 change: -1.53 stop: 52.45

Biotechs under performed the market today and CYT was a big under performer with a 2.78% pull back. It looks like investors took a dim view of CYT's news today. The company announced that it has agreed to buy out its partner Royal DSM in their joint venture for American Melamine Industries. CYT said the move will not affect earnings so the move in the stock price today may be an overreaction. We are still on the sidelines. Our strategy suggests that traders wait for a breakout over $55 and use a trigger to buy calls at $55.11. If triggered our target is the $59.00-60.00 range. We do expect to see some resistance near $57.50 so expect a pull back but broken resistance at $55 should become new support.

Picked on July xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 07/20/06 (confirmed)
Average Daily Volume = 313 thousand


Dominion - D - close: 78.48 change: -0.12 stop: 75.75

Dominion didn't make much progress today. The stock churned sideways above the $78 level. We are running low on time. The company is due to report earnings on August 3rd and we do not want to hold over the announcement. Right now we're planning to exit on Wednesday afternoon at the closing bell. More conservative traders may want to exit early as D could easily dip toward the 10-dma near $77.60. Our target is the $81.00-82.00 range

Picked on July 17 at $ 76.05
Change since picked: + 2.43
Earnings Date 08/03/06 (confirmed)
Average Daily Volume = 1.5 million


Femsa Fomento - FMX - close: 87.80 chg: -0.10 stop: 85.85

The rebound in shares of FMX definitely stalled on Monday. The stock traded in a relatively narrow $1.00 range for most of the day. We suspect that FMX will eventually breakout over the $90 level. If shares can trade over $90.00 it would produce a new quadruple-top breakout buy signal on the P&F chart. We're going to suggest a trigger to buy calls at $90.05. More conservative traders may want to use a trigger at $90.25 or $90.50 just to see little more confirmation. If triggered our target will be the $97.00-100.00 range. Our time frame is four to six weeks.

Picked on July xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 07/28/06 (confirmed)
Average Daily Volume = 524 thousand


Goldman Sachs - GS - close: 152.75 chg: +1.03 stop: 144.95

Shares of GS displayed some relative strength on Monday. The stock broke out over technical resistance at its 100-dma and tagged a new eight-week high. We don't see any changes from our weekend update. If you're looking for a new entry point consider waiting for a dip toward the $150 level. Our conservative target is the $154.00 level. Our aggressive target is at $157.50. We'd suggest that readers exit a majority of their position at $154 and only keep a small play open for the $157.50 level.

Picked on July 25 at $148.05
Change since picked: + 4.70
Earnings Date 09/21/06 (unconfirmed)
Average Daily Volume = 5.2 million


Ipsco - IPS - close: 94.11 change: +1.14 stop: 88.45

Our new call play in IPS is off to a decent start. The stock added another 1.22% on Monday. We would have liked to have seen more volume on the move but we're not going to complain. Stronger volume tends to suggest more strength behind a move. At this time we don't see any changes from our weekend play description. We do see potential resistance at the 100-dma (currently near $97.50) and its trendline of lower highs (around $100). Therefore we're going to target a run into the $97.00-100.00 range. The P&F chart is bullish and points to a $108 target.

Picked on July 30 at $ 92.97
Change since picked: + 1.14
Earnings Date 07/25/06 (confirmed)
Average Daily Volume = 674 thousand


Petroleo.Brasiliero - PBR - cls: 91.88 chg: -0.84 stop: 87.49

Oil stocks trended higher today following a 1% gain in crude futures but shares of PBR took a breather. The stock churned sideways in a relatively narrow range. Don't be surprised to see a dip towards $90.00, which as broken resistance should act as new support. A bounce from or dip to $90 could be used as a new entry point to buy calls. Our target is the $99.50-100.00 range. We do not want to hold over the mid-August earnings report.

Picked on July 30 at $ 92.72
Change since picked: - 0.84
Earnings Date 08/11/06 (unconfirmed)
Average Daily Volume = 3.4 million


The Houston Exp. - THX - cls: 63.86 chg: +0.34 stop: 59.99

THX is another oil stock that inched higher today. The MACD on the daily chart produced a new buy signal. Unfortunately, we're running out of time. THX is expected to report earnings on Thursday, August 3rd. We're planning to exit on Wednesday at the closing bell to avoid the earnings announcement. Our target is the $67.50-70.00 range.

Picked on July 25 at $ 62.60
Change since picked: + 1.26
Earnings Date 08/03/06 (confirmed)
Average Daily Volume = 667 thousand

Put Updates

Apollo Group - APOL - close: 47.32 chg: +0.07 stop: 50.05

APOL is still flirting with short-term technical resistance at its descending 10-dma. We do not see any changes from our weekend update at this time. We are not suggesting new put plays at this time. While we are going to leave our stop loss at $50.05 more conservative traders may want to adjust theirs toward the $48.50-48.25 region to reduce their risk. The 10-dma is near $47.55. Our target is the $45.50-45.00 range.

Picked on July 09 at $ 49.92
Change since picked: - 2.60
Earnings Date 09/19/06 (unconfirmed)
Average Daily Volume = 1.4 million


Chicago Merc. - CME - close: 461.20 change: + 7.70 stop: n/a

Alert! Today's move in CME is very bad news for the bears. The stock managed to breakout over the $460 level and its simple 50-dma and 100-dma. The MACD indicator on the daily chart is now suggesting a new buy signal soon. If you were thinking about an early exit this would probably be it. We're not closing the play since it was a high-risk, speculative gamble and we're going to wait out the next three weeks.

Picked on July 23 at $452.00
Change since picked: + 9.20
Earnings Date 07/25/06 (confirmed)
Average Daily Volume = 680 thousand


Itron - ITRI - close: 46.54 chg: -5.04 stop: 50.55 *new*

We thought ITRI looked ready to move lower but we were hoping for a better entry point. The stock gapped down this morning to open at $48.01. Shares closed with a 9.77% loss as investors showed their disappointment with the company's announcement to sell $300 million in convertible notes. It was our plan to buy puts on a breakdown under $50 with a trigger to open positions at $49.75. Unfortunately, the gap down today put our entry at $48.01. Now we're at risk for an oversold bounce and "fill the gap" type of move so we're not suggesting new positions at this time. Our target is the $45.10-45.00 range but more aggressive traders may want to aim lower. Please note we're adjusting the stop loss to $50.55.

Picked on July 31 at $ 48.01 *gap lower*
Change since picked: - 1.47
Earnings Date 07/26/06 (confirmed)
Average Daily Volume = 424 thousand


Manpower Inc. - MAN - close: 59.48 chg: -0.91 stop: 62.25

Shares of MAN gapped open lower this morning. The stock was reacting to a downgrade from Merrill Lynch who reduced their rating from a "buy" to a "neutral". We are still not suggesting new put positions at this time. Currently our target is the $55.50-55.00 range. We suspect that the simple 200-dma near $55.00 will offer technical support. FYI: The P&F chart points to a $48 target.

Picked on July 20 at $ 59.42
Change since picked: + 0.06
Earnings Date 07/19/06 (confirmed)
Average Daily Volume = 1.0 million


Union Pacific - UNP - close: 85.00 chg: -0.22 stop: 86.26

The transportation sector, including the railroads, were lower today presumably on the rise in crude oil. We don't see any changes from our weekend update on UNP and bears are still in danger here. The technical picture is turning more bullish. We're not suggesting new plays at this time. Our target is the $80.10-77.65 range.

Picked on July 21 at $ 83.75
Change since picked: + 1.25
Earnings Date 07/20/06 (confirmed)
Average Daily Volume = 1.7 million

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.)


Bausch Lomb - BOL - close: 47.30 change: -0.53 stop: n/a

BOL is inching closer to a breakdown under support at the $47.00 level. We do not see any changes from our weekend update. We're not suggesting new plays. More conservative traders may want to just cut their losses right here. Our estimated cost on the strangle was $2.15. If you could sell today the options would go for about $1.55. We're keeping the play open but bear in mind that August options are due to expire in there weeks. Our goal will be to sell if either option rises to $3.25 or more. The options in our suggested strangle are the August $50 call (BOL-HJ) and the August $45 put (BOL-TI).

Picked on July 23 at $ 47.40
Change since picked: - 0.10
Earnings Date 00/00/06 (unconfirmed)
Average Daily Volume = 2.2 million


L-3 Comm. - LLL - close: 73.65 chg: -0.90 stop: n/a

LLL lost 1.2% on Monday and the MACD on its daily chart is nearing a new sell signal. We're not suggesting new strangle plays at this time. Our estimated cost for the strangle was $1.35. We will plan to sell if either option rises to $2.25 or more. The options in our LLL strangle are the August $80 call (LLL-HP) and the August $70 put (LLL-TN).

Picked on July 23 at $ 75.26
Change since picked: - 1.61
Earnings Date 07/27/06 (confirmed)
Average Daily Volume = 1.2 million


3M Co. - MMM - close: 70.40 change: -0.12 stop: n/a

There is still no change from our previous updates on MMM. The stock continues to hover around support at the $70.00 level. There are only three weeks left before August options expire. Due to our time crunch we're not suggesting new plays at this time. Our estimated cost was $0.75. We are planning to exit if either options rises to $1.50 or more. The options in our strangle are the August 65 put (MMM-TM) and the August 75 call (MMM-HO).

Picked on July 23 at $ 70.72
Change since picked: - 0.32
Earnings Date 07/25/06 (confirmed)
Average Daily Volume = 3.7 million

Dropped Calls

EOG Resources - EOG - close: 74.15 chg: +2.09 stop: 69.59

Oil stocks continued to rally following an up tick in crude oil prices. It is our plan to exit this Monday at the closing bell to avoid holding over EOG's earnings report, which is expected tomorrow morning. Wall Street will be looking for earnings of $1.07 a share.

Picked on July 26 at $ 71.01
Change since picked: + 3.14
Earnings Date 08/01/06 (confirmed)
Average Daily Volume = 3.6 million

Dropped Puts


Dropped Strangles

Phelps Dodge - PD - close: 87.34 change: +5.84 stop: n/a

Target achieved. Shares of PD soared today with a 7.1% gain on big volume after Prudential upgraded the stock. There was also talk of PD being a potential takeover target. Our estimated cost for the strangle was at $2.15. Our goal was to exit if either option hit $3.15 or more. The call side, with the August $85 calls (DPB-HQ), hit an intraday high of $5.60 and is trading at $4.50bid/$4.80ask.

Picked on July 23 at $ 77.20
Change since picked: +10.14
Earnings Date 07/26/06 (confirmed)
Average Daily Volume = 7.8 million


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