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Daily Newsletter, Wednesday, 08/09/2006

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Table of Contents

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

Market Wrap

The Morning After

In the current rate-hike cycle for the Fed, the immediate post-FOMC reaction has typically been reversed the next day. With yesterday's predominate post-FOMC reaction being selling into any rally attempt, a sustained rally would have been the expected counter-reaction today. That wasn't what was delivered.

The early-morning action provided the requisite rally attempt, but several characteristics of the early morning action immediately puzzled watchers. That rally attempt didn't inspire confidence, and that lack of confidence proved telling. In some sectors, the rally wouldn't last long. Even in those that sustained a gain, the afternoon pullback wiped out some of those gains.

While networkers and semiconductors helped lead techs higher from the open this morning, the Russell 2000 soon had trouble sustaining its gain. Techs and the RUT typically have more coherence in their action, so that divergence was troubling. Financials turned lower. Rising yields may have impacted financials, but were yields rising due to an upcoming afternoon auction of 10-year notes or because of further rate-hike fears? Weakness in Dow components CAT, HD and AIG pressured that index, with AIG's weakness coming ahead of its earnings report this afternoon. Their weakness was to percolate through to many other Dow components as the day progressed.

The SPX wasn't immune from that failure at the day's highs, either. Rising crude prices threatened the rally even as it began, with rising energy-related stocks not able to sustain the S&P 500 and rising energy costs pressuring the transports.

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Even crude couldn't maintain its high, falling back off that high of $77.40 a barrel to close the regular session at $76.35. Sometimes internals and index action didn't seem to make much sense, although internals were more in agreement with the market action by the close, when fear accelerated the declines. Earlier, before that fear hit, one might almost have concluded that there was just some rotation into formerly beaten-down sectors such as the semiconductors and out of relatively stronger sectors such as the big caps, but the action of the Russell 2000 didn't support that theory, either. No one would describe the RUT as doing well lately, and it succumbed to weakness early and hard.

Some indices ended higher: the SOX, 0.70 percent; the DDX, the Disk Drive Index, 0.63 percent; the NWX, the networking index, 1.95 percent, and, of course, the various energy-related indices. Gold climbed and the XAU gained. However, even the Nasdaq, holding onto its gains much of the day, closed lower by 0.57 points and 0.02 percent. Bulls stumbled home today, their heads held low.

At the end of the day, kudos should be given to Jim Brown, who said last night that the CSCO-induced bounce wouldn't last. Although CSCO itself closed sharply higher, the bounce it and other reporting stocks engendered didn't last.

Was anything decided today? Unfortunately for swing and position traders, I don't believe so. The SPX continued sliding down a descending trendline that's been in place since late April. It's a judgment call, but I don't believe it definitely broke below its recent choppy consolidation zone.

Annotated Daily Chart of the SPX:

If that choppy consolidation zone is going to be preserved, as I think it could be, the Dow might slide further down that trendline, perhaps to test those averages gathering just below it, but then might bounce back again. Fifteen-minute RSI was showing extremely short-term oversold levels, but also showed a new downside target of 1261.82. If the SPX should gap lower or be driven lower to that level early tomorrow morning, watch carefully for bullish price/RSI divergence as a sign that short-term bearish profits ought to be carefully guarded. It's possible that a bounce could begin.

The Dow's early morning rally drove it right up against resistance that has been turning it back for quite a while. It was turned back at that resistance again.

Annotated Daily Chart of the Dow:

Both the pink 50-sma and the blue-green 72-ema serve some function as support and resistance for the Dow. Today's action drove the Dow down to test their support. If 11139 fails, then the 200-sma and -ema's might be retested. I caution, though, that when prices start a prolonged consolidation, the consolidation zone is sometimes across grouped averages that appear as if they should support or resist prices, but don't. In that case, grouped averages seem to serve as a line across which prices weave back and forth, rather than as firm resistance or support.

Because of its importance in determining sentiment, the Dow may be key to watch tomorrow. As of the close today, it had tested Keltner support at 11066.62 (as of the close), with 15-minute RSI at levels that usually suggest that the decline is about to slow or that a bounce could even appear. The Dow often produces another equal or lower low before bouncing, sliding down a descending Keltner line while it does so, producing bullish price/RSI action. Look for that kind of development tomorrow as a sign to keep stops tight on bearish positions, preparing for a possible bounce. Those who might have dipped a toe into a bullish play on the close should be aware of the possibility of that choppy slide lower before a bounce, even if that bounce might eventually come.

AIG was pegged as contributing to the Dow's slide today and accused of souring sentiment for the big caps, with this occurring ahead of this afternoon's earnings report. AIG has been volatile in the after-hours session, at $58.10 as I type, down from the $58.48 close, but having traded much higher and some lower after its earnings report. With such volatility, it's difficult to predict whether it will help or hinder the Dow tomorrow. As will be noted below, AIG's report proved confusing, and investors don't quite know how to react.

As the day ended today, the Nasdaq was already showing tentative bullish price/RSI divergence on a 15-minute chart, but that tentative divergence could be erased if the Nasdaq were to fall substantially below Tuesday's 2054.13 low. As of the close, it looked possible that the Nasdaq could attempt a bounce soon. The daily chart does not inspire confidence, however.

Annotated Daily Chart of the Nasdaq:

Support at 2050-2052 looks important, but beware of the possibility of a stop run below that, followed by a bounce. Watch what the SOX (or SMH or $DJUSSC, if you can't get real-time SOX quotes) is doing, because if it's climbing or holding up well, you don't want to bet too heavily on a continued Nasdaq decline. If the SOX is cratering, you conversely don't want to bet too heavily on a Nasdaq bounce.

For now, we're using the SMH as the proxy for the SOX in our reports.

Annotated Daily of the SMH:

Although we're using the SMH as our proxy for the SOX due to charting difficulties from the provider, they're not an exact proxy for either other. The SOX's red candle body is smaller today, but it does also have an upper shadow. The SOX also closed above yesterday's close, although well off its high of the day and into the gap higher from this morning. At the close, it was approaching 15-minute Keltner support at 407.16 (as of the close), with the SMH having hit its similar Keltner support at 31 (as of the close). The SMH's 15-minute RSI was at levels that indicated that declines might slow while it produced bullish price/RSI divergence or even that the SMH could begin a bounce, so watch for that possibility. The SOX might need to slide a little lower, but, barring an all-out debacle, it looked ready to bounce soon after it tests that support, if not right off the bat.

Many commented on the Russell 2000's slide today, with this index diverging from the typical behavior on a day when techs had been performing well. The RUT lost 6.42 points or 0.93 percent, but was down more than 14 points off the day's high. A look at the weekly chart, however, confirms that the RUT, too, has not broken out of recent consolidation. Although it may eventually break down, it so far holds inside a roughly triangular consolidation pattern and above a long-term ascending trendline.

Annotated Weekly Chart of the Russell 2000:

Crude inventories were probably more important than any other economic release today, but the housing-related developments probably played a role in today's declines and certainly in the souring of this morning's buoyant sentiment. Mortgage application volume increased in the week ending August 4, the Mortgage Bankers Association noted. The weekly survey pegged the increase at 4.9 percent on a seasonally adjusted basis, but that still leaves the volume 24.9 percent lower than the year-ago level. In order to keep last week's gain in context, remember that last week's survey resulted in a four-year low for the application volume. As many may already know, yesterday Toll Brothers (TOL) blamed the deceleration in the housing market on a lack of consumer confidence rather than economic conditions. Consumers read about and see evidence of reductions in home prices and hesitate, a spokesperson said. TOL lowered its estimate of the homes it will deliver in the fourth quarter. The company also noted that some of its land options represent deals that won't be viable in today's market, and the company will take write-downs for the value of those options. Countrywide Financial (CFC) also weighed in on the subject of loans, saying that loan fundings dropped hard in July. The MBAA's report of an increase from the four-year low didn't do much to improve sentiment and the DJUSHB, the Dow Jones U.S. Home Construction Index, dropped 4.47 percent today.

Most other components of the MBAA's survey also increased, with the exception of the government index, which fell 3.7 percent from the week-earlier level. Four-week moving averages for some components fell, but that for the refinance index climbed 2.1 percent, with the refinance share of mortgage activity also increasing. As would be expected from what is seen on the refinance figures, the average contract interest rate for a fixed-rate thirty-year mortgage decreased, to 6.45 percent from the previous 6.62 percent. Points inched higher, however.

At 10:00, June's wholesale inventories were reported to have risen 0.8 percent while the inventory-to-sales ratio fell to 1.14. Economists had expected a 0.9-percent rise in inventories, one source reported. May's were revised higher to 0.9 percent, up from the previous 0.8 percent. Year-over-year, inventories have risen 8.1 percent, with a 13.5-percent sales growth outpacing the inventory growth.

Some components showed inventory growth outpacing sales growth, however. That was true of wholesale inventories of durable goods and drugs. Automotive inventories fell, but sales fell more.

Those hoping for a bounding economy want to see inventories falling and sales increasing, but this number rarely proves market-moving. Economists do use it to fine-tune their GDP estimates.

The crude inventories attained exaggerated importance after this week's announcement by BP that its Alaskan Prudhoe Bay field production would be impacted to the tune of as much as 400,000 barrels a day. Crude inventories fell 1.1 million barrels; gasoline, a whopping 3.2 million barrels; and distillates, 0.2 million barrels. Utilization climbed 0.80 with refinery capacity up to 91.63. The drawdown was worse than expected, with expectations for the drawdown in gasoline supplies ranging from 400,000 to 850,000 barrels. Crude had climbed into its high of the day ahead of and then after the report, but fell sharply in the afternoon.

Company-related developments did appear to impact trading today, with the CSCO bounce appearing to help techs. Today, Deutsche Bank reiterated its buy rating of CSCO, with the firm's price target at $22.50. Cisco's (CSCO) Chief Executive John Chambers said what investors wanted to hear with Chambers predicting revenue growth of 15-20 percent for the fiscal year ending next July. Analysts had forecast 15-percent growth in revenue, so Chambers' prediction beat theirs. Quarterly profit was flat at $0.25 a share, with a higher-than-expected sales number balancing the expenses related to employee stock options and its acquisition of Scientific-Atlanta. A year ago, when the company did not yet include stock-option expenses in its results, the earnings were $0.24 a share. Without those costs, the company would have earned $0.30 a share, above the predicted $0.28 a share. The Scientific-Atlanta acquisition has helped the company move from the slow-growing areas of its business into more quickly growing areas related to high-speed Internet. Excluding Scientific-Atlanta's equipment's contribution, sales climbed 23 percent from the year-ago level, but including them, they climbed 65 percent.

Investors should note, however, that the better-than-expected EPS was also helped by the company's share buy-back plan, and gross margins fell to 64.4 percent, down from the year-ago level of 67.9 percent. To end on a good note, revenue of $7.98 billion also inched above expectations of $7.92 billion.

Not all events were upbeat in the tech world, however, with Infineon Technologies (IFX) announcing that it would trim both the price and size of its Qimonda (QI) memory chip IPO, to $13 each and 42 million, respectively. One article termed this a sign of trouble in the IPO and semiconductor markets.

In other company-related news, Morgan Stanley & Co. (MS) announced that it was acquiring Saxon Capital Inc. (SAX) for $14.10 a share. SAX services and originates residential mortgages. MS is paying a premium for the company's stock, which went out at $10.97 yesterday. Disney (DIS) weighed in with an earnings report, beating expectations.

Tomorrow's economic releases include initial claims for the week ending August 5 and June's trade balance, both to be released at 8:30. Expectations for initial claims are above the benchmark 300,000 level, from 310,000-315,000. June's trade balance is expected to widen to a deficit of $64.5-64.8 billion, up from the previous $63.8 billion. At 2:00, July's Treasury budget will be released, with expectations of a deficit of $33-35 billion, much narrower than the previous $53.4 billion deficit.

Earnings include those from AAP, UHAL, ADI, BVF, CRZO, BAP, CREE, DT, DISH, EXPE, FS, GG, IMGN, KSS, JCP, KSS, PSUN, RPB, SNS, TGT, and URBN, with a number of retailers among that group.

As this report was prepared, AIG had just reported earnings, with CNBC terming the company as beating expectations, although the numbers proved confusing because of various charges included or not included. AIG pressured the Dow today, as has already been noted, but its impact tomorrow is not yet decided, with traders sending prices all over the place after its earnings report.

So, what happens tomorrow? Unless there's going to be a cascade lower, many indices look to be approaching short-term support, with RSI on short-term charts showing oversold conditions. RSI tends to be an early indicator, so many times prices chop or slide lower while RSI then signals bullish divergence. The SMH, Nasdaq and RUT currently look most ready to bounce, with the Dow nearly there, too. The Nasdaq and RUT often overrun support and this is short-term Keltner support, so it can't be trusted to give long-term views. The Dow often slides or chops lower and provides that bullish price/RSI divergence before it bounces, so its testing of support can't be trusted as definitive, either. Not yet.

What I see is the possibility for a slowing of declines or a bounce, but that bounce could then hit a steel wall and be repelled back to retest the bottoms of consolidation zones. Sorry, but when markets have been chopping around as long as these have, resistance and support can be found everywhere, and trendlines, too. Which is important and which not? Wish I knew. Unless any bounce is hard and fast, the Keltner channels will align to suggest that a bounce would be followed rather quickly by a retest, perhaps then producing that higher low or lower low with bullish divergence.

The longer indices chop, however, the more energy they're building for a breakdown or breakout, and tomorrow would be an ideal time for a big move because of its position in the opex cycle. The Thursday before opex week has often produced big moves. In typical situations, I would think that the positioning of the indices and the Keltner channel configurations suggest the possibility of a consolidation day tomorrow, with support perhaps pierced, but that Thursday tendency toward wildness shouldn't be ignored, either. Watch the support levels marked above. Protect bearish profits. If you think you're seeing a breakdown, be even more vigilant of bearish profits since some short-term charts suggest that such a breakdown could be a trap. For example, the VIX ended the day at Keltner resistance, with its 15-minute RSI showing "overbought" conditions. If there's a breakdown with supporting internals, then it may be more trustworthy, but those internals should include a VIX that's moving sharply higher above resistance currently at 15.27 on a 15-minute close (as of the close). Remember that internals have switched sides intraday lately, too, so keep a close watch to make sure you and they are still on the same side.

I want to leave you with one more chart, a weekly TRAN chart.

Annotated Weekly Chart of the TRAN:

If the TRAN steadies now and climbs again, then it has violated neither its long-term support nor the previous swing high. Much is resting on the TRAN, however, and if it drops much below the weekly 72-ema and then doesn't bounce by the end of the week, then matters look much more bearish. So far, the bearish case has not yet been proven, but watch the TRAN.
 


New Plays

New Option Plays

Call Options Plays
Put Options Plays
Strangle Options Plays
None BA None
  CMG  
  FAST  
  HIG  
  ISRG  

New Calls

None today.
 

New Puts

Boeing - BA - close: 77.16 change: -0.69 stop: 80.85

Company Description:
Boeing is the world's leading aerospace company and the largest manufacturer of commercial jetliners and military aircraft combined, with capabilities in rotorcraft, electronic and defense systems, missiles, satellites, launch vehicles and advanced information and communication systems. Our reach extends to customers in 145 countries around the world, and we are the number one U.S. exporter in terms of sales. (source: company press release or website)

Why We Like It:
The 40+ month bull run in shares of BA could be in serious jeopardy. The stock peaked under $90.00 in May and has been consolidating in a bearish trend of lower highs while bouncing along support near $76.00 ever since. The Point & Figure chart is already bearish and points to a $69 target. A decline under $76.00 would produce another P&F chart sell signal. A drop under $76.00 would also produce a bearish breakdown sell signal on the daily chart and would also be a breakdown under technical support at its simple and exponential 200-dma(s). We are suggesting a trigger to buy puts at $75.75. More conservative traders may want to wait for a breakdown under round-number support at $75.00 before initiating positions. Our target will be the $70.50-70.00 range.

Suggested Options:
We are suggesting the September puts.

BUY PUT SEP 80.00 BA-UP open interest=2074 current ask $4.10
BUY PUT SEP 75.00 BA-UO open interest=6441 current ask $1.55
BUY PUT SEP 70.00 BA-UN open interest= 264 current ask $0.45

Picked on August xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/25/06 (unconfirmed)
Average Daily Volume = 4.2 million

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Chipotle Mex Grill - CMG - close: 50.28 chg: -3.13 stop: 54.01

Company Description:
Chipotle Mexican Grill offers a focused menu of burritos, tacos, burrito bols (a burrito without the tortilla) and salads made from fresh, high-quality raw ingredients, prepared using classic cooking methods and served in a distinctive atmosphere. Through our vision of Food with Integrity, Chipotle is seeking better food not only from a variety of fresh ingredients, but ingredients that are sustainably grown and naturally raised with respect for the animals, the land, and the farmers who produce the food. Chipotle opened its first restaurant in 1993 and operates more than 500 restaurants today. (source: company press release or website)

Why We Like It:
The entire restaurant sector looks pretty bad. A lot of stocks in the group have been hitting new relative lows for a while. Investors might be selling the group on fears that higher-fuel prices will impact spending and now newer fears of a slow down in the economy may produce another round of selling in the sector. We normally don't want to chase a big move like CMG's 5.8% decline today but we suspect there is more weakness to come. The stock recently produced a failed rally/bearish reversal under its 50-dma and the mid-July highs. Now shares look ready to breakdown under the $50.00 mark. Technicals are bearish although the P&F chart is still bullish for now. We are suggesting that readers consider put positions here but there are alternatives. You could wait for a breakdown under $50.00. Or you could wait for a bounce back toward the $52.50 region and look for shares to begin to roll over again. We are using a wide stop loss since CMG has been volatile lately. Our target is the $45.50-45.00 range.

Suggested Options:
We are suggesting the September puts.

BUY PUT SEP 55.00 CMG-UK open interest=302 current ask $5.70
BUY PUT SEP 50.00 CMG-UJ open interest=379 current ask $2.60
BUY PUT SEP 45.00 CMG-UI open interest=768 current ask $0.95

Picked on August 09 at $ 50.28
Change since picked: + 0.00
Earnings Date 10/30/06 (unconfirmed)
Average Daily Volume = 414 thousand

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Fastenal - FAST - close: 35.20 chg: -0.58 stop: 37.75

Company Description:
Fastenal Company sells different types of industrial and construction supplies in ten product categories. These include different types of: threaded fasteners and miscellaneous supplies; tools; metal cutting tool blades; fluid transfer components and accessories for hydraulic and pneumatic power; material handling and storage products; janitorial and paper products; electrical supplies; welding supplies; safety supplies; and raw materials (metals). (source: company press release or website)

Why We Like It:
FAST gapped down back on July 12th as investors reacted to the company's earnings miss. It's taken this long for the stock to rally back and "fill the gap". Coincidentally the "fill the gap" move also produced a failed rally/bearish reversal under technical resistance at its descending 50-dma. Technical indicators are turning negative and its P&F chart points to a $24 target. Aggressive traders may want to open positions now. We're suggesting a trigger to buy puts at $34.90. If triggered our target is the $30.75-30.00 range.

Suggested Options:
We are suggesting the September puts.

BUY PUT SEP 40.00 FQA-UH open interest= 77 current ask $5.30
BUY PUT SEP 35.00 FQA-UG open interest= 47 current ask $1.65
BUY PUT SEP 30.00 FQA-UF open interest= 86 current ask $0.25

Picked on August xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/11/06 (unconfirmed)
Average Daily Volume = 1.2 million

---

Hartford Fincl - HIG - close: 79.86 chg: -1.13 stop: 82.01

Company Description:
The Hartford, a Fortune 100 company, is one of the nation's largest financial services and insurance companies, with 2005 revenues of $27.1 billion. The Hartford is a leading provider of investment products, life insurance and group benefits; automobile and homeowners products; and business property and casualty insurance. International operations are located in Japan, Brazil and the United Kingdom. (source: company press release or website)

Why We Like It:
The IUX insurance index just broke down to a new low for the year and shares of HIG look ready to follow. The stock has consolidated toward significant support in the $79.50-80.00 region. We suspect that the stock is poised to produce a new leg lower. The P&F chart for HIG is already bearish and points to a $73 target. HIG did manage bounce from the $79.50 and $79.75 levels back in February 2006 and it bounced again near $79.25 in March. Therefore we're suggesting a trigger to buy puts at $79.20. More conservative traders may want to wait for a drop under $79.00 before initiating positions. Our short-term target is going to be the $75.25-75.00 range. More aggressive traders may want to aim for the $72.50-70.00 range.

Suggested Options:
We are suggesting the September puts.

BUY PUT SEP 85.00 HIG-UQ open interest=1326 current ask $5.70
BUY PUT SEP 80.00 HIG-UP open interest=2515 current ask $2.25
BUY PUT SEP 75.00 HIG-UO open interest=1722 current ask $0.65

Picked on August xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/26/06 (unconfirmed)
Average Daily Volume = 1.5 million

---

Intuitive Surgical - ISRG - cls: 95.85 chg: -1.28 stop: 101.55

Company Description:
Intuitive Surgical, Inc. is the global technology leader in robotic-assisted minimally invasive surgery (MIS). The Company's da Vinci Surgical System offers surgeons superior visualization, enhanced dexterity, greater precision and ergonomic comfort for the optimal performance of MIS. (source: company press release or website)

Why We Like It:
ISRG managed to beat estimates by 15 cents at its July earnings report but the stock was still subject to some heavy selling on the news. Since then shares of ISRG have struggled to bounce back and the sideways consolidation looks poised to move lower again. The P&F chart is pretty bearish with a projected $60 price target. Before we continue we have to label this an aggressive, high-risk play because shares of ISRG have been so volatile in the past. Our plan is to catch a breakdown under short-term support at $95. We're suggesting a trigger to buy puts at $94.90. If triggered our target is the $87.75-87.50 region, which is relatively close to the March 2006 lows.

Suggested Options:
We are suggesting the September puts.

BUY PUT SEP 100.0 AXQ-UT open interest= 428 current ask $8.00
BUY PUT SEP 95.00 AXQ-US open interest= 443 current ask $5.30
BUY PUT SEP 90.00 AXQ-UR open interest= 492 current ask $3.30

Picked on August xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/25/06 (unconfirmed)
Average Daily Volume = 1.1 million
 

New Strangles

None today.
 


Play Updates

In Play Updates and Reviews

Call Updates

Petroleo.Brasiliero - PBR - cls: 94.62 chg: -0.07 stop: 89.49

Oil stocks are still churning sideways. The trend remains upward for PBR but the momentum is slowing. We are not suggesting new bullish positions at this time. The next move is looking like a dip towards the 10-dma - maybe lower. Broken resistance at $90.00 should offer some support. Please note that the only earnings date we have for PBR is August 11th but it is unconfirmed. To protect ourselves we're going to exit on Thursday afternoon at the close to avoid holding over any earnings announcement.

Picked on July 30 at $ 92.72
Change since picked: + 1.90
Earnings Date 08/11/06 (unconfirmed)
Average Daily Volume = 3.4 million
 

Put Updates

Apple Computer - AAPL - close: 63.59 chg: -1.19 stop: 70.01

Shares of AAPL appeared to confirm yesterday's breakdown under $65.00 and its 10-dma and 200-dma with another decline on above average volume. The move under $64.00 has produced a new P&F chart sell signal that points to a $58 target. Our short-term target is the $60.50-60.00 range. The top of the July gap near $59.70 could act as support. We don't see any changes from yesterday's play description.

Picked on August 08 at $ 64.78
Change since picked: - 1.19
Earnings Date 10/18/06 (unconfirmed)
Average Daily Volume = 28 million

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Autozone Inc. - AZO - close: 86.32 chg: -1.41 stop: 90.05

AZO continued lower on Wednesday following Tuesday's reversal. Shares fell 1.6% today although volume continues to come in below average. We don't see any changes from Tuesday's new play description. Our target is the $82.50-80.00 range.

Picked on August 08 at $ 87.73
Change since picked: - 1.41
Earnings Date 09/21/06 (unconfirmed)
Average Daily Volume = 700 thousand

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Burlington Nor.SantaFe - BNI - cls: 65.77 chg: -2.29 stop: 72.05

The Dow Jones transportation sector index was hit hard today with a 2.9% decline. The railroads paced the decline with a 2.9% loss as well. Shares of BNI under performed its peers with a 3.3% loss on above average volume. The stock might see a bounce near $65.00 or its July low near $64.50 but traders can use the bounce as a new entry point. We don't see any changes from our Tuesday new play description. Our target is the bottom edge of the current channel in the $62.50-60.00 range.

Picked on August 08 at $ 68.06
Change since picked: - 2.29
Earnings Date 10/24/06 (unconfirmed)
Average Daily Volume = 2.7 million

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Cummins Inc. - CMI - close: 117.00 chg: -2.77 stop: 123.51

Our aggressive put play in CMI is off to a good start. Shares lost 2.3% on decent volume today. The decline appears to break the short-term trendline of higher lows. Our target is the $112.75 mark but some traders may want to exit near the 50-dma, currently near $113.15.

Picked on August 08 at $119.77
Change since picked: - 2.77
Earnings Date 10/26/06 (unconfirmed)
Average Daily Volume = 1.2 million

---

US Airways - LCC - close: 40.78 chg: -1.17 stop: 45.26 *new*

Target achieved in LCC. Airlines were getting crushed today. The XAL airline index lost just over 4%, making it the second worst performing industry group. Shares of LCC dipped to $39.54 before bouncing. We have two targets and our conservative target was $40.25. We hope traders took some profits. LCC now looks short-term oversold and ready to bounce from round-number support at $40. We expect the bounce to fail near $45.00 and we're lowering our stop loss to $45.26. Our aggressive target is the $36.00 level.

Picked on August 01 at $ 43.54
Change since picked: - 2.76
Earnings Date 07/27/06 (confirmed)
Average Daily Volume = 1.6 million

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NII Holdings - NIHD - close: 49.49 chg: +0.34 stop: 52.51

NIHD tried to rebound this morning but the rally stalled at its short-term trendline of lower highs (and under its 10-dma and 200-dma). Readers can use this as a new entry point to buy puts. We do expect some sort of bounce near $47.50 but our target is the $45.50-45.00 range since $45.00 looks like stronger support.

Picked on August 07 at $ 49.90
Change since picked: - 0.41
Earnings Date 07/27/06 (confirmed)
Average Daily Volume = 2.2 million

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Transocean Inc. - RIG - cls: 67.03 chg: -0.62 stop: 75.25

RIG hit another new relative low today and on strong volume again. We keep expecting an oversold bounce but it remains elusive. The pattern is very bearish but traders need to be ready and expect a bounce sooner rather than later. The $70-72 region is probably where RIG will first encounter new overhead resistance. We are suggesting two targets: a conservative target at $65.25 and a more aggressive target at $61.00. The P&F chart points to a $59 target.

Picked on August 07 at $ 69.49
Change since picked: - 2.46
Earnings Date 08/03/06 (confirmed)
Average Daily Volume = 6.4 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.)

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Bausch Lomb - BOL - close: 45.35 change: -0.68 stop: n/a

Even though BOL received a downgrade today we do not see any changes from our previous updates on BOL. We're not suggesting new positions. We have less than two weeks left before August options expire and need to see a bigger move in BOL soon. Our estimated cost on the strangle was $2.15. 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: - 2.05
Earnings Date 00/00/06 (unconfirmed)
Average Daily Volume = 2.2 million

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3M Co. - MMM - close: 68.30 change: -0.26 stop: n/a

We do not see any changes from our previous updates on MMM. We're not suggesting new positions. Our estimated cost for our August strangle 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: - 2.42
Earnings Date 07/25/06 (confirmed)
Average Daily Volume = 3.7 million
 

Dropped Calls

Femsa Fomento - FMX - close: 87.84 chg: -2.17 stop: 85.85

Red alert! Shares of FMX just fell off a cliff in the last 45 minutes of trading on Wednesday. We do not see any specific news to account for the weakness in FMX but the volume came in well above the daily average. This may have been a late day reaction to a 280-point (1.3%) sell-off in the Mexican stock market today. All we know is that the move in the U.S.-traded shares of FMX is bearish. The stock has produced another failed rally and now a breakdown under $90.00 and its 10-dma. There is a chance that FMX might bounce near the $86.50 region but we're choosing to exit early and limit our losses.

Picked on August 04 at $ 90.50 *gap higher*
Change since picked: - 2.66
Earnings Date 07/28/06 (confirmed)
Average Daily Volume = 524 thousand

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Goldman Sachs - GS - close: 150.01 chg: -1.44 stop: 146.95

We're calling it quits with GS right now. The stock has failed to hold any gains over the $155 level for the last four days in a row. Now the stock has produced a bearish engulfing-type of candlestick pattern and a breakdown below its simple 10-dma. The technical indicators are deteriorating. Our conservative target was the $154.00 level, which was hit multiple times. Our aggressive target was the $157.50 mark.

Picked on July 25 at $148.05
Change since picked: + 1.96
Earnings Date 09/21/06 (unconfirmed)
Average Daily Volume = 5.2 million
 

Dropped Puts

Manpower Inc. - MAN - close: 55.38 chg: -2.06 stop: 60.76

Target achieved. MAN hit a new relative low and broke down under both its simple 200-dma and its exponential 200-dma with today's 3.5% decline. Our recently adjusted target was the $56.00-55.75 range. The play is now closed but more aggressive traders may want to aim lower since the P&F chart points to a $48 target.

Picked on July 20 at $ 59.42
Change since picked: - 4.04
Earnings Date 07/19/06 (confirmed)
Average Daily Volume = 1.0 million
 

Dropped Strangles

L-3 Comm. - LLL - close: 66.58 chg: -3.08 stop: n/a

Target achieved. Investors reacted negatively to news that the company won a 10-year contract with the army. The stock initially gapped open higher and then plunged to new 52-week lows on heavy volume. This pushed the August $70 put (LLL-TN) to an intraday high of $3.44 and it's currently trading at $3.50bid/$3.60ask. It was our plan to sell if either option in our strangle hit $2.25 or more. Our estimated cost was $1.35.

Picked on July 23 at $ 75.26
Change since picked: - 8.68
Earnings Date 07/27/06 (confirmed)
Average Daily Volume = 1.2 million
 


Trader's Corner

Overbought/Oversold as Part of Trading Decisions

I was absent in this space last Wednesday due to technical difficulties. We've heard that before in countless ways, but there's no sinking feeling like the one when your data connection goes down while you are deciding to stay or go in a trade! Someone wrote me about how I apply the concepts of 'overbought' or 'oversold' to making trading decisions; what do I use, how useful are these things in making trading decisions and so on. These 'things' refer to the common technical indicators that measure stock or index 'momentum' and have values between 0 and 100; that is the ones that are so-called 'normalized' indicators, unlike the MACD (pronounced 'mack-dee') which is the Moving Average Convergence Divergence indicator, which does not just oscillate between 0 and 100. RSI, Stochastics and the MACD are in the class of indicators typically called 'oscillators'.

I pay fairly close attention to the main indicators of this type, the Relative Strength Index (RSI) and the Stochastics model (the 'slow' variation). I haven't done an explanation of the best practices or use of these in a while, so will review the basics. If you have other indicators or chart (patterns, trendlines, etc.) questions please e-mail me per the method noted at the bottom of this column.

First, a note on my last article written on the weekend, my Index Trader article, and a brief technical update on the main option-actionable indexes. This recent Index Trader may be looked at when online by clicking here.

A key aspect technically I've been focusing on with the S&P 100 (OEX), is whether the recent rebound was going to carry BEYOND a percentage retracement that would suggest the prior high would get re-tested. Or, whether the retracement amount from low to prior high was going to remain at a 2/3rds or less retracement of the prior decline, which would suggest that this was the high water mark.

On a closing basis, OEX has not been able to climb more than a bit above the 66% retracement. The longer you see this go on, the more likely that the Index (or stock) will start falling again and today was a good example. Today's action in fact was what I would call a 'key' 1-day downside reversal; i.e., a move to new high, followed by a Close that was under the prior day's LOW.

The fact that the high point of the recent rebound also carried back up to my upper moving average resistance 'envelope' tended to support the idea that these recent highs ware going to be a place to exit calls and make a bearish play if you were going to play it all. The 'trading' envelopes for the indexes involve percentages also, presenting a level that is X percent above or below a centered moving average; in this case, the 21-day average. OEX near support looks like 582-580. Key resistance is at 590; a close over 590 is needed to suggest a possible move back up to the re-test the prior 604 high.

As far as the RSI, which I will expound on some more shortly, I most often use a 'length' setting on my DAILY chart of 13. In the RSI portion of the above chart, the recent high did not get to what would represent a common 'overbought' extreme, but does tell you that the Index was getting up close to an overbought situation. You have to look at such things in context.

How high did the Relative Strength Index get the last time that the market made an interim or tradable top? You can see that above and the levels were similar. The other thing that I will look at is the same indicator only applied to the longer-term weekly chart, where I use either an 8 or 13-week ('length') setting, sometimes both.

THE DOW CHART

I like trading the Dow Index (DJX) options, as the Dow Industrials (INDU) often trades very 'technically'; that is, it tends to do things like stop and reverse at key trendlines, stop and reverse at key percentage retracements, stop and reverse sometimes at key moving averages like the 200-day average, etc.

INDU, as seen in its daily chart below, reversed to date after completing almost an exact 66% retracement. The retracements I look typically are 38, 50 and a zone between the 'fibonacci' 62% retracement level AND the equally important 2/3rds or 66% retracement level. You'll notice on my next chart that I have the 62 AND 66% levels marked; and of course they are quite close to each other.

Today's price action was bearish in the Dow, but was not quite the 'key' reversal that was seen in the OEX as INDU did not also go to a NEW high and then fall after that. But, it did decline to a new 12-day low Close. Key support is in the 11,000 area. Key resistance, especially on a Closing basis, is 11,300.

By force of habit and experience, I tend to use the 21-day Stochastic indicator most often in the Dow 30 (INDU) to provide an indication of when INDU is getting overbought or oversold. You can see how well this works on the chart above. I caution about using this indicator 'mechanically' so to speak; e.g., by buying calls when this indicator is reading around 20, buying puts when its up into the 80-90 area. There are times when the market of course gets 'oversold' and STAYS there and vice versa when the index 'hangs' up in the common overbought zone for a long period.

Again, I try to look at these indicators in CONTEXT; for example the Stochastic was both in what is often its overbought/reversal area and VULNERABLE (this is a potential only) to a pullback AND there was a completion of the aforementioned 66% retracement, which is can be a stubborn resistance.

THE NASDAQ 100
Since I made a point of the 'common' use of 38, 50 and 62-66% retracements as areas to watch for possible support (downside retracements) or possible resistance (upside retracements of a prior decline), I now introduce one other 'wrinkle' to this subject of retracements. In very weak market, sometimes there is not more than a retracement of a quarter (25%) to a third (33%) of a prior move, before the prior trend resumes. This appears to be the case with the Nasdaq 100 Index (NDX) as seen in the chart below.

The retracement aspect ALSO needs to be seen in CONTEXT. The context here being that this market continues to be quite oversold and while there is an attempt to rally, the underlying conditions of weakness appear quite pervasive; individual and 'bellwether' NDX stocks notwithstanding, such as occurred with the strong earning-related rebound in Cisco Systems (CSCO). By the way, a rule of thumb is that when a stock (e.g., CSCO) is very oversold, bullish news will lift it farther and faster than will otherwise be the case.

This last NDX rally could not even get beyond a 'neutral' 50 reading in the 13-day RSI before price weakness started bringing the RSI back down again. To really see how oversold or overbought a market or a stock is, it's important to check out the weekly oscillators. That is to 'apply' them to the weekly chart. I tend to use the RSI for this almost exclusively, but some traders will more often use the MACD, which is fact was designed with weekly chart use in mind.

With the RSI on weekly charts, I tend to use either 8 or 13 as the 'length' setting. Normally, I use 8. If an index or stock is really languishing around a possible top or bottom, I will look at the 13-week RSI to better find the longer range extremes. You may notice that ALL the length settings I use are (the lower) 'fibonacci' numbers in the fibonacci number series; e.g., (5), 8, 13, or 21. Each number is the sum of the two numbers preceding it.

NDX WEEKLY CHART:
Firstly, the Weekly chart pattern is still bearish, so this is one context that the oversold extreme has to been seen within. The break in the Nasdaq 100 (NDX) Index of its long-standing up trendline led to steep further drop from May on. The pattern traced in the multiyear advance from 2003 was a bearish rising wedge. A double top then formed.

Recent rallies have formed bearish 'flag' patterns which are outlined in the rising light blue parallel lines in the NDX weekly chart below. Formation of such bear flag patterns tend to suggest more downside ahead. Significant technical support doesn't look like it comes in before NDX reaches the 1400 area.

The question would be how should we see the oversold extreme suggested by the 13-week RSI or what context? The last time that the RSI reached such a low RSI reading on the indicator above, it was not the first low RSI reading (at the mid-2002 bottom) that was associated finally with a sustained upside reversal; it was the second decline to a low point.

This pattern would repeat if NDX falls to the 1400 area and a potential double bottom and then starts to rebound after that. This would probably be a low risk call buy point, perhaps also for a longer-term buy and hold; the Nas 100 tracking stock (QQQQ) would be a possible vehicle for this strategy.

THE OEX WEEKLY OVERBOUGHT/OVERSOLD PICTURE:
The S&P 100 (OEX) weekly chart is my last chart. Price action has tended to be back and forth within what is still looks to be long-term uptrend. The 8-week RSI is my choice to monitor any overbought/oversold extremes here. What is this indicator telling us? NOT MUCH!

The RSI is in mid-range or in a more or less 'neutral' reading. Since the long-term up trendline has not been pierced, I tend to want to buy calls more heavily at low RSI readings (especially at support implied by the up trendline) then I do puts at overbought extremes; although that last RSI reading above 70 when OEX couldn't gain traction above 600, highlighted decent potential in puts.

On the downside, if OEX starts to accelerate lower, the RSI will again be a useful backdrop indicator if and when it fell to around 30, especially if this occurs in conjunction when OEX again were to find support and solid buying interest in the 560-565 area.

That as they say, all he wrote. I was going to go into how the RSI and Stochastics are calculated, but have reached my deadline for sending in for your perusal dear readers. Besides, it's time to go surfing here on the Pacific I wish!

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

** Good Trading Success! **
 

Today's Newsletter Notes: Market Wrap by Linda Piazza, Trader's Corner by Leigh Stevens, and all other plays and content by the Option Investor staff.

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