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Daily Newsletter, Thursday, 05/17/2007

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Table of Contents

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

Market Wrap

Another Consolidation Thursday

I could have written that title yesterday and almost did. If my Wraps begin to sound redundant, it's because the market action so often is. Wednesdays have often tended to be big up days while Thursdays are often spent consolidating the previous day's gains. Add in the typical opex pin-them-to-the-numbers action, and today's consolidation could have been predicted. However, I'll give you all the so-called reasons for the day's actions.

Introduction

If the yen carry trade truly governs our market behavior, developments in Japan last night hinted at a strong open in our markets. Instead, other clues surfaced that hinted at something different.

Japan's GDP disappointed last night, likely pushing back any rate hike in that country for a few months. The Bank of Japan left rates unchanged at its just-concluded meeting. The yen weakened.

However, Japanese equity investors did not celebrate the news and neither did our futures traders, as our futures were slightly below fair value heading into the open. Perhaps Japan wouldn't be raising rates any time soon, but that outlook wasn't true of many of the rest of the global economies where rate-hike worries seem to be the norm.

Then the weekly claims number dropped again, sending bond-yields higher and our equity futures even lower. Our FOMC doesn't want to see wage pressures added to other inflationary concerns.

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Even before the weekly claims number was released, futures traders may have had another often-mentioned worry on their minds: sub-prime loan failures and how they might impact the economy. FOMC Chairman Ben Bernanke was scheduled to speak on that topic today in Chicago at about the time the market opened. If anything had the ability to sour investors' party moods, it was a hint from the chairman that the sub-prime problem would bleed over into other sectors, especially with the weekly claims number already beefing up worries about tightening credit. If you didn't read Keene Little's discussion of some of the worries about the sub-prime problem in his opening comments in last night's Wrap, I suggest you find time to read them.

The Philly Fed was scheduled, too, and some might have been nervous that it, like Japan's GDP last night, would show more weakness than anticipated. Signs of a weakening economy combined with stronger wage pressures would not be welcome.

Charts

Annotated Daily Chart of the SPX:


I've removed trendlines from the Dow chart so that it's more easily apparent just how parabolic and unsupported its rise is as the Dow drives further and further away from strongest support.

Annotated Daily Chart of the Dow:


Annotated Daily Chart of the Nasdaq:

A look at a key tech index may provide clues as to why the Nasdaq churns.

Annotated Daily Chart of the SOX:

The SOX appears ready for a bounce, but if it instead begins closing daily bars beneath the 492-ish historical and Fib support and the 30-sma, it may be due for at trip down to deeper support at 484.

Rising interest rates today likely pressured the interest-rate sensitive small caps.

Annotated Daily Chart of the RUT:


Annotated Daily Chart of the Ten-Year Yields:

The sometimes inverse relationship of yields to equities (yields up, equities down) does not always hold. The relationship is governed by a complex interaction of equities, yields, currencies and commodities. I don't pretend to always understand it, not having a background in economics. I do know enough to know that this action can prompt some worry on the part of equity bulls, especially if yields should successfully push above their April high.

Annotated Daily Chart of the TRAN:


Today's Developments

The first economic report of the day was the usual weekly Initial Claims for the week ending May 12. Expectations were for 310,000-315 claims, up from the previous week's 297,000. Instead new jobless claims fell again, by 5,000 to 293,000, with the previous week's claims revised slightly higher to 298,000. This didn't soothe bond traders, with bonds being sold and yields being sent higher in the pre-market session. The bounce in ten-year yields sent them above a descending trendline that had held since late June, 2006. If anything signaled some concern about equities, gaining in that same period while yields dropped, that could have been it.

For newbies, yields probably rose because of the fear that a tightening labor market (fewer jobless claims) would lead to wage pressures that would increase inflation. If inflation is the Fed's primary concern, then rising rates may be indicating that bond traders, at least, don't put much credence in the Fed's ability to lower rates and have upped the possibility that rates might be raised. Last week's claims numbers were particularly significant because it was during last week that surveys were being conducted for May's nonfarm payroll report. That report is closely watched by the FOMC, and the members have continually reiterated their concerns about inflation.

The four-week moving average, usually considered more significant, fell to 305,500, the lowest level in more than a year. Continuing claims fell, too, as did the four-week moving average. The number of workers still collecting benefits remained steady.

April's Leading Indicators followed at 10:00 EST. This Conference Board release does not often prove market moving, but today it might have added to the concern apparent in early trading. Expectations ranged from a drop of -0.2 percent to flat, but the index actually dropped 0.5 percent. Worse, seven out of the ten indicators declined, and the ones that did rise were stock prices and money supply. What happens if tightening credit dries up the money supply and stock prices dip as a result?

Ameliorating part of the concern was a sharply higher revision of March's number, to a 0.6-percent rise. The previous number had been higher by 1 percent.

Natural gas inventories came next, at 10:30 EST. Inventories rose 95 billion cubic feet, just shy of expectations. Natural gas prices spiked, but they may have also been reacting to hurricane-related fears or other developments in the energy complex. Crude futures rallied, too, closing at $64.85 according to my feed. The AAA reported today that demand would likely be higher during the Memorial Day holiday, despite gasoline today reaching prices not seen since last August. In addition, refinery production problems, a diversion of some tankers due to weather problems in the Gulf of Mexico and heightened geopolitical concerns added to upward pressure in the energy complex.

The last release of the day was one of the most important of the week, the May Philadelphia Fed's Index. Not all the Fed's district reports prove important in predicting the Institute of Supply Management's read on manufacturing activity (ISM), a report the FOMC considers important, but the Philly Fed report is one that is. May's index measuring sentiment in the manufacturing index rose to 4.2, the highest reading seen since January's. April's had been 0.2. The rise was higher than the 3.0 analysts had predicted.

Both encouraging news and worrisome news could be found under the headline number. Worrisome news included a rise in the prices-paid index to 32.3 from the previous 24.3. Although one article concluded that most manufacturers were able to pass the increased costs onto customers, that same article noted that the prices-received index fell to 2.2 from 5.2. I don't know, but rising prices paid and falling prices received doesn't indicate that firms were able to pass on price increases to their customers to me. That's bad news for firms, but good news for consumers and the Fed, watching for increasing inflation concerns, so it could be spun any way you wanted it.

Job growth was strong, too, rising to 12.9 from the previous 2.5, and that, too, could be worrisome for those watching out for wage pressures to increase inflation pressures. Other components were more upbeat without the troubling overtones. New orders, unfilled orders, production and shipment indices all increased.

Fed Chairman Ben Bernanke, speaking at a banking conference at the Chicago Federal Reserve, spoke about the sub-prime issue. Although most headlines characterized his talk as reassuring to the markets, it wasn't totally good news. While he thought the broader impact from the sub-prime sector difficulties would "limited" on banks or thrift institutions, he did not believe that housing had bottomed. He predicts more delinquencies and foreclosures this year and does believe that the slowdown in the housing sector has been one important reason for the slowdown in the economy. Headlines ran with his positive comments, while fewer featured his warnings that institutions are already tightening their lending standards, with that tightening already spilling over into the prime market.

More M&A activity news was released today. AirTran Holdings Inc. (AAI) extended its offer for Midwest Air Group (MEH) until June 8. Neither of these two comprises a component stock of the Dow Jones Transportation Index (TRAN, DJT, depending on the quote source). In addition, Alliance Data Systems (ADS) and Acxiom Corp (ACSM) are both being acquired.

In other company news, firm Stifel Nicolaus downgraded Caterpillar (CAT) to a hold rating from its previous buy rating, noting that the firm felt that the climate for consumer spending might pressure economy-sensitive stocks like CAT. That downgrade was blamed for CAT's performance today, but it was time for profit-taking or hesitation in many of the high-flying stocks of late. CAT closed at 74.84, after gapping below yesterday's 75.95 close, but it also bounced well off the intraday low.

J.C. Penney (JCP) reported earnings of $1.04 a share or $238 million, with sales of $4.22 billion. This beat EPS estimates of $1.03 a share but appeared to miss sales expectations of $4.39 billion. The company appeared to raise expectations for the second quarter, however, according to a www.Marketwatch.com article. JCP gapped higher but found resistance at its converging 30- and 50-sma's.

Tomorrow's Economic and Earnings Releases

Tomorrow's lone economic release of importance is May's Preliminary Michigan Sentiment, released at 10:00. Expectations are for a slight drop, to 85.0-86.5, depending on the source, from the prior 87.1. This release used to have great import in the markets before everyone decided that sentiment would remain positive forever. If it weakens considerably, it could do impact markets again. If you're in plays at the open tomorrow morning, or considering them, decide ahead of time if you want to exit plays before the release or wait until after it to enter new ones.

What about Tomorrow?

Tomorrow is due to be either another consolidation day or a real decline, but when has what it's "due to be" mattered lately? Do watch the futures' reaction to overnight trading in foreign bourses and tune into the TNX's chart when bonds open prior to the cash equity market open. A further rise in bond yields may continue to pressure markets that already look toppy and in need of a retracement to support.

We've all warned at various times that any deeper retracement, any go-away-in-May type of move, could occur quickly, if it does occur. If you traded through some other toppy periods, such as the late 1999 and early 2000 period, you understand how quickly your winning positions can be converted to losing ones, so maintain sound account-management practices. When you can enter a long almost anywhere, no matter how bad the entry, and eventually prosper just by holding on, those account-management skills are sometimes lost or forgotten.

The problem is that these markets are momentum driven, so anything that's showing up in the charts can and often is undone, and momentum can keep going on far beyond the time when warning signs begin to show, so bulls continue to be rewarded for going long, no matter how good or poor their entries. Bears have mostly been scalded, no matter how much evidence is behind their entries..

All that is just to say that no matter what's showing up on short-term or long-term charts, no matter the typical big-gain-consolidate-sideways pattern that has been long established, anything can happen.

In today's choppy trading, I watched the SPX's three-minute Keltner chart for some guidelines. Some of the things seen on this chart might give you some insight into what's happening fist thing tomorrow morning.

AAnnotated 15-Minute Chart of the SPX:

As you can see on the far right, the setup again favors a rise through the channel . . . if all conditions are the same as they were Thursday. Your first sign that something is different would be if you're seeing three-minute closes beneath that black-channel support, especially if the SPX should gap beneath it tomorrow morning and then find resistance at it. That would suggest a fairly quick trip down toward 1508.50 or so. Be really careful if the SPX should gap lower and move quickly down to that lower-channel support at about the time that the Michigan Sentiment number is released, because that release could break prices either direction. The same should be said for a move up toward either 1515.70 or 1517 early tomorrow morning ahead of the Michigan number.

Remember this setup is only for the beginning of trading, and this is a three-minute chart, so the setup can be overruled by larger market forces. It may help you gauge what's different or what's the same tomorrow morning, however, getting a handle on whether choppy consolidation might be again expected or whether a more directional move will likely occur. For those of you who don't have access to Keltner channels, you can still set up the moving averages employed here. The important aqua midline is a 120-ema. The smallest channel uses a 9-ema and the middle, black channel employs a 45-ema. I watch the SPX and OEX's intraday moves most often on 3-minute, 7-minute and 15-minute charts, although I also use a 30-minute chart to give me the bigger picture for intraday moves.

Keltner charts give me targets, the outside of the channels. If you're using only the moving averages, you won't have those, but you will have the ability to see if the moving averages are providing support or resistance and if the short-term ones are crossing below or above the longer-term ones, clues as to the short-term bullishness or bearishness.

I don't know how charts will set up tomorrow. The SPX usually tends to consolidate sideways for three or four days before beginning to dip down toward the 10-sma again, but lately, it's shown more volatility and it's tended to trade across the 10-sma and linger there a bit longer. That may be speaking of a little more weakness creeping in, but that's just a warning for you bulls. It's not advice for you bears to plow into new plays. If you're a good scalper, you can look for your plays, but if you're not, wait for evidence.

For tomorrow, then, prepare for either sideways-to-sideways up consolidation or an actual downturn, but don't be too surprised if the bulls prevail again. Watch the TRAN and MID for guidance. Both have tended to lead the SPX a bit lately.

Annotated 15-Minute Chart of the Nasdaq:

 


New Plays

New Option Plays

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

Play Editor's Note: We feel the need to caution traders again about their bullish positions. The market's lack of follow through on Wednesday's big bounce is a warning sign. The major averages, especially the DJIA, are very overbought and due for a correction. We would seriously hesitate about opening new bullish positions and suggest you re-consider your stop loss placement or an early exit.


New Calls

None today.
 

New Puts

None today.
 

New Strangles

None today.
 


Play Updates

In Play Updates and Reviews

Call Updates

Allegheny Tech - ATI - cls: 112.75 chg: -0.80 stop: 109.99

We are reiterating our warning on ATI. The stock looks vulnerable and we expect it will dip toward the $110 level soon. Traders will want to strongly consider exiting early now to cut their losses. We're keeping the play open because $110 and the 50-dma near $110 should offer significant support. Please note we're not suggesting new positions at this time. Our target is the $119.00-120.00 range. FYI: The Point & Figure chart forecasts a $122 target.

Picked on May 08 at $113.45
Change since picked: - 0.70
Earnings Date 07/25/07 (unconfirmed)
Average Daily Volume = 2.4 million

---

Baidu.com - BIDU - cls: 130.89 chg: +1.14 stop: 124.95

BIDU continued to show relative strength and rose 0.8% in spite of another dip in the INX Internet index. While the short-term trend in BIDU is bullish we are growing more concerned about weakness in the NASDAQ and tech stocks in general that could weigh on shares of BIDU. This is an aggressive, higher-risk play. More conservative traders, if you decided to pursue BIDU, may want to tighten their stops. Our target is the $139.50-140.00 range. The P&F chart is bullish with a $203 target.

Picked on May 14 at $130.51
Change since picked: + 0.38
Earnings Date 07/26/07 (unconfirmed)
Average Daily Volume = 2.2 million

---

Peabody Energy - BTU - cls: 51.30 change: +0.99 stop: 47.99

BTU managed a new nine-month high today near $51.80. The stock closed up almost 2% as traders bought the dip and perpetuated the bullish trend of higher lows. Our target is the $54.50-55.00 range. The P&F chart is very bullish with a $69 target. Our biggest concern with calls on BTU is M&A news. The risk is that BTU might announce it is acquiring one of its smaller rivals and normally shares of the acquirer go down on the announcement.

Picked on May 09 at $ 50.70
Change since picked: + 0.60
Earnings Date 07/19/07 (unconfirmed)
Average Daily Volume = 5.3 million

---

General Dynamics - GD - cls: 81.01 chg: -0.35 stop: 78.85

The upward momentum in shares of GD continues to struggle near $81.50. The stock spent Thursday's session consolidating sideways. We remain bullish on the stock. We have two targets. Our conservative target will be the $84.75-85.00 range. Our aggressive target will be the $89.00-90.00 range. The P&F chart has produced a triple-top breakout buy signal with a $96 target.

Picked on April 29 at $ 80.27
Change since picked: + 0.74
Earnings Date 04/25/07 (confirmed)
Average Daily Volume = 1.4 million

---

Goldman Sachs - GS - cls: 227.38 chg: +0.27 stop: 222.45

The bounce in GS also seemed to fizzle out on Thursday. Shares still have a bullish trend of higher lows but bulls struggled to push the stock above its current trading range. More conservative traders may want to wait for a breakout over the $230 level before initiating positions. Our target is the $238.00-240.00 range.

Picked on May 13 at $227.50
Change since picked: - 0.39
Earnings Date 06/12/07 (unconfirmed)
Average Daily Volume = 7.4 million

---

Precision Castparts - PCP - cls: 113.98 chg: -1.06 stop: 109.85

After four days of gains PCP finally suffered some profit taking. The stock lost 0.9% on Thursday after hitting new all time highs the day before. We're not suggesting new positions at this level. More conservative traders may want to consider a little bit of profit taking here. Our target is the $118.00-120.00 range.

Picked on May 13 at $110.91
Change since picked: + 3.07
Earnings Date 05/09/07 (confirmed)
Average Daily Volume = 1.0 million

---

Sears Holding - SHLD - cls: 178.68 chg: +0.20 stop: 174.74

Shares of SHLD look like they want to rally but are struggling with resistance at its 100-dma and the $180 level. We are concerned about the NASDAQ and the S&P 500 and that has us growing more cautious about bullish positions in SHLD at this time. Lack of follow through on yesterday's bounce is a warning sign. Our target is the $184.00-185.00 range.

Picked on May 13 at $177.96
Change since picked: + 0.72
Earnings Date 05/31/07 (unconfirmed)
Average Daily Volume = 1.7 million

---

Terex - TEX - cls: 79.32 change: -0.68 stop: 77.95

Warning! More conservative traders may want to exit TEX immediately. Shares posted their third loss in a row and the stock broke down under a two-and-a-half month trendline of support. Furthermore TEX broke down under what should have been support near $80.00. We are not suggesting new positions at this time. As of today (Thursday) the current weekly candlestick is painting a big bearish reversal with a bearish engulfing candlestick pattern!

Picked on May 09 at $ 81.16
Change since picked: - 1.84
Earnings Date 07/25/07 (unconfirmed)
Average Daily Volume = 1.2 million

---

Vangard Emergy Mkts ETF -VWO- cls: 86.17 chg: -0.50 stop: 83.45

Given today's wish-washy market the VWO struggled to build on yesterday's bullish breakout. The ETF actually gapped open lower before bouncing back. We would hesitate about opening new positions here. Our target is the $89.85-90.00 range. More aggressive traders may want to aim higher since the P&F chart points to $113.

Picked on May 16 at $ 86.15
Change since picked: + 0.02
Earnings Date 00/00/00 (unconfirmed)
Average Daily Volume = 416 thousand
 

Put Updates

Essex Property - ESS - cls: 120.26 chg: -2.49 stop: 126.55 *new*

The sell-off in ESS continued on Thursday. Shares lost 2% and on strong volume. Today's decline does look like a potential exit point for conservative traders. The $120 level is possible support. It's definitely potential round-number, psychological support. Don't be surprised to see a bounce here. We will adjust our stop loss to $126.55. Our target is the $115.50-115.00 range. FYI: The P&F chart points to a $100 target.

Picked on May 16 at $124.65
Change since picked: - 4.39
Earnings Date 05/02/07 (confirmed)
Average Daily Volume = 281 million

---

Itron - ITRI - cls: 67.15 change: -0.75 stop: 69.35

ITRI continues to churn sideways. It is worth noting that the consolidation is narrowing. That means we can expect a breakout soon. We suspect the breakout will be lower but if the major market indices rally again the ITRI breakout could be higher. We are suggesting that readers wait for a drop under $66 before buying puts again. Our target is the $60.50-60.00 range.

Picked on May 08 at $ 65.85
Change since picked: + 1.30
Earnings Date 05/02/07 (confirmed)
Average Daily Volume = 547 thousand

---

Russell 2000 Ishares - IWM - cls: 80.74 chg: -0.69 stop: 83.55

The Russell 2000 failed to see any follow through on yesterday's intraday (bullish) reversal. That's bad news for the market in general. While we are bearish on the IWM we were trying to get a more desirable entry point near $83.00. We're suggesting a trigger to buy puts at $82.90. We'll try and limit our risk with a tight stop at $83.55. More aggressive traders may want to put their stop just above $84.00. If we are triggered at $82.90 then we will have two targets. Our conservative target is $80.25-80.00. Our aggressive target is the $78.25-78.00 range.

Picked on May xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 00/00/00 (unconfirmed)
Average Daily Volume = 58.4 million

---

Las Vegas - LVS - cls: 77.58 change: +0.23 stop: 85.01

The trend in LVS continues to look bearish but the stock is arguable short-term oversold. We would be cautious about opening new positions. Our target is the $71.50-70.00 range. Currently the P&F chart sports a triple-bottom breakdown sell signal with a $75 target.

Picked on May 07 at $ 79.85
Change since picked: - 2.27
Earnings Date 05/02/07 (confirmed)
Average Daily Volume = 2.1 million

---

Vital Images - VTAL - cls: 27.75 chg: -0.25 stop: 30.05

Good news! The oversold bounce in VTAL quickly failed and the move today looks like a clear failed rally pattern. The close under $28.00 looks like another entry point to buy puts. Our target is the $25.15-25.00 range.

Picked on May 16 at $ 27.99
Change since picked: - 0.24
Earnings Date 04/26/07 (confirmed)
Average Daily Volume = 191 thousand
 

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.)

---

Lockheed Martin - LMT - cls: 98.45 change: -1.19 stop: n/a

It is pretty much game over for our strangle on LMT. Today's decline (failed rally under resistance at $100) is a good indication that LMT will not be trading higher soon. Tomorrow is our last day before May options expire. The suggested options we had listed were the May $100 calls (LMT-ET) and the May $90 puts (LMT-QR). Our estimated cost was $1.50.

Picked on April 22 at $ 95.40
Change since picked: + 3.05
Earnings Date 04/24/07 (confirmed)
Average Daily Volume = 1.7 million
 

Dropped Calls

Marathon Oil - MRO - cls: 113.45 chg: +1.69 stop: 104.99

Target achieved - again. Three days ago MRO hit our conservative target in the $109.85-110.00 range. Today, after a big rally in crude oil futures, shares of MRO shot to another new high at $114.41. Our aggressive target was the $114.00-115.00 range. FYI: The P&F chart points to $110 and MRO has a 2-for-1 split coming up on June 19th.

Picked on May 08 at $105.55
Change since picked: + 7.90
Earnings Date 07/31/07 (unconfirmed)
Average Daily Volume = 3.8 million

---

WATSCO - WSO - cls: 55.04 change: -0.54 stop: 54.85

We would have been stopped out of WSO today. WSO failed to bounce higher. The lack of follow through after Wednesday's afternoon rebound is definitely bearish. Our stop loss was $54.85. It's probably not a coincidence that the intraday low was $54.84. Technical traders will note that the daily chart's MACD has produced a new sell signal.

Picked on May 06 at $ 55.73
Change since picked: - 0.69
Earnings Date 07/19/07 (unconfirmed)
Average Daily Volume = 382 thousand
 

Dropped Puts

Equinix - EQIX - cls: 81.24 chg: +2.98 stop: 83.55

Ouch! EQIX rallied 3.8% and on big volume today. We couldn't find anything specific to account for the relative strength on Thursday. However, we did notice that the three-day candlestick pattern definitely looks like a bullish reversal. We're cutting our play early right here to try and avoid any losses if EQIX continues higher although there is a chance the stock might hit resistance in the $82.00-82.50 zone. We'd keep an eye on EQIX for any future failed rally near $85.00 and its 50-dma as a potential entry point for new bearish positions.

Picked on May 06 at $ 82.83
Change since picked: - 1.59
Earnings Date 04/26/07 (confirmed)
Average Daily Volume = 515 thousand
 

Dropped Strangles

None
 

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

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