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Daily Newsletter, Thursday, 07/26/2007

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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

An Answer to Last Night's Question

In Keene Little's introduction to his Market Wrap last night, he asked whether yesterday's bounce was merely a relief bounce or the start to a larger bounce. He believed it to be nothing but a relief bounce. Traders stumbling to their televisions this morning had their answers after they turned on CNBC. It was going to be a bad day for equity bulls.

Introduction

Anticipated or, better-said, dreaded morning developments worsened the early morning jitters. Those anticipated developments included economic releases, earnings from several home builders, and addresses by Treasury Secretary Hank Paulson and Former Fed Chairman Alan Greenspan. A rise in crude prices above $76.00 a barrel and eventually up to a day's high of $77.24 before it slipped back later into negative territory didn't calm those jitters, either.

I riveted my gaze on something different, however, something that had held my attention since yesterday. I had been watching the U.S. dollar/yen pairing, the value of the dollar against the yen. Those who read my Wraps have seen several charts in recent months comparing the inter-market relationship of this currency pair to U.S. equities. Yesterday, the chart of the USD/JPY, the symbol for the dollar versus the yen in my charting program, revealed important support being broken. That was a warning sign to those watching this pair to gauge how equities might act. This morning, even the euro/yen pair dropped to test key support.

Annotated Daily Chart of the USD/JPY:

Of concern here is what happens to the yen carry trade. The yen carry trade has been discussed many other times in the Wrap and I've been hearing it discussed on CNBC all day today, so I don't want to bore readers with a long discussion for which I'm not qualified anyway. In a quick and perhaps over-simplified review for the benefit of newbie traders, some global investors have been funding their purchases of the world's equities by borrowing yen. Due to Japan's low interest rates, they can borrow those yen, pay low interest rates on their loan, and use the yen to purchase something that's escalating at a rate higher than the interest rate on those loans. Lately, to a large degree, that money has been spent on equities.

If interest rates rise in Japan or if other currency relationships make it more expensive to borrow those yen, traders must unwind those equity trades. In Japan, worry rises that the Bank of Japan may raise interest rates in its meeting next month. An important report on consumer prices is due tonight, and that report might impact the Bank of Japan's decision. Overnight last night, a BOJ official expressed his belief that the central bank had to watch that figure closely.

As Jim and Keene have so expertly discussed in recent weeks, concerns about leveraged buyout deals have increased jitters, and they worsened the concerns today. Almost prophetically, Jim warned this weekend what could happen if news of a postponement or canceling of a leveraged buyout circulated this week, and we did hear such news.

We've all discussed the fallout from the sub-prime concerns, and this afternoon, further news surfaced. Bear Stearns (BSC) said it had seized the assets of High-Grade Structured Credit Strategies fund when the fund couldn't meet its margin requirements. The firm had suffered big losses, due at least partly to the problems in the sub-prime mortgage market, and BSC had earlier lent it $1.6 billion. BSC said it would liquidate the fund in an orderly manner and that its own hedging procedures would protect the value of the portfolio from any further declines.

The day's rout occurred on record volume for the year, CNBC headlines noted, but I couldn't confirm that as the figures in the table show. I deferred to Jim, who was able to provide me with the following numbers: NYSE volume: 6,045,466,000 shares; Nasdaq volume: 3,520,496,000 shares; and AMEX volume: 51,283,000 shares.

Trading curbs were instituted. The Dow lost more than 311 points, but at one point during the day, it had fallen almost 450 points. The Russell 2000 narrowly missed turning negative for the year, having dropped below the December 29 close before bouncing. Words such as "biggest" were being applied to losses instead of to gains. So, was damage done to bullish equity charts today? Let's look.

Charts

Annotated Daily Chart of the SPX:

I'm going to say something that's going to go counter to almost everything you've heard, but it's something I've learned through the study of Tom Williams' theories, as expressed in his book, MASTER THE MARKETS.

Today had strong volume, right? Who is capable of producing that record volume? Not you and me, the retail trader. I can't move the markets, and neither can you. Only big money can. And what did big money do today?

They bought.

I can hear you screaming at me through the monitor, but unless big money was soaking up the supply we dumped on the markets, how could prices bounce and bounce so strongly? Think about it. This wasn't mom and pop trader covering their shorts before tomorrow's GDP that produced that caliber of bounce.

Does that mean that markets won't crater again tomorrow or sometime next week? Nope. As you've heard me say before, big money can afford to start entering ahead of you and me. They can be entering for a short-term play only, although I would think that less likely. Or, they can be wrong, which they sometimes are.

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However, do you really want to bet heavily against them? Spend some time tonight looking over instances when you've seen such strong springs off support and note what happens afterwards. Often, perhaps after another retest or a lower low with bullish divergences or on lower volume, markets put in some kind of a bounce. That bounce doesn't always produce new highs, but there's usually a bounce attempt soon.

Am I saying to load up on calls? Nope, I'm not saying that, either. All those other instances over this last year when the SPX bounced after springing higher were produced while the SPX trended higher, and the climate has definitely changed. I'm just saying to be careful about any bearish short-term conclusions right now.

If the SPX bounces, resistance may be quite strong near the aqua-colored 72-ema, if it's not turned back before then, at about 1491-1492. Watch those levels for rollover potential, and certainly have plans for protecting any short-term bullish plays at those levels. Bears, you don't want to see any bounce get much past that 72-ema on a close, or the SPX is right back in that chop zone from the last couple of months, and it could stay there again for an equal amount of time, chopping out a right shoulder.

Let's look at other charts. The Dow also sprang off its low, as already noted, and what a low it was. Still, when viewed on a daily chart, the Dow's chart looks more bullish or at least less bearish.

Annotated Daily Chart of the Dow:

We're beginning to see a pattern here, of strong springs off support. The Nasdaq followed that pattern.

Annotated Daily Chart of the Nasdaq:

Annotated Daily Chart of the SOX:

The RUT's chart most resembles that of the USD/JPY, excluding the RUT's strong bounce off support. That bounce didn't happen with the USD/JPY, and that's sounding a note of caution to my conclusion that big money was at least nibbling at stocks today. In my opinion, that nibbling wasn't confirmed by the USD/JPY action or even the EUR/JPY (euro versus yen) action, although the EUR/JPY did perform better, holding support better.

Annotated Daily Chart of the RUT:

The TRAN's direction sometimes predicts the Dow, SPX and OEX's, so is important to watch.

Annotated Daily Chart of the TRAN:

Today's Developments

Today's economic calendar was full. Initial and continuing jobless claims started the day at 8:30. Last week's number was revised slightly higher to 303,000, but those claims turned lower again this week. While fewer initial claims encourages those who want a healthy job market, as we all do, the number again hovered near a seasonally adjusted 301,000 new claims for last week. That's barely above the 300,000 benchmark that marks a labor market that might be tight enough to be increasing inflation pressures. The four-week moving average now reaches 308,500. Continuing claims fell but the four-week moving average still rises. The insured unemployment rate stayed steady at 1.9 percent.

The advance June Durable Goods was released at the same 8:30 time slot. The previous figure for durable goods had weakened, and they did again, to a 1.4 percent increase in durable goods orders. Economists had predicted a 2.5-percent increase. If strong demand for airplanes hadn't propped up the orders numbers, durable goods orders would have fallen 0.5 percent.

Components revealed that orders for core capital equipment goods fell 0.7 percent. Core capital equipment goods are those items companies buy to increase their production. After this result, some market watchers presumably questioned whether the annualized 3.6 percent estimate for the second-quarter GDP, to be released tomorrow, remained accurate, and certainly whether those higher whisper numbers will be.

Other components of the Durable Goods number showed mixed results. Orders for transportation goods, which include aircraft, rose 6.1 percent, but orders for computers and electronics, excluding semiconductors, fell 4.6 percent, for example.

June's New Home Sales were released at 10:00, with analysts pegging expectations at 890,000-900,000, down from the previous 915,000. The number proved much weaker than anticipated. New home sales dropped 6.6 percent to a seasonally adjusted annual rate of 834,000, dropping close to March's 830,000 low. The Commerce Department calculates that new home sales are now 22.3 percent lower than the year-ago level.

Inventories of unsold homes remained steady at 537,000, but other articles note that with slower sales figures, that now amounts to a 7.8-month supply. Economists had predicted a 7.1-month supply level. Regional reports showed that sales at three out of the four regions declined. The median sales price declined 2.2 percent year over year. Those economists who were calling a bottom in the housing market several months ago appear to have been wrong. The CEO's of homebuilders were always more cautious than the economists, and they appear to have been right.

The government released the weekly natural gas inventories at 10:30. The Energy Department reported that natural-gas inventories rose 71 billion cubic feet for the week ended July 20, roughly in line with predictions.

The last of the three FOMC districts reporting manufacturing data this week was the Kansas Fed, with its Manufacturing Survey released at 11:00 this morning. Although I doubt few were paying attention to this survey, the Tenth District reported that manufacturing activity "rebounded slightly," to 10 in July. To put that slight rebound into context, it's important to remember that manufacturing was down sharply in this district in June, tumbling to -2 from May's 20. Also, the new orders index fell its third straight month, with the district's report commenting that the new orders index had fallen to its lowest level in five years. Prices of raw materials increased, but those prices didn't appear to filter through to finished goods prices. Indices measuring future activity remained mostly optimistic.

Companies reporting today included AMGN, F, MMM and XOM. XOM surprised the trading community by missing expectations. Because it's currently the most heavily weighted SPX component, its gap lower this morning colored trading screens red.

Homebuilders Pulte (PHM) and D.R. Horton reported losses. The story was familiar with D.R. Horton, with the company writing down its deposits on land and the value of its unsold inventory. Beazer (BZH) also reported, with that company's release noting that the company didn't know when to expect an improvement in the challenges it faces in the current housing market environment.

Ford (F) fared better. Its cost-cutting and other turnaround efforts produced a profit for the second quarter, its first in seven quarters.

Apple (AAPL) also fared better after beating expectations last night. Some of its gains could surely be attributed to short covering, but, whatever the reason, AAPL helped keep the carnage in the tech sector from being worse than it would otherwise have been.

When Treasury head Paulson spoke today, he mentioned a "very major correction" in the housing market. He still insisted that the sub-prime issues were mostly contained and not ultimately a threat to the economy.

After-hours reporters included KLAC, QLGC, FLEX, AMGN and others. Not all those reports were in as this report was prepared, but as I was typing, QLGC was falling to $16.00 in an initial reaction after reporting earnings of $0.12 per share and AMGN was climbing to $56.90. Remember that these initial reactions do not always prove predictive of the next day's trading pattern. Also, shortly after the close, Gap announced that Glenn Murphy would be the new CEO.

Tomorrow's Economic and Earnings Releases

Many have awaited one of tomorrow's economic releases, the second-quarter GDP at 8:30 EST. Jim Brown discussed expectations in his weekend newsletter, noting that "the fireworks could start" with this release. He had also noted the likelihood of fireworks beginning with news that a major buyout deal was experiencing difficulty with funding, and that appeared to be the trigger this week. In our current environment, when gains and losses alternate, however, you never know which direction will predominate.

Official estimates for the GDP, as Jim noted, hover around 3.2 percent. Into last weekend, whisper numbers had ranged even higher, but enthusiasts were beginning to tamp back their expectations. They may have done so again after today's releases. Markets balance in a precarious place right now, and a too-strong jump from last quarter's 0.69-percent growth could raise rate-hike fears, while a failure to grow the economy enough heightens fears that the slump in housing and the recent credit problems could spill over into the economy.

Other releases tomorrow include July's Consumer Sentiment at 10:00 and the ECRI Weekly Leading Index at 10:30.

Companies reporting earnings tomorrow include CVX. Other companies are BHI, BLX, CCU, CEG, FO, IDXX, IFX, INF, IR, ITT, MHS, OPY, RTRSY and SEPR.

What about Tomorrow?

That's a tough one. Tests of key levels of support and chart characteristics such as the SPX's test of its megaphone support suggest that it's time for a consolidation effort or perhaps a bounce attempt. The strong springs off the day's lows suggest the same, especially when they're accompanied by large volume. Only big money can produce big volume, and they weren't dumping everything or there wouldn't have been a spring. Big money can absorb what you and I dump on the markets, but we can't absorb what they do, so we were the dumpees and they were the absorbees, at least to some degree.

It's also difficult to bounce confidently when one stands on the edge of a precipice, especially if a strong wind is blasting against one's back. A collapse of the yen carry trade in overnight trading tonight could provide that strong blast of wind. If I have difficulty predicting our economic numbers in advance, I certainly have difficulty predicting Japan's.

Other than an occasional green candle every 90 minutes or so, the U.S. dollar/yen's 15-minute chart trended lower all day today, predicting that bounces would not last until the pattern began changing about 2:45. The adv/dec line could never pick itself up and rise. Watching these two inter-market and breadth indicators alone would have saved traders from trying to catch that proverbial falling knife until the bounces began, so I certainly suggest that they be watched tomorrow. In particular, begin looking for bullish divergences on the adv/dec line, as these sometimes, but not always of course, precede price bounces.

I drilled down to a three-minute chart for the USD/JPY to show you why I'm still not shouting "bounce alert" from the rooftops.

Annotated Three-Minute Chart of the USD/JPY:

For those who do not have a quote for this pair, you can watch the crawler above the screen on CNBC, where it's listed as "yen" on the left-hand side.

Annotated Three-Minute Chart of the SPX:

Keltner lines, as many of you know by now, are dynamic, but let's talk about what we see here. First, the failure of the USD/JPY to confirm its inverse H&S throws some doubt on whether the SPX will be able to do so. If it does, by sustaining three-minute closes above about 1490, this chart currently suggests an upside target just under 1503, but that target will move higher with price changes. The ultimate Keltner target might fit in well with a daily chart 72-ema test tomorrow, if the SPX confirms that inverse H&S. If the SPX drops back instead, blue-line support will likely move down toward 1475-1476, with next support below that firming up near today's low.

If that support doesn't hold, then I think we have to watch for a 200-sma and -ema test, considering the possibility that those moving averages may not hold, as they didn't today for the USD/JPY or the Russell 2000. You don't want to be trying to catch those falling knives if the SPX keels over.

The Nasdaq has already confirmed an inverse H&S on its three-minute chart, but it was showing some bearish divergence as it did.

Annotated Three-Minute chart of the Nasdaq:

This sets a potential 2622-2625-ish upside target, since the upper target line is likely to move higher as price does. Beware a break down below the gathering Keltner lines near the neckline of that inverse H&S, however. It will show that today's last-minute confirmation wasn't to be trusted.

The RUT's three-minute chart shows characteristics similar to the Nasdaq's.

Three-Minute Chart of the Russell 2000:

My conclusion? Those springs off the low seen on the daily chart and the tiny inverse H&S's seen on these three-minute charts all hint at bullish intentions. However, the USD/JPY action does not yet confirm those bullish intentions, so I'd remain wary, especially since I can't wait until Japan's consumer number and the Asian markets' reactions before filing this report tonight. I also don't know how the reaction to our GDP is going to impact markets.

With such stiff declines this week, we have to conclude now that markets have moved into a more neutral mood if not a downright bearish one. Charts show me the potential for markets to spend another few weeks hammering it out, but if the yen carry trade collapses, the market reaction will be telescoped into days or maybe even hours. So, look at these conclusions, at least consider the possibility that markets will attempt a bounce or consolidation attempt, but always remain wary of darker possibilities.

Don't bet the farm on anything right now. In fact, despite my call for a possible consolidation or bounce attempt, I wish I owned a farm, outright, and was producing my own food and biodiesel, because all this doom and gloom scares me. Sounds about right for a bounce, though, doesn't it, if everyone is scared?
 


New Plays

New Option Plays

Call Options Plays
Put Options Plays
Strangle Options Plays
CELG None None
DO    
GS    
PCAR    
TEX    

Play Editor's Note: The short-term trend for the major market averages is now down but stocks look oversold and due for a bounce. We are adding a few bullish positions to the newsletter but readers should consider them more speculative and higher risk in this environment.


New Calls

Celgene - CELG - cls: 60.20 change: 1.45 stop: 57.49

Company Description:
Celgene Corporation, headquartered in Summit, New Jersey, is an integrated global biopharmaceutical company engaged primarily in the discovery, development and commercialization of novel therapies for the treatment of cancer and inflammatory diseases through gene and protein regulation. (source: company press release or website)

Why We Like It:
CELG displayed some relative strength today after reporting better than expected earnings this morning. The stock broke out over technical resistance at its 50-dma but stalled under resistance at the $61.00 mark. We suspect that if the markets can stage a rebound then CELG may be able to breakout from its trading range. We're suggesting a trigger to buy calls on the stock at $61.25. If triggered our target is the May highs in the $66.50-67.00 range. FYI: A move over $61.00 would produce a brand new P&F buy signal.

Suggested Options:
We are suggesting the September calls. Our suggested trigger to open positions is at $61.25.

BUY CALL SEP 60.00 LQH-IL open interest=1647 current ask $3.60
BUY CALL SEP 65.00 LQH-IM open interest=2000 current ask $1.50

Picked on July xx at $ xx.xx <-- see TRIGGER
Change since picked: 0.00
Earnings Date 07/26/07 (confirmed)
Average Daily Volume = 4.1 million

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Diamond Offshore - DO - cls: 106.36 chg: -3.89 stop: 99.90

Company Description:
Diamond Offshore provides contract drilling services to the energy industry around the globe and is a leader in deepwater drilling. (source: company press release or website)

Why We Like It:
We believe the short-term sell-off in oil service stocks is overdone. Don't misunderstand us. We've been saying that oil and oil stocks are likely to see a significant correction in mid August. However, DO could still rebound back toward its highs before the correction occurs. This should be considered a higher-risk, aggressive play given the volatile environment we're in. We're suggesting call positions now. More conservative traders may want to use a trigger over $107.50 before jumping in. We're going to set two targets. Our conservative target is the $114.00-115.00 range. Our more aggressive target is the $119.00-120.00 range. The P&F chart points to a $137 target. FYI: More conservative traders may want to use a tighter stop loss around $102.50.

Suggested Options:
We are suggesting the September calls. As with all of our plays the listed options below are only suggestions. It is up to the individual trader to decide what month and which strike price best suits your trading style and risk level.

BUY CALL SEP 105 DO-IA open interest=11651 current ask $7.10
BUY CALL SEP 110 DO-IB open interest= 6028 current ask $4.70
BUY CALL SEP 115 DO-IC open interest= 8414 current ask $2.85

Picked on July 26 at $106.36
Change since picked: 0.00
Earnings Date 07/26/07 (confirmed)
Average Daily Volume = 2.6 million

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Goldman Sachs - GS - cls: 195.12 change: -8.04 stop: 188.99

Company Description:
Goldman Sachs is a leading global investment banking, securities and investment management firm that provides a wide range of services worldwide to a substantial and diversified client base that includes corporations, financial institutions, governments and high net-worth individuals. Founded in 1869, it is one of the oldest and largest investment banking firms. The firm is headquartered in New York and maintains offices in London, Frankfurt, Tokyo, Hong Kong and other major financial centers around the world. (source: company press release or website)

Why We Like It:
This play is for the brave traders out there! Concerns about the sub-prime fallout has been plaguing the banks and brokers. Additionally news about a credit crunch slowing the leveraged-buyout deals has slammed the brokerage stocks. Yet a lot of the markets fears might (we repeat "might") be priced into shares of GS. The stock has fallen from its highs near $233 and shares have plunged more than $30 in just the last couple of weeks. GS is very short-term oversold and due for a bounce. Speaking of bounces the stock bounced near its March 2007 low near round-number support at $190. If nothing else this might be a good spot to catch several points in an oversold bounce before it rolls over again. The 200-dma, near $208, should now be overhead resistance. We're suggesting speculative call positions now with a $205.00-208.00 target. FYI: The P&F chart is incredibly bearish with a $144 target.

Suggested Options:
We do not expect to be in this play very long so we're suggesting the August calls. Septembers would also work.

BUY CALL AUG 190 GPY-HR open interest= 743 current ask $10.80
BUY CALL AUG 195 GPY-HS open interest= 604 current ask $ 7.90
BUY CALL AUG 200 GPY-HT open interest=6105 current ask $ 5.50

Picked on July 26 at $195.12
Change since picked: 0.00
Earnings Date 09/12/07 (unconfirmed)
Average Daily Volume = 6.9 million

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PACCAR - PCAR - cls: 82.87 change: -4.99 stop: 79.70

Company Description:
PACCAR is a global technology leader in the design, manufacture and customer support of high-quality light-, medium- and heavy-duty trucks under the Kenworth, Peterbilt and DAF nameplates. It also provides financial services and information technology and distributes truck parts related to its principal business. (source: company press release or website)

Why We Like It:
Here is another buy the dip play or it might be more correctly called buy the bounce play. PCAR reversed sharply on July 24th and promptly sank from the $98 level down to under $80 during today's session. That's a huge move in just three days. PCAR is very short-term oversold and due for an oversold bounce. Traders bought the dip near $80.00 twice today and volume really began to pick up on the afternoon rebound. We suspect that PCAR could run toward $90 again before hitting trouble. We're suggesting readers buy the afternoon bounce today. We'll put the stop loss under today's low. Our target is the $89.50-90.00 range. Yes, given the volatility, we would qualify this as a higher-risk, more aggressive play. FYI: The P&F chart is very bearish and points to a $61 target.

Suggested Options:
We do not expect to be in this play very long so we're suggesting the August calls. Septembers would also work.

BUY CALL AUG 80.00 PAQ-HP open interest= 581 current ask $5.00
BUY CALL AUG 85.00 PAQ-HQ open interest= 668 current ask $2.25
BUY CALL AUG 90.00 PAQ-HR open interest=1230 current ask $0.90

Picked on July 26 at $ 82.87
Change since picked: 0.00
Earnings Date 07/24/07 (confirmed)
Average Daily Volume = 1.8 million

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Terex - TEX - cls: 83.87 change: -4.43 stop: 79.49

Company Description:
Terex Corporation is a diversified global manufacturer with 2006 net sales of $7.6 billion. Terex operates in five business segments: Aerial Work Platforms, Construction, Cranes, Materials Processing & Mining, and Roadbuilding, Utility Products and Other. (source: company press release or website)

Why We Like It:
Last night TEX reported better than expected results but still sold off thanks to the market's meltdown on Thursday. While many of the technicals have turned bearish on TEX we suspect that shares will bounce from the $80.00 level and its rising 100-dma. We're suggesting call positions now. If you want to wait and see if the markets dip again tomorrow it might pay off to wait and look for another dip near the $80 region. If you prefer to buy on strength then consider waiting for a rise past $86.50 or over $87.50. We do expect some resistance near $90.00. However, our first target is the $94.00-95.00 range. More conservative traders may want to take profits in the $89.50-90.00 zone.

Suggested Options:
We are suggesting the September calls. August calls would work but August options expire in about three weeks.

BUY CALL SEP 80.00 TEX-IP open interest= 0 current ask $8.30
BUY CALL SEP 85.00 TEX-IQ open interest=10 current ask $5.60
BUY CALL SEP 90.00 TEX-IR open interest=37 current ask $3.60

Picked on July 26 at $ 83.87
Change since picked: 0.00
Earnings Date 07/25/07 (confirmed)
Average Daily Volume = 1.1 million
 

New Puts

None today.
 

New Strangles

None today.
 


Play Updates

In Play Updates and Reviews

Call Updates

Penn National Gaming - PENN - cls: 56.79 chg: -0.80 stop: n/a

PENN reported earnings today and missed estimates by a penny but revenues came in above expectations. The stock traded lower with the market. The afternoon spike dipped to $54.40. The big rebound looks like a potential "hammer" style candlestick, which can be a one-day bullish reversal pattern. Unfortunately, we don't have much time left on this high-risk, speculative play. It looks like we're down to the last seven days before PENN's 45-day window to solicit another bid expires. We're not suggesting new positions. If you're willing to gamble on a new offer coming in over the next several days we would stick to the August strikes.

Picked on June 17 at $ 62.12
Change since picked: - 5.33
Earnings Date 07/26/07 (unconfirmed)
Average Daily Volume = 1.0 million
 

Put Updates

Harley Davidson - HOG - cls: 57.30 change: -1.36 stop: 60.26

HOG dipped to a new 52-week low before bouncing back to close with a 2.3% decline. Volume on the session was pretty strong but we're somewhat concerned by the afternoon bounce. The larger pattern is bearish but very short-term HOG still looks poised to rebound. Watch for a failed rally near the $59.00-60.00 zone as a new entry point for bearish positions. Our target is the $52.50-50.00 range. The P&F chart already points to $42.00.

Picked on July 23 at $ 57.75
Change since picked: - 0.45
Earnings Date 07/27/07 (unconfirmed)
Average Daily Volume = million

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Ryanair Holdings - RYAAY - cls: 37.81 change: -0.89 stop: 40.15

We are growing less and less excited about the RYAAY put play. The stock did gap down and close with a 2.2% loss. However, the XAL airline index dove 4.4% marking it as one of the market's worst performing sectors today. RYAAY seems to be showing too much relative strength. The trend is bearish but we hesitate to open new put positions at this time unless we see a clear failed rally in the $38-39 zone. Our target is the $35.05-34.00 range, which is near the November 2006 gap. The P&F chart is already bearish with a $26 target.

Picked on July 22 at $ 38.13
Change since picked: - 0.32
Earnings Date 06/05/07 (confirmed)
Average Daily Volume = 812 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.)

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Advanced Micro - AMD - cls: 14.73 chg: -0.85 stop: n/a

It was a big day for AMD. The stock broke down under short-term support at the $15.00 level and did so on big volume! Shares closed with a 5.4% decline. We really need to see AMD trading north of $17.20 or under $13.80 if we are going to have a chance at being profitable. We're not suggesting new strangle plays at this time. The August options we suggested were the August $16 call (AMD-HQ) and the August $15 put (AMD-TC). Our estimated cost was $1.18. We want to sell if either option hits $1.85 or higher. Aggressive traders could aim for $2.40.

Picked on July 15 at $ 15.43
Change since picked: - 0.70
Earnings Date 07/19/07 (confirmed)
Average Daily Volume = 26.1 million

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DaimlerChrysler - DCX - cls: 88.91 chg: -4.11 stop: n/a

DCX has reversed again, this time losing 4.4% and closing at a new four-week low. We are not suggesting new strangles on DCX at this time. The options in our suggested strangle were the August $95 calls (DCX-HS) and the August $85 puts (DCX-TQ). Our estimated cost was $3.70. We want to sell if either option rises to $6.45.

Picked on July 22 at $ 89.75
Change since picked: - 0.84
Earnings Date 07/25/07 (unconfirmed)
Average Daily Volume = 1.3 million

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Intel - INTC - cls: 24.07 change: -0.43 stop: n/a

INTC dipped toward its rising 50-dma before bouncing back to close with a 1.75% decline. If the stock bounces we would look for the $24.50-25.00 zone to act as overhead resistance. We are not suggesting new strangle positions at this time. The options we suggested were the August $27.50 call (INQ-HY) and the August $25.00 put (INQ-TE). Our estimated cost was $0.96. We want to sell if either option hits $1.65 or higher. FYI: The August $25 put (INQ-TE) hit an intraday high of $1.54 and is trading at $1.21bid/$1.29ask.

Picked on July 15 at $ 25.97
Change since picked: - 1.89
Earnings Date 07/17/07 (confirmed)
Average Daily Volume = 60.3 million

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Lexmark - LXK - cls: 42.21 change: -1.76 stop: n/a

LXK continues to sell-off and lost 4% on heavy volume. The stock closed at a new 18-month low. We are not suggesting new strangle positions in LXK at this time. The options in our strangle were the August $50 calls (LXK-HJ) and the August $40 puts (LXK-TU). Our estimated cost was $0.75. We want to sell if either option rises to $1.50.

Picked on July 22 at $ 45.43
Change since picked: - 3.22
Earnings Date 07/24/07 (confirmed)
Average Daily Volume = 1.9 million

---

Manpower - MAN - close: 85.95 chg: -0.95 stop: n/a

MAN tried to bounce this morning but quickly reversed course. The stock did manage another bounce from round-number support near $85.00 this afternoon. More conservative traders may want to exit their strangle position now. MAN could easily bounce again with support near $85 and the 100-dma. The August $90 put (MAN-TR) is trading at a $4.60bid/$5.30ask. We're thinking about adjusting our target (exit price) lower on the option but we'll wait another day before making that decision. We're not suggesting new positions at this time. The options in our strangle were the August $100 call (MAN-HT) and the August $90 put (MAN-TR). Our estimated cost was $3.35. We want to sell if either option hits $5.75 or higher.

Picked on July 15 at $ 94.60
Change since picked: - 8.65
Earnings Date 07/19/07 (confirmed)
Average Daily Volume = 636 thousand
 

Dropped Calls

None
 

Dropped Puts

Bear Stearns - BSC - cls: 124.25 chg: -5.03 stop: 140.55

Target exceeded! Concern over the sub-prime issue sent the market plunging this morning. BSC gapped open lower at $126.50 and then dipped to $119.55 before bouncing back to close down 3.8%. Our target was the $125.50-125.00 range. The stock looks way overdue for a bounce but we'll be watching for a failed rally near $130 or its 10-dma as a possible new entry for more put plays.

Picked on July 22 at $134.72
Change since picked: -10.47
Earnings Date 09/13/07 (unconfirmed)
Average Daily Volume = 3.4 million
 

Dropped Strangles

None
 


Trader's Corner

Layers of Resistance, Layers of Support

Last week I wrote on how 'resistance' or potential selling pressure might still be 'measured' technically when an index or stock is at either a new all-time high or a new high for a move. One way to measure potential resistance in such instances is by the use of price channels. When there is an uptrend, there is typically a dominant up trendline. A line parallel to such an up trendline touching the highest high that occurred over the duration of such an up trendline forms the upper end of the uptrend channel and may act as either interim, or a pivotal, resistance.

For anyone wanting to go back to my Trader's Corner article of last week (7/18), this column can be viewed by clicking here.

The classic way to measure 'resistance' is to go back to a prior all-time or a prior dominant upswing peak. An index or stock that tops out at a prior high makes a technical double top formation. The record of double tops (and double bottoms) is very good in signaling trend reversals.

A recent and obvious example of a double top was seen in the Russell 2000 Index (RUT), and a less obvious example will follow, that of the S&P 500 (SPX):

A double top is viewed as being 'confirmed' when the dominant downswing low PRIOR to the second top is pierced as is the case above with RUT as it fell decisively below 820, at the prior two lows which formed a minor double bottom. The longer the time duration that passes BETWEEN the formation of the double bottom or double top the more credence is given to the double top or bottom as a reversal point. We'll see this in spades in the S&P 500 (SPX) weekly chart, which is my next chart. This chart also has trend channel lines that form a another version of the weekly chart uptrend channel that I showed for SPX last week:

The S&P 500 (SPX) is considered to be the most important index as a benchmark for fund performance. SPX was widely heralded as being at a new all-time high based on it going to a new all-time high CLOSE. The analysis of the Close as being the key benchmark to gauge the progress of the market began with Charles Dow, who in fact only considered the weekly Close to be important. Not everyone since then has thought that the close only or even the key benchmark high or low, especially WD Gann. I myself recently wasn't paying the closest attention to the prior all-time weekly HIGH (highest daily high of any prior week) in SPX, at 1552.8. WRONG to lose track of that prior all-time High, as we can see in my next chart.

We see an exact double top in SPX in terms of the prior all-time weekly SPX peak at 1552.8 made back in 2000. This level now forms a 'potential' double top relative to the recent high; such a double top would be 'confirmed' by a close below the 1364 prior downswing low (made before the most recent top). However, as we are focused on trading, not making long-term investment decisions, a double top formation is an EXCELLENT signal to buy puts as soon as the double top is apparent, with a exiting stop just above the double top (1553). At that point the risk to reward potential in such a trade is favorable, even if only a moderate correction follows; especially so, in an overbought market as we'll see with the Dow RSI Indicator next.

The other (potential 'double') resistance is seen IF we assume an uptrend channel that connects the MOST number of highs (an 'internal' trendline) rather than the single highest high, as seen below:

The other technical factor to look for when one of the major indexes appears to be hitting potential resistance or is coming close to resistance suggested by an upper trend channel line, is to note if new highs are also occurring in the Relative Strength Index (RSI) indicator on a weekly chart basis. If there is a pattern of higher highs (seen by a rising trendline) when, during the same period, there's a pattern of declining peaks in the RSI, the resulting divergence is a bearish technical indication. Such a divergence suggests being watchful for PRICE action that signals a top or potential trend reversal.

I also revisited the way that I drew my upper trendline on the weekly Dow 30 (INDU) chart below: an 'external' trendline, touching the highest high for the period shown here, intersected around 14,100. When I also drew the upper parallel line through the greatest number of weekly highs recorded in early-2004, resistance implied by this ('internal' upper) trendline intersected right at 14,000 in INDU.

The even-100 or even 1,000 levels in the indexes often assume greater significance than other levels, in terms of marking major support or resistance points. Thinking that INDU might make it up to 14,100, rather than the strong possibility that it might top at the even-14,000 level was just one possibility. Better if I look at the charts from other, or ALL, angles.

I was talking about situations when prices are trending higher and the RSI (Relative Strength Index) is NOT 'confirming' the same action by trending lower. We can say that prices are going up on LESS 'relative strength' as is highlighted in the instances above where the slopes of the (light blue/cyan) trendlines are sloping UP and the RSI peaks are trending DOWN. This type divergence is however, NOT going to signal you as to precisely when a trend reversal might occur. It is rather a broad backdrop to be ALERT for a trend reversal. The way to focus in on that possibility is with the intermediate to short-term daily and hourly charts:

A picture perfect example of a not only a double top, but a classic Price/RSI divergence, was seen recently on the HOURLY Dow chart below. It couldn't be predicted that the resulting pullback would turn out to be as deep as it was but, on the other hand, major Price/RSI divergences on a weekly chart basis often do see BIG corrections follow.

The important thing from a trading standpoint is that as soon as the double top was apparent on the hourly chart, DJX puts could have bought with an exiting stop very CLOSE to the entry point so that trade 'risk' was small. Assuming that the downside was triple that of that risk was almost a conservative assumption. If a subsequent drop was steep, great for the trade and time to look for areas of support as a profit taking point. I at least tend to work that way, with pre-determined exit points, as I don't tend toward being more of a 'trend follower', at least in options. A 'natural' area of INDU support is at or approaching the prior lows in the 13,300 to 13,400 area.

LAYERS OF SUPPORT:

Assuming we get a correction like we're seeing this week, what are the layers of potential support on the downside, on the decline, to look for on a technical basis? Tracking LEVELS of support is important for two reasons: 1.) Where might support develop? and 2.) What is the next downside objective(s) or target support(s) below the technical support just pierced?

1. A PRIOR HIGH
A prior high that was pierced on a rally, especially if that was a line of 2-3 or more prior highs in the same area, should 'become' support on subsequent pullbacks IF the last breakout was valid; i.e., a new up leg or continuation of the dominant trend.

2. AT THE 21-DAY MOVING AVERAGE
This is true of the major INDEXES on a trading basis, not necessarily for stocks. The S&P and Dow in particular tend to hold above the 21-day average in an uptrend or find support on pullbacks in a still valid uptrend. If the 21-day average is pierced, especially if prices knife through this average, look for further weakness or a move to the next lower potential support.

3. AT A PRIOR DOWNSWING LOW(S)
This is especially the case if there were 2-3 or more prior lows in the same area; i.e., there's a retreat to the low end of a prior trading range. This is pretty basic stuff in trading. Everyone looks to see what happens at such prior lows. What the smarter and more successful traders do often however, is to NOT WAIT to see if buyers will win out and prices rebound from, such a prior low or lows. But again this is also a function of the style of trading that you adopt; e.g., more short-term oriented, trading for more intermediate-term prices swings, etc.

In the case of the S&P 100 (OEX), the bulls should have been concerned about the trend once the prior 707 high didn't hold up as new support on the pullback. Normally, traders shorting OEX at the high end of the 707-685 range and who exited shorts by buying (or those buying more on the breakout), would assume that the 707 area was a place to buy again for a next move higher, such as to 730. When that didn't happen and when that same level was AGAIN resistance the next day, we could guess that the Index might again head back to the low end of the prior range. The 685 area today looked like a good place to exit puts short-term. Especially so, when bearish sentiment built up so quickly per my 'CPRATIO' indicator!

4. (SUPPORT AT) THE LOW END OF AN UPTREND CHANNEL

If the upper end of an uptrend channel may prove to be resistance, the reverse is also true: the low end of an uptrend channel will often be where support or buying interest surfaces. If this doesn't happen, look for the next lower support point.

5. AT 3 PERCENT BELOW THE 21-DAY AVG IN THE S&P, DOW AND THE NASDAQ

The S&P and Dow more often than not, tends to trade between 3 to 3.5 percent above, and 3-3.5% below, its 21-day moving average. This same moving average envelope range can widen out a bit more in the Nasdaq; e.g., 3-3.5% to 4% above and below the average.

The upper end of the Nasdaq Composite's (COMP) price range proved to be resistance on the last run up. Support was NOT seen at the 21-day moving average, NOR at the low end of the uptrend channel; i.e., at COMP's up trendline. However, support or buying interest surfaced as the Index neared support implied by it prior low. That this was a good bet for support was also suggested by the lower envelope line, which was equal to 3 percent (below the 21-day centered moving average), the same as the 3 percent envelope line near COMP's recent highs.

The low end of the Nasdaq 100's (NDX) uptrend channel proved to exactly mark the turning point of today's decline as seen with the daily NDX chart and my channel markings below. Note that the upper channel line was pierced on the recent rally, but only for a day. The fact that the Index retreated to below the upper channel line the following day was a telling indication that the trend might start to weaken.


GOOD TRADING SUCCESS!

** E-MAIL QUESTIONS/COMMENTS **
Please send any technical and Index-related questions for my answer or feedback to Click here to email Leigh Stevens support@optioninvestor.com with my name ('Leigh Stevens') in the Subject line.
 

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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