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Daily Newsletter, Monday, 07/30/2007

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Table of Contents

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

  4. Market Wrap

    Majors Stabilize as Financials Get a Bounce

    Stocks recouped some of Friday's losses to start the week, where after last Wednesday's delay for a $12 billion offering of bonds for Chrysler's financial division, financials stabilized and were atop today's list of sector winners.

    But credit markets at the corporate level remain soft, and it still looks to me that bids are hard to find.

    In recent week's I've noted how various companies have been canceling bond offerings due to "market conditions," and the cold response to Chrysler's deal certainly appeared to have equity bulls pulling there bids as the S&P 500 (SPX.X) suffered its largest weekly decline in more than five years last week.

    U.S. Market Watch - 7/30/07 Close

    The "junk bond" Pacholder High Yield (PHF) $9.35 -1.57% was atop today's list of losers, thus the observation that credit markets remain soft, with few traders or investors willing to do more that dip a big toe in the water.

    Tonight, I provide some focus on the Chrysler deal, and the "junk bond" PHF as it was a key observation on July 19th that I thought traders and investors should be alert to.

    7/19/07 Market Monitor - OptionInvestor.com

    I haven't written a Market Wrap since July 16th, so I want to bring you up to speed on my (Jeff Bailey's) observation(s) of what has roiled the equity markets, starting on Thursday, July 19th.

    If I could summarize in just a sentence, it would be what has taken place in the credit markets, that has spooked equity bulls.

    Even a "junk bond" holder, or bond trader/investor that holds what the bond market would consider "high risk" paper, is a creditor. That is, the holder of the "junk bond" would stand to recoup some portion, if not all of his/her money even if the company were to go bankrupt.

    As "risky" as a junk bond may be, it is still "safer" than corporate stock, as the creditors are in front of stockholders should liquidation occur.

    With that in mind, it then becomes apparent that a "sharp decline" in a closed-end junk bond fund like Pacholder High Yield (PHF) in our U.S. Market Watch gets some attention.

    Pacholder High Yield (PHF) - Daily Intervals

    I did not, or would I have screamed "the sky is falling, the sky is falling" on July 19th, but I quickly became alert to weakness in the riskiest-end of the bond market.

    Those that have followed my commentary in the Market Monitor know that I've been monitoring the Net Asset Value (NAV) of PHF at the end of each week, when this closed-end fund tabulates the value of its bond holdings each Thursday.

    Even at tonight's close and the further sharp decline I'm not screaming "the sky is falling, the sky is falling," but I do think equity traders and investors need to have a grasp that WEAKNESS in the CREDIT markets does NOT bode well for the equity markets should it persist.

    The "pulling of deals" in the bond market is really no different than a company that is slated for an Initial Public Offering (IPO) of its stock, where the company decides to delay the IPO due to "market conditions."

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    We usually see a company delay its IPO debut do to "market conditions" when the equity markets have been under notable selling pressure, and the "appetite" for stock has been weak.

    Say what you will about Chrysler and its future, but when they can't float a bond offering to debt market participants, what does that say about the eventual appetite for STOCKS, which in essence, stand below bond holders when we assess RISK?

    Here's a table of major global equity markets and currencies that I've shown here in Market Wraps.

    Did the RUT.X, a broader and smaller cap index lead a decline in the U.S.? Even though Chrysler would not be considered "small" could the lack of appetite for their bonds, due to a roiled credit market be impacting equities?

    Global Equity Benchmarks / Currencies

    In "yellow" are the major U.S. equity benchmarks, and if it weren't for the RUT.X's 7.66% decline since our last visit on July 16th (1.51% 6.15% = 7.66%), I could perhaps disregard the weakness in our "junk bond" indicator and the struggle with the Chrysler bond offering.

    However, institutional market participants don't!

    Right, or wrong, when the corporate credit markets are weak, that weakness then tends to turn toward equities.

    It becomes somewhat of a "domino effect." Logic become "if the credit market sees risk, then the next domino is the EQUITY market."

    Remember, as U.S. asset classes are viewed, Treasuries are deemed "safest" as they are backed by the full faith and credit of the U.S. Government. Corporate bonds carry various "ratings," but corporate bonds are backed by the full faith and credit of the company. "Junk bonds" are viewed as the RISKIEST of corporate debt.

    From there, the next higher level of risk become EQUITY, or stock of a company.

    The thought process is that there are SOME companies that will "rely" or need a stabile bond market in order to sell some debt.
    Once debt is sold in the form of a bond, a company can utilize that cash to either pay down higher yielding debt, or perhaps fund an expansion of a facility.

    So here is the most recent Net Asset Value's (NAV) of the Pacholder High Yield (PHF) fund.

    Pacholder High Yield - Historical Net Asset Values

    A rather sharp decline is now viewed in PHF's net asset value from 7/19/07 tabulation to 7/26/07. NAV is the actual value of those securities held by the fund.

    The "Stock Price" is what value market participants like you and I placed on the fund (considering its attractive higher yield) at the close of each date's trade.

    There are MANY closed-end funds that trade at premiums, or discounts to a fund's actual NAV.

    Now, I will say this. At each night's close, you and I really don't know what the NAV of PHF is. The NAV is based on the prices of the fund's securities.

    But we can at least see how "soft" the higher-risk end, or the junk bond portion of the credit markets are.

    I will also say this. I've owned shares of PHF at times, and I've followed this fund for more than 10-years. I did not place it in my U.S. Market Watch because the fund hadn't proved itself as one of the more worthy closed-end junk bond funds available.

    With that said, its recent weakness at a MINIMUM is a signal to me that there's continued weakness in the corporate credit markets, and we should be cognizant of that when looking at equity markets.

    Assuming PHF's net asset value is still $9.57, then at tonight's close of $9.35, this closed-end junk bond fund would trade at a 2.29% DISCOUNT to net asset value.

    At a closing price of $9.35, its SEC yield (based on $0.075/month dividend) would be 9.625%.

    Russell 2000 Index (RUT.X) - Daily Intervals

    Some index traders attempt to sell short, or put the STRONGEST index instead of selling short, or putting the WEAKEST index, even when the strongest index is breaking out to the upside. The "hope" is that the WEAKEST index will eventually "pull" the strongest indexes back lower.

    I like to sell/put the WEAKEST index first! When/if weakness does come per the scenario, the WEAKEST usually leads the decline.

    Some bulls like to BUY the WEAKEST index, hoping the STRONGEST index pulls higher and brings in SHORT covering for a much "bigger" bounce.

    If we were to see the RUT.X begin to LEAD a near-term advance, I would have to analyze such an advance as SHORT covering.

    Short covering advances after a BREAK DOWN like we've seen in the RUT.X is usually short-lived, and when the shorts stop covering and the bulls continue to LIQUIDATE, all eyes turn to the recent LOW and begin wondering where the next support level is at.

    Watch those "junk bonds!" If they "firm" then perhaps the RUT's next downside LEVEL of risk is 763.85. Sell small caps on a rally.

    Now look at a point and figure chart (supply= O / demand= X) of the Russell 2000 ($RUT) from StockCharts.com.

    Russell 2000 Index ($RUT) - 4-point box

    Today's lows for the $RUT was 770.59. Since the point and figure chart was "in a column of O" we would only chart further supply down to 772. The "blue ?" is simply a way that I like to see where the $RUT would have traded to its close.

    Market internals are VERY WEAK for the broader indexes like the NYSE Composite ($NYA.X) and NASDAQ Composite ($COMPX) and the Russell 2000 is comprised of both NYSE and NASDAQ-listed stocks.

    An "oversold bounce" is due, but this is the index I think will be of FOCUS to bears, and an index that BULLS still long will want out of.

    Now, the S&P 500 ($SPX.X) is the second-weakest index and there have been some major changes here.

    Bear Confirmed!

    While the NYSE Bullish % (BPNYA) from DorseyWright & Associates is the major market bullish % that institutional investors and traders will monitor, the broad S&P 500 Bullish % (BPSPX) is also a widely followed bullish %.

    On July 24th, Dorsey/Wright's S&P 500 Bullish % (BPSPX) reversed lower to "bear alert" status (falling from above 70% to below 70%) and on July 25th, this closely monitored bullish % achieved "bear confirmed" status.

    In a few words, THE DEFENSIVE TEAM should be on the playing field.

    In Friday evening's Market Monitor at Option Investor, I began laying out what I think traders and investors should be looking for.

    07/27/07 Market Monitor -

    There were many notes and observations that I began "walking through" in Friday evening's Market Monitor at OptionInvestor.com. One reason I wanted to spend some time in the Market Monitor late on a Friday evening was so that I could test my analysis today!

    As you read the above post, here is the "link" of the widely followed S&P 500 Bullish % (BPSPX) as this is the foundation of how RISK and WEAKNESS/STRENGTH of a market is established.

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

    The above BPSPX snapshot was taken at Friday's close. Today's action (Monday) was some further weakness with an additional decline of 0.81% (so net loss of 4 stocks' chart seeing reversing lower point and figure sell signals) to 53.02%.

    However, when you read my Market Monitor postings, the key point is that we are looking for a recent point in time that would depict CURRENT levels of RISK and internals strength/weakness.

    From there, we look for SIMILARITY, but more importantly, DIVERGENCE to the past.

    07/27/07 Market Monitor -

    Today (Monday) I think we see SIMILARITY to May of 2006.

    S&P 500 Index (SPX) - 10-point chart

    With the exception of the "blue ?," this is what we had to look at Friday evening for the S&P 500 Index (SPX).

    Now, today's low was 1,454.32. Did the SPX trade 1,450?

    Answer is No!

    Since we didn't chart an "O," when then ask, "did the SPX see a 3-box reversal back higher to 1,490?"

    Again, the answer is "No!" So, from an institutional trader/investor's perspective, there was NO MEANINGUL price action.

    But remember! If history were to repeat itself, and RISK is the same as that found in late May of 2006, what MIGHT we look for from the SPX?

    I'm thinking a bounce back to around 1,506, or 1,500 on the above chart.

    Now what is the WEAKER market relative to the SPX?

    Hopefully you've answered RUT.X.

    What do you think LONG bulls might do with the SPX should it get a bounce back near 1,500-1,506?

    Watch the RUT.X and find out.

    All I'm doing here is "turning" the tables. In the June 9th Market Wrap I alerted traders to pending strength in the NARROWER INDU and noted the resumption of strength in the NASDAQ-100 Bullish % (BPNDX).

    Now we're focusing on the BROADENING WEAKNESS and looking more bearish.

    I should note that all major market bullish %, except the narrower NASDAQ-100 (BPNDX) from Dorsey/Wright are in a "bear phase" at tonight's writing.

    The NASDAQ-100 Bullish % (BPNDX) has fallen to 70% from a recent high measure of 78%. It would take a measure of 68% to achieve "bear alert" status, and a weaker 66% to achieve "bear confirmed" status.
     


    New Plays

    New Option Plays

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

    New Calls

    None today.
     

    New Puts

    None today.
     

    New Strangles

    None today.
     


    Play Updates

    In Play Updates and Reviews

    Call Updates

    Allegheny Tech - ATI - cls: 106.81 change: 4.40 stop: 98.49

    Hmm... it looks like we were not the only ones eyeing the dip in ATI. Unfortunately, we were expecting another dip this morning but traders jumped in at the open and ATI rose 4.2%. Currently our plan is to buy a dip into the $100.50-100.00 range, just above round-number support at $100 and technical support at the 200-dma. We're going to stick with the plan for now but nimble traders may want to watch for a failed rally near $110 as a short-term bearish entry point for a ride down toward $100. If triggered at $100.50 our target is the $107.50-110.00 range.

    Picked on July xx at $ xx.xx <-- see TRIGGER
    Change since picked: 0.00
    Earnings Date 10/25/07 (unconfirmed)
    Average Daily Volume = 2.0 million

    ---

    Celgene - CELG - cls: 61.75 change: 0.62 stop: 57.49

    CELG is still inching higher and continues to look bullish above $60-61. Readers can choose to buy calls now or wait for a potential dip back toward the $60 level should the markets reverse lower again. Our target is the $66.50-67.00 range. As predicted the move over $61.00 has produced a new Point & figure chart buy signal with a $73 target.

    Picked on July 27 at $ 61.25
    Change since picked: 0.50
    Earnings Date 07/26/07 (confirmed)
    Average Daily Volume = 4.1 million

    ---

    Diamond Offshore - DO - cls: 102.88 chg: -0.39 stop: 99.75

    Monday produced a close call in our bullish DO play. The OSX oil services index continued to dip and the sector slipped toward its rising 50-dma before bouncing. In similar fashion shares of DO dipped toward its rising 50-dma before rebounding. The intraday low was $99.87. We recently adjusted our stop loss to $99.75 so the play is still open. The midday rebound near $100 looks like a new entry point to buy calls on DO. We're suggesting 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: We are expecting this to be a two or three week play since we plan to exit oil-related stocks when crude eventually corrects.

    Picked on July 26 at $106.36
    Change since picked: - 3.48
    Earnings Date 07/26/07 (confirmed)
    Average Daily Volume = 2.6 million

    ---

    Goldman Sachs - GS - cls: 195.74 change: 3.09 stop: 188.49

    The financial stocks managed to bounce after a rough week last week. The broker-dealers seemed to lag behind the banks but GS still produced a 1.6% gain. This remains a very speculative, higher-risk play in our book but GS looks very oversold and due for a correction higher. The rebound from support near $190 is our aggressive entry point. The 200-dma, near $208, should now be overhead resistance. Our target is the $205-208 range. FYI: The P&F chart is incredibly bearish with a $144 target.

    Picked on July 26 at $195.12
    Change since picked: 0.62
    Earnings Date 09/12/07 (unconfirmed)
    Average Daily Volume = 6.9 million

    ---

    Lam Research - LRCX - cls: 57.74 chg: 0.87 stop: 54.45

    As expected the semiconductor stocks bounced on Monday. Yet we were expecting more weakness this morning before any bounce. LRCX failed to dip toward $56.00 but that doesn't mean we may not get another chance soon. A dip into the $56-55 region would look like a new bullish entry point. We're suggesting readers use $56.10-55.00 as an entry zone to buy calls. We will set our initial stop loss at $54.45. We'll have two targets. Our conservative target is the $59.75-60.00 range. Our aggressive target is the $63.75-65.00 range. The P&F chart points to a $81 target.

    Picked on July xx at $ xx.xx <-- see TRIGGER
    Change since picked: 0.00
    Earnings Date 08/24/07 (confirmed)
    Average Daily Volume = 2.9 million

    ---

    PACCAR - PCAR - cls: 84.24 change: 3.08 stop: 79.45

    We are finally seeing investors buy the dip in PCAR. The stock rose 3.79% on strong volume today. We do not see any changes from our weekend comments. 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.

    Picked on July 26 at $ 82.87
    Change since picked: 1.37
    Earnings Date 07/24/07 (confirmed)
    Average Daily Volume = 1.8 million

    ---

    Penn National Gaming - PENN - cls: 57.80 chg: -0.09 stop: n/a

    PENN continues to languish as the market worries the current acquisition deal won't close due to rising capital costs. PENN should be down to its last few days before the 45-day window to solicit another bidder expires. We're not suggesting new positions at this time.

    Picked on June 17 at $ 62.12
    Change since picked: - 4.32
    Earnings Date 07/26/07 (unconfirmed)
    Average Daily Volume = 1.0 million

    ---

    Sears Holding - SHLD - cls: 139.04 chg: 2.84 stop: 127.49

    SHLD bounced earlier than expected. An upgrade for Nordstrom (JWN) this morning helped lift the retail stocks. Our plan still stands. SHLD has some support near $135 but it has stronger support near $130. We are suggesting that readers buy calls on a dip into the $133.00-130.00 zone, which is where we expect it will bounce. If triggered we'll target a rebound into the $139.50-140.00 range. More aggressive traders could aim higher. Bear in mind that we don't want to hold over the mid August earnings report.

    Picked on July xx at $ xx.xx <-- see TRIGGER
    Change since picked: 0.00
    Earnings Date 08/16/07 (unconfirmed)
    Average Daily Volume = 1.7 million

    ---

    Terex - TEX - cls: 89.28 change: 6.13 stop: 79.49

    Target achieved. TEX soared 7.3% today and hit an intraday high of $90.79. Our first target was the $89.50-90.00 range. Fueling the move was Ingersoll-Rand's sale of its Bobcat unit, sparking speculation in TEX. Plus, Goldman Sachs issued some positive comments and raised their price target on TEX today. We're not suggesting new positions at this time. Our second target is the $94.00-95.00 range.

    Picked on July 26 at $ 83.87
    Change since picked: 5.41
    Earnings Date 07/25/07 (confirmed)
    Average Daily Volume = 1.1 million
     

    Put Updates

    Baker Hughes - BHI - cls: 79.22 change: -0.21 stop: 84.15

    Oil service stocks continued to under perform on Monday. BHI slipped 0.2% but did manage a bounce from its rising 100-dma. We are long-term bullish on the energy and oil service stocks but short-term the trend and technicals look bearish for BHI. If the stock does bounce look for a failed rally under the 10-dma as an entry point. We would still consider new positions here. Our target is the $75.25-74.00 range. The 200-dma near $74 is probably support.

    Picked on July 29 at $ 79.43
    Change since picked: - 0.21
    Earnings Date 07/27/07 (unconfirmed)
    Average Daily Volume = 4.6 million

    ---

    Harley Davidson - HOG - cls: 57.15 change: 0.75 stop: 60.26

    Warning! HOG has produced a bullish reversal today. The rebound from its intraday low near $55.71 has created a bullish engulfing candlestick pattern. Now normally these patterns need some confirmation but this doesn't look good for the bears. We are not suggesting new positions and more conservative traders may want to tighten their stops. 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: - 0.60
    Earnings Date 07/27/07 (unconfirmed)
    Average Daily Volume = million

    ---

    Lubrizol - LZ - cls: 62.83 change: 1.21 stop: 65.26

    The market's rebound inspired a 1.9% bounce in LZ. The stock should have overhead resistance in the $63.50-65.00 zone so watch for a failed rally there as a new entry point; although we'd still consider new put positions here. Our target is the $57.00-55.00 range. $57.00 is near the top of the April gap and $55.00 is near technical support at its 200-dma. FYI: The $66.03 intraday high on Friday looks like a bad tick.

    Picked on July 29 at $ 61.62
    Change since picked: 1.21
    Earnings Date 07/27/07 (confirmed)
    Average Daily Volume = 563 thousand

    ---

    Southern Copper - PCU - cls: 111.99 chg: 2.95 stop: 113.55

    No weakness here! PCU failed to see any follow through lower today. The stock rebounded near $107.50 and closed back above the $110 level. This doesn't look good for the bears. Even though PCU looks a bit overbought and due for a correction there was some news out today that may have influenced the stock price. PCU said one of its projects in Peru might be able to more than double its planned copper production to 90,000 tons. We would wait for a new decline under $109 before considering new put positions. Odds are very good that if the markets continue higher tomorrow that PCU will stop us out at $113.55. As we said over the weekend, we're really bullish on PCU but we want to buy a dip near $100 and its rising 50-dma.

    Picked on July 29 at $109.04
    Change since picked: 2.95
    Earnings Date 08/02/07 (unconfirmed)
    Average Daily Volume = 2.0 million

    ---

    Ryanair Holdings - RYAAY - cls: 36.70 change: 0.49 stop: 40.15

    Airline stocks were generally down today but RYAAY displayed relative strength with a 1.3% rebound. We are not suggesting new positions at this time. Our target is the $35.05-34.00 range, which is near the November 2006 gap. The P&F chart is already bearish and its target has moved from $26 to $22 this past week.

    Picked on July 22 at $ 38.13
    Change since picked: - 1.43
    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.)

    ---

    Advanced Micro - AMD - cls: 13.79 chg: -0.08 stop: n/a

    AMD is still trending lower and the stock looks poised to sink again tomorrow. 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: - 0.78
    Earnings Date 07/19/07 (confirmed)
    Average Daily Volume = 26.1 million

    ---

    DaimlerChrysler - DCX - cls: 89.79 chg: 1.22 stop: n/a

    We want to urge caution here. This back and forward (a.k.a. sideways chop) in shares of DCX is deadly to a neutral strategy like our strangle. We need the stock to pick a direction and move. The lack of reaction to the recent preliminary earnings numbers is enough of a reason to abandon this play early. August options expire in three weeks. 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: 0.04
    Earnings Date 07/25/07 (unconfirmed)
    Average Daily Volume = 1.3 million

    ---

    Lexmark - LXK - cls: 40.43 change: -1.36 stop: n/a

    Shares of LXK continued to plunge. The stock lost 3.2% on heavy volume and closed near round-number support near $40.00. Shares do look oversold here and due for a bounce. More conservative traders may want to think about an early exit now to lock in a small profit. 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. The August $40 put (LXK-TU) is trading at $1.05bid/$1.15ask.

    Picked on July 22 at $ 45.43
    Change since picked: - 5.00
    Earnings Date 07/24/07 (confirmed)
    Average Daily Volume = 1.9 million
     

    Dropped Calls

    None
     

    Dropped Puts

    None
     

    Dropped Strangles

    None
     

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

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