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Daily Newsletter, Tuesday, 09/04/2007

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Table of Contents

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

Market Wrap

Bullishness Breaking Out All Over

Many traders came back to work today but volume was still light. The volume we did have was bullish and market sentiment was improving almost hourly. Resistance levels were breaking and volatility deflating but remember it was still on light volume. Fund manager sentiment rose to 65% thinking the bottom was behind us compared to only 55% two weeks ago. Is it time to break out the champagne and party hats?

Dow Chart - Daily

Nasdaq Chart - Daily

The morning economics started off with the Institute of Supply Management (ISM) report and although it fell for the second consecutive month it was still positive at 52.9 and the lowest level since March. This was slightly less than expected and only about a point below the July level at 53.8. Anything over 50 indicates an expanding economy. The drop in the ISM is one more reason the Fed should consider a rate cut on Sept-18th. Nearly all the components fell 1-2 points but nothing to indicate an accelerating decline. New orders fell to 55.3 from 57.5 but still well into positive territory. The weakest forward-looking component was order backlogs, which fell to 50.5 and just over contraction territory. Supplier deliveries slipped back to 50 and about where they have been trending for the last six months.

Construction spending fell -0.4% in July and posted the first decline in spending in six months. The drop was led by a -1.4% decline in residential construction. The consensus was for a minor +0.1% gain in spending overall. This report was ignored due to its trailing nature and a drop in residential construction was definitely no surprise. However, the sudden drop in spending is one more reason the Fed should cut rates.

Auto sales for August turned in a surprise with GM posting a +5.3% jump in sales compared to estimates for a drop in sales of -4.9%. GM managed this reversal of fortunes with a +14% spike in truck sales. GM saw the massive amount of money Toyota was spending to market their Tundra pickup and GM rushed to increase the incentives for the Chevrolet and GMC pickup models. Apparently it worked very well and kept them from taking a beating. Ford was not as proactive and sales fell -14% in August. Chrysler posted a sales loss of -6.1% and amazingly Toyota also posted a loss of -2.8% despite their guidance to become number one in sales by 2010.

The rest of the week will be dominated by employment reports with the Fed Beige book another highlight on Wednesday. The employment reports are going to be key for the Fed since they may show the impact of the credit crunch on the labor market. The Challenger report on Wednesday will be our first look followed by the Monster Employment Index on Thursday and the Bureau of Labor Statistics NonFarm Payrolls on Friday. In an interesting move today Merrill and UBS cut the employment search firms including MNST, KFY, HSII, MAN and FCN. Their reasoning was a sudden drop in employment activity and massive layoffs already announced and to come in the financial sector. Employment in the credit trading and structured products business is expected to drop substantially. In New York alone employment six months ago stood near their post 9/11 highs. With structured products almost at a standstill and merger and acquisition activity also greatly reduced there is a strong possibility there will be some additional layoffs ahead. How much this has impacted the Friday payroll report is a key economic the Fed will be watching.

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The Fed and bank regulators sent mortgage banks a message this morning saying examine all delinquent loans and do everything they can to "preserve home ownership" rather than foreclose everybody. With the banks already under the gun with rising defaults they will be mixed about keeping a lot of those loans on the books as under performing. The urge to refinance people who are already underwater is slowing since that means increasing the amount of debt on the books to borrowers that have already proved they can't make the payments. Someone said it appeared the Fed was encouraging banks to loan irresponsibly and this move was only going to prolong the problem. The Federal Home Loan Bank (FHLB) system reported an unprecedented surge in mortgage borrowings by more than $110 billion in August. That is more than the FHLB normally lends in a full year. These are advances given to its 8,100 member banks to fund loans. This allows banks to continue to fund and originate loans until they can sell them into the secondary market.

Apple will announce some big changes to the iPod on Wednesday and the rumors are rampant as to what those changes will be. It is a pretty good guess that the screen will get bigger along with the onboard storage. There are quite a few analysts that think the new iPod will look like the current iPhone with the new screen technology and functionality. Some feel the iPod will morph into an iPhone without the phone. Others think the new iPod will have WiFi capability that will allow the download of songs from any hotspot. Other announcement rumors include adding the Beatles library to iTunes. This has been a persistent rumor for the last 18 months or so. Piper Jaffray is bullish on the stock saying they could announce record sales of more than two million Mac's for the quarter. That is an astounding number considering the slow pace of growth in the conventional PC market. AAPL gained +5.68 in anticipation of the announcement.

Home Depot lost $2 after announcing it had completed its $10.7 billion tender offer for 289 million shares at $37. That represents nearly a -15% of HD stock. Late in the afternoon S&P announced they were going to reduce HD's weight in the S&P at the close and that caused selling in HD and buying in the S&P to bring portfolios back into balance.

CCrude Oil Chart - Daily

Oil prices rose again despite hurricane Felix turning west and making landfall in Nicaragua and losing strength. It is no longer even a remote danger to the Gulf oil patch. The reason oil prices soared was due to problems in gasoline refining and the appearance of a new low pressure area forming off the coast of Bermuda. Cyclonic trends were being observed and analysts felt this could turn into a tropical storm very quickly. Until it forms there is no track projection but coming westward between Florida and Cuba is always a challenge for the oil patch. To add to the hurricane hysteria the hurricane forecasters updated their expectations for the rest of the season and actually raised their estimates for activity. With two hurricanes and one tropical depression currently in progress their upgraded forecast carried a little more weight and traders reacted quickly.

Gasoline led the surge in crude with a spike to just over $2 intraday. Refinery problems continue to plague the sector with nearly one million barrels of daily capacity offline. Chevron said the Pascagoula Mississippi refinery capacity knocked out by a fire several weeks ago will not be back online for 3-4 months, contrary to earlier reports last week. Shell's Port Arthur TX plant lost its cat cracker and until that is fixed it represents a serious shortage of gasoline capacity from that location. Exxon has the same problem at its Charlotte LA refinery. Conoco's Phillips Lake refinery is down and Total's Port Arthur refinery is also crippled. I don't think terrorists could cause as much damage as we have seen occur over the last two weeks. Fortunately the driving season is over and gasoline demand is set to drop sharply. This week's inventory report, on Thursday due to the holiday, will be of special interest once again. However this perfect storm of refinery outages and weekly hurricanes will eventually run their course and we should see crude prices fall even more quickly than they rose.

Advisory firm Dorsey Wright said today that the market was giving the best buy signal since Oct-2002. The spokesman said 70% of the S&P had moved into seriously oversold territory during the crash and 50% had now rebounded into accumulation mode. Their bullish percentage indicator on the NYSE was now showing a buy signal that has only occurred 20 times since 1955. Dorsey Wright has a pretty good record for accuracy but as the spokesman cautioned that does not prevent another retest or weakness in individual issues. It is strictly a market call based on the reversal of the bullish percent indicator. That indicator takes the number of stocks on the NYSE that are currently giving buy signals and subtracts those still giving sell signals to arrive at the overall market signal. If there were 2000 stocks and 1000 were giving buy signals the bullish percent indicator would be at 50%. Their buy signal occurs when this bullish percent indicator reverses from oversold levels and back into accumulation mode. The Bullish Percent (BPI) had rebounded to near 50% today from a low near 30% during the recent downdraft. There are 950 stocks on the NYSE giving buy signals out of the 1944 currently tracked for the BPI. (48.8%))

Will it be a September to remember or full speed ahead? September has historically been the worst month for the markets. That trend has been slowly changing in this decade and hopefully that trend will continue. Starting in 2001 the S&P lost -8% in September. The years that followed saw a new trend appear. 2002 saw losses of -11% and 2003 -1.3% but 2004 saw fractional gains of +0.1%, 2005 +0.6% and 2006 +2.5%. Is this trend going to continue or will the old trend reassert itself? Obviously nobody knows but more and more analysts are beginning to bet on market gains this September. The Fed should be acting in favor of the market but we won't know for sure until 9/18. About the only factor that may work against us would be the liquidations in hedge funds. Reportedly there are still quite a few funds that have pending redemptions due by Sept-30th. According to TrimTabs hedge funds had redemptions of more than $55 billion in July. Since there is a 30-45 day window for redemptions those redemption requests came in May/June and right at the beginning of the subprime problem. TrimTabs estimates there were even larger redemption requests in July/Aug that will not be disclosed until the end of September. That could produce at least some drag on the market and at worst a return to heightened volatility.

When the hedge funds were hit with these massive redemptions they had no choice but to sell anything liquid. Secondarily the prime brokerages for these funds were getting hit with collateral valuation problems and they told funds to deleverage ASAP because their collateral value was crashing. This produced even more selling. I believe this problem has passed and funds have completed most of their portfolio adjustments. There is also the coming earnings cycle and earnings estimates are beginning to fall sharply, primarily on financials. This could cause some individual weakness as the current downgrade cycle hits each stock. Earnings expectations had risen after the strong first half results but those estimates are beginning to recede. Personally I believe any future dip will be a buying opportunity rather than a cause for alarm. TrimTabs was on CNBC again today saying that the insider buyback trend is accelerating with 6 of the last 10 days showing more insiders buying than selling. Since sellers are normally 10:1 over buyers that is a positive trend. TrimTabs also said there were at least six new buyback announcements on each of the last 28 trading days. New stock buyback announcements in August totaled $77.4 billion and the highest month in TrimTabs records. This is definitely bullish but only if companies follow through on their announcements.

I feel the worst is over for the markets but everyone may not share that view. The Dow was up +135 at 3:30 but a strong sell program appeared to knock off -45 points right before the close and the selling carried over into the future markets after the cash close. That was the third consecutive day that sellers appeared at 30 min before the close. Furthermore as we near the employment reports later this week and the BSC/LEH earnings on the 13th there could be some challenges.

The Dow punched through another resistance level at 13381 (100-day average) and took aim at much stronger resistance well above at 13700. That will be a crucial test of any September rally since we could easily test it before the LEH/BSC earnings and Fed meeting. It would be the perfect place to rest while waiting on the Fed.

TThe Nasdaq hit that same resistance level relative to the Dow when it hit 2635 today. Since it is running ahead of the Dow it will be critical to watch for a break of that resistance. The Nasdaq lost -15 points in the closing sell off.

The S&P is the laggard of the big three with its rebound to 1490. That 1490 resistance level is the critical level for the S&P for tomorrow. That 1490 level was within a point or two of the intraday support back on 5/10, 6/7, 6/12, 6/26 and that makes it critical resistance as we move back towards the upside. If we move back over 1490 and hold it the bulls would be in control again. If we fail here the bears would come back in force on yet another failed rally. That 1490 level will be important this week but the really critical level will be 1535. That was at or near the resistance highs set back on 5/23, 6/04, 6/15 and 7/09. Just like the four intraday lows set the overhead resistance for this week the four intraday highs will become critical resistance should we break 1490 this week.

S&P-500 Chart - Daily

Russell-2000 Chart - Daily

The Russell 2000 broke 800 to the upside intraday just like the S&P and 1490. The closing sell off pushed both back to their respective levels overnight. I was all set to pound the table for buying the rally when 800 broke to the upside at 2:15 but reverted back to cautious when it collapsed at the close. The Russell futures fell an additional -2 points after the close indicating additional weakness. I am still planning on being bullish over Russell 800 and I think that could happen tomorrow. I actually wanted to revert to a buy the dip scenario on the Russell but I am not confident enough to pick a number tonight. This is September and we need to err on the side of caution rather than be blindly bullish. Continue to maintain a long bias over 800 and a short bias under 790 but cherry picking good stocks leading the charge also remains an option.
 


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

Amazon.com - AMZN - close: 82.70 change: +2.79 stop: 77.45

AMZN continued to rally and broke through resistance at the $80.00 mark pretty early this morning. Our trigger to buy calls was at $80.85 so the play is now open. If you don't want to chase it here then look for a dip back toward the $81.50-80.00 zone as a potential entry point. Our target is the $88.00-89.00 range. The P&F chart is very bullish with a $99 target.

Picked on September 04 at $ 80.85
Change since picked: + 1.85
Earnings Date 10/23/07 (unconfirmed)
Average Daily Volume = 9.5 million

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CanadianPacific Rail - CP - cls: 69.93 chg: -0.55 stop: 66.75

Railroad stocks as a group finished higher today. The DJUSRR railroad index rose 1.5%. CP failed to participate. The stock under performed with a 0.7% decline and a final close under the $70.00 mark, which is short-term bearish. What makes this more surprising is that CP announced what appeared to be good news with a five-year contract settlement with the Teamsters in Canada. If CP continues to dip we'd look for short-term support near the 10-dma around $68.50. A bounce near $68.50 could be used as a new entry point. Another alternative entry point would be a rise past today's high at $70.74. Our target initial target is the $74.75-75.00 range. We do have a wide, aggressive stop due to the stock's recent volatility. If CP tries to fill the gap from Friday morning look for a dip back toward $67.75.

Picked on September 02 at $ 70.48
Change since picked: - 0.55
Earnings Date 10/30/07 (unconfirmed)
Average Daily Volume = 595 thousand

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Ceradyne - CRDN - cls: 73.32 change: +1.04 stop: 68.49

CRDN also continued its rally and shares posted a 1.4% gain. The stock's next challenge is getting past the 50-dma near 74.45 directly overhead. Should CRDN see any profit taking look for a dip back toward the $71.25-70.00 zone as a potential entry point. Our target is the $78.00-80.00 range.

Picked on September 02 at $ 72.27
Change since picked: + 1.04
Earnings Date 11/01/07 (unconfirmed)
Average Daily Volume = 714 thousand

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Eaton Corp. - ETN - cls: 94.64 change: +0.42 stop: 91.99

ETN tried to breakout over resistance near $95.00 and its 50-dma and did so on an intraday basis but failed to hold most of its gains. The intraday high was $95.16. We are suggesting a trigger to buy calls at $95.25. If triggered we will have two targets. Our first target is the $99.75-100.00 range. Our second target is the $103.50-104.00 zone. Aggressive traders may want to put their stop loss under support near $90.00. More conservative traders could put their stop closer toward what should be technical support at the 10-dma around $92.50.

Picked on September xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/16/07 (unconfirmed)
Average Daily Volume = 1.3 million

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Intl. Bus. Mach.- IBM - cls: 118.19 chg: +1.50 stop: 111.59 *new*

Target achieved! Tech stocks were market leaders on Tuesday and IBM hit new multi-year highs at $118.89. Our initial target was the $118.00-120.00 range. The stock closed near its July peak and after the current two-week rally we would be looking for some profit taking here. A dip back into the $116-114 zone would not be out of the question. We are raising our stop loss to $111.59, just under the August 28th low. Our second, more-aggressive target is the $124.00-125.00 zone. FYI: The Point & Figure is very bullish with a $177 target.

Picked on August 26 at $113.24
Change since picked: + 4.95
Earnings Date 10/17/07 (unconfirmed)
Average Daily Volume = 9.5 million

---

Millicom - MICC - cls: 85.77 change: +1.44 stop: 79.90

MICC is another tech stock showing a lot of strength today. Shares broke through resistance near $85.00 and closed up with a 1.7% gain. We were suggesting a trigger to buy calls at $85.25 so the play is now open. The next hurdle for the bulls is potential technical resistance at the 50-dma and 100-dma near $86.35. More conservative traders may want to wait for MICC to clear technical resistance at its 100-dma and 50-dma near $86.35 first before starting plays. We have two targets. Our first target is the $89.75-90.00 range. Our second, more-aggressive target is the $94.00-95.00 range.

Picked on September 04 at $ 85.25
Change since picked: + 0.52
Earnings Date 10/25/07 (unconfirmed)
Average Daily Volume = 789 thousand

---

Manitowoc - MTW - cls: 79.55 change: +0.06 stop: 73.99

MTW didn't make much progress today. The stock traded lower this morning and had to fight its way back toward resistance at the $80.00 mark. There was a brief rally above $80.00 this afternoon but the high was only $80.08. More aggressive traders may want to buy calls now. We're suggesting a trigger to buy calls at $80.25. If triggered our target is the $88.00-90.00 range. Nimble traders will want to try and be patient and look for a dip back into the $78.00-75.00 zone as a potential entry point. Conservative traders might want to cinch up their stop loss toward $75.00. The Point & Figure chart is very bullish with a triple-top breakout buy signal and a $103 target. FYI: MTW is due to split 2-for-1 on September 11th.

Picked on September xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/31/07 (unconfirmed)
Average Daily Volume = 1.0 million

---

Transocean - RIG - cls: 107.96 change: +2.87 stop: 102.49*new*

Oil stocks were mostly higher thanks to a rally in crude oil. Concerns over the hurricane currently south of the Gulf of Mexico and worries that we will still see several more big storms this year are pushing crude futures high. Shares of RIG really move with an intraday high of $109.44. Today's rally is a bullish breakout over $105 and its 50-dma. If RIG dips back toward the $105.50-105.00 zone we'd use it as a new entry point for calls. The $110 region could be short-term support but our target is the $114.00-115.00 range. Please note that we're raising the stop loss to $102.49, which is under the rising 10-dma.

Picked on August 31 at $105.75
Change since picked: + 2.21
Earnings Date 10/31/07 (unconfirmed)
Average Daily Volume = 7.3 million

---

Riverbed Tech. - RVBD - cls: 45.92 chg: +1.52 stop: 41.95

Traders bought the dip at RVBD's 10-dma this morning and shares surged to an intraday high of $46.76. The stock closed off its highs but still posted a 3.4% gain. Tech stocks appear to be in favor right now and networking companies are getting a lot of positive press. If there is any profit taking look for a dip or a bounce near $45.00 as a new entry point for bullish positions. Our target is the $49.40-50.00 range. Today's intraday strength produced a brand new "bearish signal reversed" pattern on the P&F chart, which now points to a $65 target.

Picked on September 02 at $ 44.40
Change since picked: + 1.52
Earnings Date 10/25/07 (unconfirmed)
Average Daily Volume = 1.2 million
 

Put Updates

Acuity Brands - AYI - cls: 53.55 change: +1.01 stop: 56.01

Warning! AYI has produced a bullish reversal-type of pattern with today's bullish engulfing candlestick. The stock rallied 1.9% but is struggling with short-term resistance at its 10-dma and the $54.00 level. More conservative traders may want to tighten their stops toward the $55.00 level. We're not suggesting new positions at this time. We have two targets. Our first target is the $47.75-47.50 range. Our second target is the $45.25-45.00 zone.

Picked on August 26 at $ 52.80
Change since picked: + 0.75
Earnings Date 10/04/07 (unconfirmed)
Average Daily Volume = 536 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.)

---

Diamonds - DIA - cls: 134.34 chg: +0.94 stop: n/a

As the DJIA continues to rally the DIA are trekking higher in its shadow. We do not see any changes from our previous comments. We are not suggesting new positions at this time. Our strangle play suggested using the September $137 call (DAZ-IG) and the September $127 put (DAW-UW) with an estimated cost of $2.05. We want to sell if either option rises to $3.10 or more.

Picked on August 30 at $132.57
Change since picked: + 1.77
Earnings Date 00/00/00 (unconfirmed)
Average Daily Volume = 20.8 million

---

S&P 100 Index - OEX - cls: 694.23 chg: +6.76 stop: n/a

Today's move in the OEX is bullish with its breakout over potential technical resistance at the 50 and 100-dma. The next hurdle for the bulls is resistance at the 700 mark. We're not suggesting new positions at this time. Our strangle suggested using the September 700 call (OEZ-IT) and the September 660 put (OEY-UL) with an estimated cost of $14.30. We want to sell if either option rises to $21.45 or more. Considering these prices we probably need to see a move into the $705-710 range or the $655-650 zone to be profitable.

Picked on August 30 at $680.46
Change since picked: +13.77
Earnings Date 00/00/00
Average Daily Volume = 1306 thousand
 

Dropped Calls

None
 

Dropped Puts

None
 

Dropped Strangles

None
 

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

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