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Daily Newsletter, Tuesday, 09/18/2007

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Table of Contents

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

Market Wrap

Bear Fur Flying

Those bears short over the Fed announcement barely had time to blink before the wave of bullish euphoria blew past them with the suddenness of a nuclear shock wave. The bull stampede over the retreating bears was the biggest reaction to a Fed rate cut since April 2001. Nearly every sector saw monster gains on the completely unexpected Fed decision.

Dow Chart - Daily

Nasdaq Chart - Daily

Analysts had hoped the Fed would cut 50 and 50 but almost nobody actually expected it to happen. It was too good to be true and left commentators nearly speechless. In case you did not hear the news the Fed cut the Fed funds rate by 50 basis points and also cut the discount rate by another 50 points. That puts the Fed funds rate at 4.75% and the discount rate at 5.25%.

The Fed statement was also positive and that was the opposite of what you would expect by their actual move. Some comments from the Fed statement:

Economic growth was moderate during the first half of the year, but the tightening of credit conditions has the potential to intensify the housing correction and to restrain economic growth more generally. Todays action is intended to help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets and to promote moderate growth over time.

Developments in financial markets since the Committees last regular meeting have increased the uncertainty surrounding the economic outlook. The Committee will continue to assess the effects of these and other developments on economic prospects and will act as needed to foster price stability and sustainable economic growth.

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The key words there are "help forestall" and "might otherwise arise." That suggests the Fed did not feel the economy was in trouble or heading for a recession. It suggests the Fed was bowing to market sentiment to make a preemptive strike to head off further credit problems rather than react to problems that already exist. The statement also said economic growth remained moderate and readings on core inflation had improved modestly. There was nothing in the statement to indicate the economy was weakening. The Fed appeared willing to take a precautionary cut rather than wait until conditions worsened. This is completely contrary to most Fed moves in the past. Historically the Fed has always been behind the curve and analysts took today's action as evidence this Fed was going to be more proactive in dealing with economic issues.

This was the perfect scenario as far traders were concerned and the markets exploded higher with the Dow adding +335 points. Earlier in the day we saw that producer prices (PPI) for finished goods fell by -1.4% in August and that was even more reason for the Fed not to be worried about inflation. The core rate for finished goods rose only +0.2% and right inline with expectations. The inflation rates as seen in the PPI gave the Fed no reason to remain on the sidelines. However, the PPI numbers were low mostly because of the -6.6% drop in energy products in August and that drop is likely to be completely erased in September.

Chain store sales, a measure of consumer confidence, fell -1.1% for the prior week with the index falling to 480.3 and a level not seen since June-30th. This was the sharpest decline in four months. This suggests the back to school buying cycle is over. With gasoline prices spiking sharply over the last two weeks consumers may start closing their wallets to anything but necessary spending.

The National Association of Home Builders (NAHB) reported that the NAHB Index fell to 20 for the first two weeks of September and that is the lowest level since early 1991. The new home sector continues to decline with buyer traffic almost nil. The market for new homes is nearly dead. If you adjust for seasonality the September numbers are the lowest on record for every subcategory. Builder optimism is the lowest on record for the 22 years since the index was created. The lack of financing for anyone other than prime credits and the closing of many jumbo loan outlets (loans over $417,000) has taken many homes off the market. Standard Pacific said they were seeing increased traffic at a fire sale that began on Friday that copied Hovnanian's (HOV) "Deal of the Century" sale last weekend. Ara Hovnanian said on a webcast today that sales last weekend jumped 10 times the recent pace because of their drastic 3-day price cut sale. Prices were slashed $75-100K to get as many homes as possible priced below the $417,000 jumbo loan threshold. The Fed rate cut should help homebuyers more from a sentiment standpoint than an actual drop in mortgage rates. Since the Fed rarely stops at one cut it suggests rates will continue lower at least through year-end.

Helping the markets prior to the Fed announcement was better than expected news from Lehman. Lehman posted earnings that beat the street by +7 cents and said the worst was over for the credit industry. They took a write down of $1 billion on their $27 billion in leveraged loans but that was far less than most analysts expected. Lehman said they had losses in their mortgage division but hedges put in place to protect against declines had eliminated all but $700 million of the losses. All but $700 million? That seems like a lot of money to me but when you deal in the tens of billions I guess that is a minor loss compared to what it could have been. Overall they still earned nearly a billion dollars for the quarter despite the mortgage losses. Lehman said they lowered their valuations on debt to 92 cents on the dollar to reflect the new paradigm in the credit markets. This was also less of a charge than most were expecting. Lehman said strong trading profits and investment banking results offset the losses in the mortgage business. Lehman said it had the second best quarter ever for its equities business. LEH spiked +$5.87 or +10% on the news. Other earnings reporters for the week include Morgan Stanley +3.60, reports on Wednesday, BSC +3.82 and GS +12.89 both report on Thursday. Obviously all were also helped by the rally in financials after the Fed announcement.

Lehman Chart - Daily

I have been recommending Goldman as a buy in my commentaries for a couple weeks and it has rebounded from $180 to just over $200 during that period. I continue to believe that Goldman will beat estimates on Thursday and could easily return to new highs very soon. Bear Stearns has risen to the top of the congestion range where it has been trading for the last 6-weeks to stop right at $120 today. Bear is widely believed to have the worst earnings of the group but a better than expected report could easily put them on a path higher.

E*trade Financial (ETFC) rebounded to shake off news that earnings for the year could fall as much as 25%. E*trade said it was exiting the mortgage business and that could knock as much as 48 cents (-$32 million) off their full year earnings. E*trade has a $30 billion portfolio of mortgage loans that it will sell over the next 18-24 months in order to focus only on its trading business. Pretty soon if you want a mortgage you will have to go to Countrywide or Wells Fargo as the only major players left.

Gold rose to a 28-year high just over $735 as the dollar fell after the Fed announcement. The previous recent high was $732 set on May 12th 2006. Today was the highest price for the front month contract since Feb-11th 1980. The dollar collapsed even further on the prospect of lower rates, falling another half percent. The falling dollar also spiked the price of oil to a new record high at $82.38 after the Fed announcement. This is even more amazing since the crude contract expires on Wednesday. This is a prime example of a momentum play gone bad for the bears. Shorts are jumping on every new high in record numbers only to have some news event blow them out again.

Dollar Index Chart - Weekly

October Crude Futures Chart - 90 min

Late after the market closed there were a flurry of comments from some analysts trying to second-guess the Fed's move. The prevailing commentary was along the lines of "what to they know that we don't?" It was out of character for the Fed to make such a major move, especially after they said they were more concerned about inflation at the August 7th FOMC meeting. We have seen other commentators suggesting that the August Jobs number was a reporting problem not an actual jobs problem. The Fed should have investigated this and their move today suggests it may have been a real loss of jobs. We may never know what really pushed the Fed to react so strongly but the markets are not complaining.

The Dow completely blew away the resistance at 13500 and even closed over the next resistance level at 13700 leaving only the prior historic high at 14021 as a milestone to be reached. Unfortunately there is a historic pattern of markets giving up ground the day after a Fed meeting regardless of whether they cut or not. I see no reason for it to happen tomorrow because there is so much pent up demand for equities. The S&P is trading at a PE of around 15 and that is the lowest it has been in years. With the global growth so strong analysts feel the S&P should be closer to a PE of 18-20 given the amount of S&P profits are generated overseas. The Dow may pull back simply because of profit taking from the +335 spike but I believe it would be a buying opportunity.

The Nasdaq duplicated the Dow's performance by eclipsing the 2644 resistance high from Sept 4th with a close at 2651. This leaves only the prior multiyear high at 2725 as resistance heading into the 4th quarter. Adobe reported strong earnings on Monday night and spiked sharply into today's open but pulled back intraday. Adobe's weakness did not rub off on the rest of the tech sector with a +70 point gain on the Nasdaq.

The S&P-500 blew past that troublesome resistance at 1490 to close at 1520. This is a major breakout and baring any problems with the rest of the financial earnings we should easily test 1535 later this week. The financials should be the power factor and take over from the energy stocks if their lead falters with the change in futures contracts on oil. Eventually this hysteria in oil will crack and it could get ugly very quickly for the sector.

S&P-500 Chart - Daily

Russell Chart - Daily

The biggest winner for the day was the Russell-2000 with nearly a +4% gain. This compares with the rest of the indexes around +2.5%. Either fund managers pulled the trigger on small caps or there was monster short interest in the Russell indexes ahead of a normally bearish period. I believe it was both. Small caps are normally weak in late September, early October and I think the bears had backed up the truck with every failure to break resistance at 800. When a few fund managers did view the Fed move as an all clear signal the bears were squeezed unmercifully. When I reverted to a bullish bias over 775 in the weekend newsletter I was seeing signs of buying starting to appear. I never envisioned a bounce of this magnitude in one day but I am definitely not complaining. Market internals were extremely lopsided with 6.4 billion shares of up volume compared to only 400 million shares of down volume. New 52-week highs at +293 were the highest since August 8th and the day before the August meltdown. A return to those levels should mean the bulls are back in town.

For the rest of the week we should see strength in financials leading to strength in the broader market. I am not even sure a bad report from MS, BSC or GS could sour the bullish sentiment. Don't be surprised if we see some profit taking and I believe it would be a buying opportunity. It appears the normal end of September swoon may have been eliminated this year unless some external event appears to roil the markets. The bull flag is flying and traders, even bearish ones, will be moving to a bullish bias thanks to the Fed's positively worded announcement and the potential for another hike in October. Very rarely does the Fed ever make a one and done type of move and even if it is two and through this year it still means rates are going lower. Buy the dips!
 


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

Apple Inc. - AAPL - cls: 140.92 change: +2.51 stop: 133.69

Should we be concerned with AAPL? The stock only rose 1.8% versus a 2.7% rally in the NASDAQ Composite. We're not too concerned considering the bullish breakout over resistance at the $140 mark. Today's move looks like another entry point to buy calls. However, more conservative readers may still want to consider a tighter stop loss. We have two targets. Our first, more conservative target is the $144.75-145.00 range. Our second, more aggressive target is the $149.00-150.00 range. We do have a very wide (aggressive) stop loss because the markets and AAPL have been so volatile. The P&F chart is still bullish with a $180 target. We do not want to hold over the mid October earnings report.

Picked on September 17 at $140.25
Change since picked: + 0.67
Earnings Date 10/18/07 (unconfirmed)
Average Daily Volume = 39.9 million

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Broadcom - BRCM - cls: 36.31 change: +1.46 stop: 33.95

BRCM was already looking strong ahead of the Fed's announcement. By the closing bell the stock rose 4.1% and hit a new six-week high. Volume was almost double the normal, which is a good sign for the bulls. Our target is the $39.85-40.00 range. The Point & Figure chart is bullish with a $49 target.

Picked on September 12 at $ 35.85
Change since picked: + 0.46
Earnings Date 10/17/07 (unconfirmed)
Average Daily Volume = 11.0 million

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Citigroup - C - clos: 48.37 change: +2.34 stop: 44.49

As expected the financial stocks rallied sharply. C soared more than 5% and broke through potential resistance at $48.00 and its 50-dma. Our initial target is the $49.85-50.00 range but we might decide later to add a more aggressive target at the 200-dma.

Picked on September 16 at $ 46.64
Change since picked: + 1.73
Earnings Date 10/19/07 (confirmed)
Average Daily Volume = 40.7 million

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Intl. Bus. Mach.- IBM - cls: 116.63 chg: +2.11 stop: 113.90*new*

Today's rebound in IBM looks like a new entry point given its breakout above the short-term trend of lower highs and its 10-dma. However, we would only suggest new positions here if you believe the market rally will continue and that IBM can push past resistance near $119-120. We are going to adjust our stop loss to $113.90. The stock has already hit our $118-120 target range. 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: + 3.39
Earnings Date 10/17/07 (unconfirmed)
Average Daily Volume = 9.5 million

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Manitowoc - MTW - cls: 41.85 change: +1.99 stop: 37.48

The fed-induced rally today helped MTW produce a 5% gain and achieve a new six-week high. Volume came in above average on the move, which is bullish. Our post-split target is the $44.00-45.00 range. Our post-split stop loss is $37.48. The Point & Figure chart is forecasting a $56 target.

Picked on September 05 at $ 40.13 *split adjusted
Change since picked: + 1.72
Earnings Date 10/31/07 (unconfirmed)
Average Daily Volume = 1.0 million

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Stryker - SYK - cls: 68.18 change: +0.98 stop: 65.90

More aggressive traders might want to consider new positions on SYK right here. We are going to stick to our plan and wait for a new relative high. We're suggesting readers use a trigger to buy calls at $70.65. If triggered at $70.65 our target is the $74.90-75.00 range. Given the length of SYK's consolidation we would actually aim higher, maybe the $77.50-80.00 range, but we don't have much time and plan to exit ahead of the mid October earnings report. The P&F chart is bullish with an $83 target.

Picked on September xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/17/07 (confirmed)
Average Daily Volume = 1.4 million

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Thornburg Mtg - TMA - cls: 13.46 chg: +0.26 stop: 10.90

Uh-oh! The mortgage lenders didn't move much today even though LEH turned in a positive earnings report and the Fed proved to be very cooperative. LEH isn't a lender but as a major financial company with potential exposure to the sub-prime sector their report today should have let investors breathe a sigh of relief. Yet the mortgage lenders did not participate in this afternoon's volatile market ride higher. Readers may want to turn more defensive on TMA given today's performance (+1.9%). We have two targets for TMA. Our first target is the $16.25-16.50 zone. Our second target is the $17.50-19.00 range. The P&F chart has reversed into a new buy signal with a $19.50 target. We do not want to hold over the mid October earnings report.

Picked on September 16 at $ 13.63
Change since picked: - 0.17
Earnings Date 10/15/07 (unconfirmed)
Average Daily Volume = 5.4 million
 

Put Updates

None
 

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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AutoZone - AZO - cls: 113.12 change: +4.50 stop: n/a

AZO experienced a big move (+4.1%) and some big volume but it wasn't enough. We were expecting a much bigger move on the combination of its earnings report and the Fed meeting. We're going to stick it out and see if AZO can keep climbing but more conservative traders may want to just exit now to try and salvage as much of their capital as possible. We listed two strangles. The first strangle was with the September $115 calls (AZO-IC) and the September $105 puts (AZO-UA) with an estimated cost of $2.50. We want to sell if either option hits $3.85 or higher. Our second combo suggested the September $120 calls (AZO-ID) and the September $100 puts (AZO-UT) with an estimated cost of $0.95. We would sell if either option hits $1.85.

Picked on September 16 at $109.90
Change since picked: + 3.22
Earnings Date 09/18/07 (confirmed)
Average Daily Volume = 812 thousand

---

Bear Stearns - BSC - cls: 119.20 chg: +3.82 stop: n/a

Positive earnings news from LEH and the Fed news today helped BSC post a 3.3% gain. Volume came in above average on the move. Shares of BSC are now testing resistance near $120 and its 50-dma. Earnings for BSC are due out on September 20th before the market open. Wall Street expects a profit of $1.98 a share. We're not suggesting new positions at this time. Currently our strangle involves the October $115 call (BSC-JC) and the October $95 put (BVD-VS). Our estimated cost was $9.50 and we want to sell if either option hits $14.00 or more. The company is expected to report earnings on September 20th. This should be considered a more aggressive play.

FYI: Last week we switched our strangle from September strikes to October strikes due to a move in BSC's earnings report date. If you're holding the September strikes it might work out. They were the Sep. $115 calls and Sep. $95 puts. Our estimated cost was $4.40. We wanted to sell if either option hit $7.85. FYI: The Sept. $115 call hit an intraday high of $6.60 today. If you're in the September strangle you might want to consider an early exit now!

Picked on September 09 at $105.37
Change since picked: +13.83
Earnings Date 09/20/07 (confirmed)
Average Daily Volume = 8.7 million

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Diamonds - DIA - cls: 137.35 chg: +3.29 stop: n/a

The market's move lifted the DJIA index to a 335-point gain. The DIA followed with a 3.29-point rally. This is a bullish breakout over resistance near $135 (13,500 for the DJIA). We're not suggesting new plays at this time. Our DIA 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. We have three trading days left before September options expire. FYI: The September $137 calls traded to an intraday high of $1.15 today.

Picked on August 30 at $132.57
Change since picked: + 4.78
Earnings Date 00/00/00 (unconfirmed)
Average Daily Volume = 20.8 million

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Dow Jones Industrial Avg. - DJX - cls: 137.39 chg: +3.36 stop: n/a

Same story, different index. The 1/100th version of the DJIA is the DJX and it rose 2.5% on today's rally. We're not suggesting new positions after the Fed meeting tomorrow. We listed two separate strategies. Our September strangle suggested the September $137 calls (DJY-IG) and the September $132 puts (DJW-UB) with an estimated cost of $1.25. We want to sell if either option hits $2.00. Our October strangle suggested the October $137 calls (DJY-JG) and the October $132 puts (DJW-VB) with an estimated cost of $4.75. We want to sell if either option hits $6.75. FYI: The September $137 calls hit an intraday high of $1.20.

Picked on September 16 at $134.43
Change since picked: + 2.96
Earnings Date 00/00/00
Average Daily Volume = million

---

Lehman Brothers - LEH - cls: 64.49 chg: +5.87 stop: n/a

A better than expected earnings report and a helpful FOMC meeting propelled shares of LEH to a 10% gain. Meanwhile the September $65 call more than doubled and is trading at $0.65bid/$0.85ask. We need to see some follow through over $65 for us to be profitable. We're not suggesting new positions at this time. This is an aggressive play since the September options expire in three days. We suggested the September $65 calls (LES-IM) and the September $55 puts (LES-UK). Our estimated cost was $1.55. We want to sell if either option hits $2.50 or higher.

Picked on September 16 at $ 59.50
Change since picked: + 4.99
Earnings Date 09/18/07 (confirmed)
Average Daily Volume = 15.4 million

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S&P 100 Index - OEX - cls: 710.08 chg: +18.96 stop: n/a

The big market move lifted the OEX to a 2.7% gain. The September $700 call hit an intraday high of $15.00 and is currently trading at $11.30big/12.20ask. We're not suggesting new positions at this time. Our strangle strategy suggested using the September 700 call (OEZ-IT) and the September 660 put (OEY-UL) with an estimated cost of $14.30. We are adjusting our target to sell if either option hits $19.50 or more.

Picked on August 30 at $680.46
Change since picked: +29.62
Earnings Date 00/00/00
Average Daily Volume = 1306 thousand

---

Financial SPDR - XLF - cls: 34.93 chg: +1.27 stop: n/a

The XLF produced a sharp 3.7% gain and a bullish breakout over resistance near $34.00 and its 50-dma. Yet it wasn't enough to put us in the profitable column yet. We're not suggesting new positions at this time. We're going to be aggressive and suggest the September options, which expire in three days. Our suggested strangle used the September $35 calls (XLF-II) and the September $33 puts (XLF-UG) with an estimated cost of $0.65. We want to sell if either option hits $0.95 or higher.

Picked on September 16 at $ 33.98
Change since picked: + 0.95
Earnings Date 00/00/00
Average Daily Volume = 69.1 million
 

Dropped Calls

Triumph Group - TGI - cls: 82.00 change: +1.14 stop: 75.85

Our second target has been achieved. TGI hit an intraday high of $82.75 thanks to the market's widespread rally. Our first target was the $79.75-80.00 range. Our second, more aggressive target was the $82.50-84.00 range.

Picked on September 13 at $ 75.85
Change since picked: + 6.15
Earnings Date 10/25/07 (unconfirmed)
Average Daily Volume = 275 thousand
 

Dropped Puts

Ashland Inc. - ASH - cls: 62.94 change: +2.81 stop: 61.01

Shares of ASH were acting bullish this morning way before the Fed meeting. The stock hit our stop loss at $61.01 around 10:40 a.m. this morning. The breakout past resistance at $61.00 and its 50 and 100-dma looks like a potential entry point for bullish positions although if you want to switch directions we'd wait for a dip.

Picked on September 09 at $ 58.84
Change since picked: + 4.10
Earnings Date 10/30/07 (unconfirmed)
Average Daily Volume = 796 thousand

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Acuity Brands - AYI - cls: 51.41 change: +2.78 stop: 52.80

A lot of our potential gains in AYI just evaporated under today's 5.7% rebound in the stock. Shares pushed past resistance near $50.00 and its 10-dma. We're suggesting an early exit now to avoid or limit any losses. We had been suggesting that readers do some profit taking ahead of the Fed meeting today.

Picked on August 26 at $ 52.80
Change since picked: - 1.39
Earnings Date 10/04/07 (confirmed)
Average Daily Volume = 536 thousand

---

Whirlpool - WHR - cls: 93.98 change: +2.70 stop: 95.15

WHR still has a bearish trend of lower highs but we think it's wise to exit early. Shares have been building on support near $90 the past few days and the Fed's decision today inspired some serious buying and short covering. We're closing the play early.

Picked on September 09 at $ 92.77
Change since picked: + 1.21
Earnings Date 10/24/07 (unconfirmed)
Average Daily Volume = 1.1 million

---

U.S.Steel - X - close: 97.75 change: +6.56 stop: 96.71

The FOMC news today inspired a huge $5.00 move in shares of X. The stock raced past resistance near $93.00, at its 200-dma and its 50-dma. The stock hit our aggressive (wide) stop loss at $96.71. This looks like a serious bullish breakout but we wouldn't want to chase it here with calls.

Picked on September 12 at $ 89.26
Change since picked: + 8.49
Earnings Date 10/31/07 (unconfirmed)
Average Daily Volume = 3.8 million

---

Energy Sector SPDR - XLE - cls: 74.85 chg: +2.20 stop: 73.65

The sell-off in oil and oil stocks is nowhere in sight. Crude continues to march to new record highs. Oil stocks joined the rest of the market charging higher. The XLE responded with a 3% rally toward resistance near $75.00. It was our suggested strategy to buy puts on a breakdown with a trigger to open plays at $71.15. That hasn't happened and given the move today we're dropping XLE as a candidate at this time. Truly aggressive traders might want to watch for a failed rally near $75.00, which could suggest a potential bearish double-top pattern.

Picked on September xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 00/00/00
Average Daily Volume = 25.9 million
 

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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