Option Investor

Daily Newsletter, Monday, 05/19/2008

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Table of Contents

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

Market Wrap

Leading Indicators Signal Modest Economic Growth

It is with great thought and new information that I must make an adjustment to this year's 2008 economic forecast as technical action in the Dow Transports (TRAN) and April's leading economic indicators from The Conference Board strongly suggest that the U.S. economy will experience "modest economic growth" for 2008.

While it had been my (Jeff Bailey's) end of 2007 forecast that the U.S. economy would witness a "modest recession" in 2008, I'm now seeing enough signs from both economic and more importantly technical action, that suggest the U.S. economy may well experience modest growth for 2008.

Much of tonight's market wrap will be a review of past commentary made in my market wraps and OptionInvestor.com Market Monitor postings, but I think it important that trader's and investor's BIG PICTURE hypothesis be shifted.

As you and I review some of today's internal action (see above table), my mindset is that today's action was largely PROFIT taking by bulls, where some handsome profits were taken as the "good news" expected now comes to fruition.

Let's first begin with today's 10:00 AM EDT release of April's leading economic indicators, where after a mixed-to-higher opening trade, stocks extended gains from last week's May option-expiration as April's leading indicators were released.

A quick review may be needed here, as it is important for us to have a basic understanding of the ten (10) leading indicators measured by The Conference Board, and how these indicators are weighted.

Leading Indicators

Just as many of the EQUITY indexes are weighted, with some stocks have "greater weight" than others; The Conference Board's leading indicators are also weighted.

In the above table, I've marked from #1 thru #5 the various "indicators" The Conference Board weights when establishing the leading indicators, where M2 Money Supply, which most economists use when looking to quantify the amount of money in circulation and average weekly hours worked by an employee in the manufacture of goods comprise more the 1/2 (0.3550 + 0.2552 = 0.6102) of the leading indicator index. That's just more than 61%.

As a market technician, I've always held the belief, as do many technicians, that the S&P 500 (SPX.X) 1,426.63 +0.08% is an EXCELLENT depicter of the U.S. economy. For many a market technician like myself, it is perhaps #1 on our list of charting the market's perception of the U.S. economy.

What looks to have driven buying at the 10:00 release was more than likely the observation that with two (2) months of gains from the leading indicators now revealed, that pretty much put the proverbial "wrench in the engine" to the thought of a severe recession, if not a shift towards modest growth from those that had forecast a modest recession.


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For a modest recession to have taken place in the first-half of 2008 as I (Jeff Bailey) had forecasted at the end of 2007, I would have, or was looking for more negative measures in today's release.

April's 102.00 measure showed a 0.1% increase over March's 0.1% increase and was stronger than economists' forecast of unchanged.

Here's a quick look at how the leading index of economic indicators have come in since October'07. While April's 102.0 reading is preliminary, and subject to revision, M2 money supply remains steady at record levels (a positive), and while the average hourly workweek fell to 40.9 hours from 41.2 hours, the slight negative for less overtime pay is offset somewhat that "wage inflation" pressures may be easing.

The primary reason M2 is so heavily weighted and a major focus of economists and investors, is that it is THIS CAPITAL that can flow into various investment vehicles. It can also be used to pay down debt, like revolving credit (a component of LAGGING indicators)!

Leading Indicators - Oct'07 thru Apr'08

The Conference Board noted today that of the ten (10) leading indicators, six (6) of them (including stock prices), interest rate spreads (10-year yield - fed funds target) and building permits increased.

Just as an economist might view average weekly hours with mixed analysis, I could see the same for building permits at today's close.

While it may be a slight "positive" to see building permits rise for the first times since Nov'07, I could also view the increase as a "negative" in that the U.S. is still struggling with on oversupply of EXISTING homes for sale.

In the above table, I've place a 1.82 in the 05/19/08 "Interest Rate Spread" and a 1,401.04 in the "Stock Price (500)". I will touch on both of these observations later this evening, but they are simply measured with the 21-day SMA.

The "Interest Rate Spread" provides my focus as to the benchmark 10-year Yield ($TNX.X) minus the current fed funds target of 2.00%.

I should make note that the PINK "Mfg. New Orders" or #4 weighted measure is (mil. 1982 dollars), while #10 weighted is (mil. 1982 dollars) of nondefense capital goods.

For full release I suggest reading the full text of The Conference Boards release at this link.

Closing U.S. Market Watch - 05/19/08

There are probably three (3) main points I want to review, or bring some attention back to in tonight's market wrap.

First is the Dow Transports (TRAN) 5,395.40 +0.49%, which did trade a new all-time high today at 5,536.57.

Dow Transports (TRAN) - Daily Intervals

The TRAN's decline earlier this year was BEARISH for Dow theory, where the TRANSPORTS weakness strongly suggest some type of economic contraction, or slowing. In late March, the TRAN began showing some notable strength.

Bottom line here is that under the backdrop of a RECESSION, the TRAN should NOT have traded an all-time high. It did today!

I do think traders/investors that have ridden this wave of bullishness should be protective of gains.

A "conservative" objective of the head and shoulder bottom pattern using 4,150 as the "head" and 4,900 as the mid-point of the descending neckline would be 5,650.

Objectives for head/shoulder patterns is to take the difference between the head and the neckline, then ADD that difference to the neckline (for h/s bottoms), or SUBTRACT the difference to the neckline (h/s tops).

Some Dow theorists will use the TRAN as a LEADING technical indicator of the economy.

10-year Yield ($TNX.X) Chart - Daily Intervals

Today's leading indicators also showed the #3-most heavily weighted measure of "10-year less fed funds target" as improving for the third-straight month.

Just as I've drawn attention to the NEGATIVES of money flowing INTO treasuries as DEFENSIVE posture from the market, the OUTFLOW of cash can signal a more "willing to take some risks" into other asset classes. From a LEADING indicator measure, we can also see that the RISE in the 10-year moving FURTHER above the current fed funds target of 2.00% may be a LEADING indicator that the fed may start a TIGHTENING bias.

Why does the fed RAISE RATES? One reason is economic GROWTH! Inflation is also a concern, and we've been inundated with oil prices as a primary concern.

S&P 500 Index (SPX.X) - Daily Intervals

Earlier this month I did indeed urge "caution" for new bull entries as the major averages, including the SPX.X tested its DOWNWARD trend, then its 150-day SMA.

I've seen enough and I'm pretty sure "severe recession" bears have too..

I believe strongly, based on observations, that MARKET PARTICIPANTS will be making some ADJUSTMENTS and turn more BULLISH.

Look for BUYING OPPORTUNITY on any near-term profit taking at 1,390, with MAJOR SUPPORT at the 1,365 level.

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

Alliant Techsystems - ATK - cls: 112.37 chg: +0.55 stop: 109.45

Market strength on Monday helped launch ATK higher from its consolidation pattern. The stock broke through its short-term trend of lower highs and hit $113.28. We were suggesting two different entry points and one of them was at $112.80. The trend continues to look bullish but we are concerned about the failed rally in the major market indices today. A bounce from $112 in ATK could be used as another entry point but don't be surprised to see a dip in the $111.00-110.00 zone. Wait for signs of a bounce! Our target is the $118.00-120.00 range. The Point & Figure chart is bullish with a $145 target.

Picked on May 19 at $112.80 *triggered
Change since picked: - 0.43
Earnings Date 07/31/08 (unconfirmed)
Average Daily Volume = 234 thousand


China Telecom - CHA - cls: 70.67 chg: -1.68 stop: 69.49

Lack of follow through on Friday's breakout over CHA's 100-dma is a concern. The $70.00 level "should" be short-term round-number support so we would still consider buying dips or bounces from $70.00 but technical traders will note that the momentum indicators are waning a bit. Our target is the $78.50-80.00 zone. The P&F chart is bullish with a $91 target.

Picked on May 18 at $ 72.35
Change since picked: - 1.68
Earnings Date 08/18/08 (unconfirmed)
Average Daily Volume = 404 thousand


Carbo Ceramics - CRR - close: 49.41 change: +0.39 stop: 45.95*new*

CRR rallied to round-number, psychological resistance at $50.00 and stalled today. A pull back from here would start to look like a bearish double-top pattern. We do expect a dip but if CRR trades under 47.50 we're going to grow concerned. Please note we're raising our stop loss to $45.95. We're not suggesting new positions at this time. We're aiming for the $52.00-52.50 zone.

Picked on May 11 at $ 47.45
Change since picked: + 1.96
Earnings Date 04/24/08 (confirmed)
Average Daily Volume = 303 thousand


Fortune Brands - FO - close: 71.51 change: +0.15 stop: 69.45

FO is still inching higher but I suspect the stock will pull back toward the $70.50-70.00 zone. Broken resistance at $70 should be new support. Our target is the $74.00-75.00 range. The 200-dma is technical resistance near $74.50. The P&F chart is bullish with a $95 target.

Picked on May 07 at $ 70.05 *triggered
Change since picked: + 1.46
Earnings Date 04/24/08 (confirmed)
Average Daily Volume = 971 thousand


Harsco - HSC - close: 62.82 change: -0.16 stop: 59.85

HSC hit a new relative high this morning (63.89) but reversed along with the broader market this afternoon. A dip to $62 or $61 would not be out of the question here. We're not suggesting new positions at this time. Our target is the $64.50-65.00 range but more aggressive traders may want to aim higher.

Picked on May 01 at $ 60.38
Change since picked: + 2.44
Earnings Date 04/22/08 (confirmed)
Average Daily Volume = 613 thousand


Intl.Bus.Mach. - IBM - cls: 126.49 chg: -1.33 stop: 123.49

Sharp-eyed traders should note that Dow-component IBM was under performing the DJIA as shares of Big Blue failed to rally with the market. The stock looks headed lower to retest support near $125.00. We're not suggesting new positions at this time but nimble traders could use a dip or bounce at $125 as a potential entry point. Our target is the $129.50 mark.

Picked on April 30 at $120.75 */1st target achieved 124.90
Change since picked: + 5.74
Earnings Date 04/16/08 (confirmed)
Average Daily Volume = 8.8 million


iShares Russ.2000 - IWM - cls: 73.97 chg: +0.02 stop: 71.45 *new*

Strength in the small cap stocks has been lagging the rest of the market. The DJIA and S&P 500 both broke through their 200-dma on an intraday basis. The Russell 2000 merely tagged the 200-dma as overhead resistance. The combination of the major indices reversal and the RUT's failed rally at its 200-dma is a warning sign. The IWM actually looks stronger than the RUT index it is meant to mimic. Investors were buying the dip in the IWM late this afternoon. We are not suggesting new positions in the IWM at this time. More conservative traders may want to seriously consider a tighter stop under $73.00. We are adjusting our stop loss to $71.45. Our multi-week target is the $77.50-80.00 zone. The P&F chart is bullish with an $87 target.

Picked on April 28 at $ 72.55 *triggered
Change since picked: + 1.42
Earnings Date 00/00/00
Average Daily Volume = 84.6 million


Joy Global - JOYG - close: 79.72 chg: -2.21 stop: 76.90

We do not see any changes from our weekend comments on JOYG. We are not suggesting new positions. We continue to recommend that readers take profits in their bullish positions. JOYG is poised to move lower and we'd expect a dip toward $78.00-77.50. Our secondary, more aggressive target is the $84.00-85.00 range. We will plan to exit ahead of the May 29th earnings report. The P&F chart is already bullish with an $88 target.

Picked on April 16 at $ 72.55 */ fist target exceeded
Change since picked: + 7.17
Earnings Date 05/29/08 (confirmed)
Average Daily Volume = 2.3 million


Lufkin Industries - LUFK - cls: 81.72 chg: +1.13 stop: 77.85

We do not see any changes from our weekend comments on LUFK. The stock rallied as we expected. The next couple of days will be the real test. Crude oil futures could see some profit taking now that futures have expired and this could put pressure on all the oil stocks. A dip in the $80.00-78.00 range would look like a new entry point to buy calls on LUFK. The short-term target is $84.75-85.00. The P&F chart is bullish with an $87 target.

Picked on May 18 at $ 80.59
Change since picked: + 1.13
Earnings Date 07/17/08 (unconfirmed)
Average Daily Volume = 209 thousand


Reliance Steel - RS - close: 66.85 chg: -1.30 stop: 59.99

The correction in RS may have begun today. The stock lost 1.9%. We're waiting on a dip. Our suggested entry point is a pull back into the $64.75-64.00 zone. If triggered we're setting two targets. Our first target is the $69.50-70.00 range. Our secondary, more aggressive target is the $73.00-75.00 range. The P&F chart is bullish with a $73 target.

Picked on May xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 04/17/08 (confirmed)
Average Daily Volume = 851 thousand

Put Updates

Apollo Group - APOL - close: 45.49 chg: -1.22 stop: 50.05

APOL continues to inch lower. The stock looks 2.59% and is poised to continue lower. We don't see any changes from our weekend comments. Our target is the $40.50-40.00 zone.

Picked on May 18 at $ 46.71
Change since picked: - 1.22
Earnings Date 06/26/08 (unconfirmed)
Average Daily Volume = 5.4 million


United States Oil Fund - USO - cls: 102.80 chg: +0.53 stop: 105.05

Our aggressive, highly speculative put play in the USO is now open. We think crude oil could see a short-term sell-off following the expiration of futures that occurs tonight. Our plan was to open put positions at the closing bell today. We're going to place a stop loss at $105.05. The $105 level should be round-number resistance. More conservative traders might want to play with a tighter stop. Right now our target is the $96.50 mark.

Picked on May 19 at $102.80
Change since picked: + 0.00
Earnings Date 00/00/00
Average Daily Volume = 7.8 million

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.)


McDonald's - MCD - close: 60.45 chg: -0.08 stop: n/a

MCD was very cooperative for us. The stock traded sideways in a narrow range giving us plenty of time to open strangle positions. We would still consider opening new positions in the 60.80-59.80 zone. The options we suggested were the June $62.50 calls (MCD-FZ) and the June $57.50 puts (MCD-RY). Our estimated cost was $1.10. We want to sell if either option hits $1.65 or higher.

Picked on May 18 at $ 60.53
Change since picked: - 0.08
Earnings Date 07/24/08 (unconfirmed)
Average Daily Volume = 7.5 million

Dropped Calls

AGCO Corp. - AG - close: 56.86 change: -2.83 stop: 57.75

AG under performed the market for the first half of the session. Then when stocks reversed lower AG really began to sink. The stock has broken down under its simple and exponential 200-dma after yet another failed rally near $60.00. We had been waiting on a breakout above resistance near $60.00 with a trigger to buy calls at $60.40 but AG has not yet hit our trigger to open positions.

Picked on May xx at $ xx.xx *never opened
Change since picked: + 0.00
Earnings Date 04/28/08 (confirmed)
Average Daily Volume = 1.8 million


CNOOC - CEO - close: 196.02 change: +3.94 stop: 183.49

42 cents was all we needed. CEO hit an intraday high of $198.58 before pulling back. The stock managed to end the day up 2% but it wasn't enough to hit our target in the $199.00-200.00 zone. We're suggesting readers exit anyway. CEO is looking a little extended and the pull back in the U.S. markets this afternoon is a concern. We'd rather exit now and lock in a gain than see CEO give back several points. We would keep CEO on our watch list and bounce near its 10-dma or the $180 zone might be a new entry point to buy calls again.

Picked on May 06 at $183.47 *exiting early
Change since picked: +12.55
Earnings Date 04/28/08 (confirmed)
Average Daily Volume = 548 thousand


CF Ind. - CF - close: 132.62 chg: +7.17 stop: 129.90

It looks like it's time to let go of CF. The agriculture-fertilizer stocks did not participate in the market's morning rally today. By midday CF had really turned south and broken its short-term trend of higher lows. It is certainly possible that CF could bounce from $130 or its 50-dma but we're suggesting an early exit now to cut our losses. Keep an eye on CF for a bounce near $120 or its 100-dma, which might be another bullish entry point.

Picked on May 05 at $137.50 *exiting early
Change since picked: - 4.88
Earnings Date 04/27/08 (unconfirmed)
Average Daily Volume = 3.1 million


Cytec Ind. - CYT - close: 63.16 change: -0.61 stop: 59.95

After today's market performance we're suggesting an early exit in CYT. The trend is still bullish but we suspect that shares could retrace back to the $60.00 level before moving higher again. We'd rather exit now and look for a new entry point on a bounce near $60.00 than see all of our unrealized gains vanish. Friday's intraday high was $64.15 and our first target had been the $64.75-65.00 range.

Picked on April 27 at $ 60.64 *exiting early
Change since picked: + 2.52
Earnings Date 04/17/08 (confirmed)
Average Daily Volume = 556 thousand


Express Scipts - ESRX - close: 70.23 chg: -0.88 stop: 69.75

This morning's divergence between ESRX and the market has changed my mind on holding bullish positions here. Shares of ESRX have been under performing the market for the last few days. Technical indicators have decayed and the stock looks poised to breakdown under $70.00. The breakdown hasn't occurred yet. More aggressive traders may want to let it ride and count on their stop loss. We'd rather exit early right now and cut our losses. We would keep an eye on ESRX for potential support in the $68.00-67.50 zone.

Picked on May 08 at $ 70.96 *exiting early
Change since picked: - 0.73
Earnings Date 04/29/08 (confirmed)
Average Daily Volume = 2.8 million


Mosaic - MOS - close: 123.88 change: -5.78 stop: 123.24

Shares of MOS had grown uncharacteristically non-volatile (showing a decreased level of volatility) over the last couple of weeks. That changed today. The fertilizer stocks were not participating in the market's rally. I made a note of it in the MarketMonitor this morning. Then when the broader-market indices turned south investors really began selling the ag names. MOS lost 4.4% by the closing bell and hit our recently adjusted stop loss at $123.24 closing the play. There is still a real possibility that MOS will bounce from $120 or its 50-dma. However, we'd keep an eye on it for a dip near its rising 100-dma, which has been an attractive entry point in the past.

Picked on May 05 at $126.75 *triggered/gap higher entry
Change since picked: - 2.87
Earnings Date 07/30/08 (unconfirmed)
Average Daily Volume = 7.4 million


Nucor - NUE - close: 81.32 change: -0.75 stop: 77.45

For the last several days we've been suggesting that readers exit and take profits in NUE. After today's performance we were seriously consider an early exit in NUE. After the bell NUE released some news that just gave us an excuse to sell. We won't be the only ones either. Just after the closing bell tonight NUE announced a secondary stock offering of 25 million shares, worth about $2 billion. The company is actually raising about $3 billion in stocks and bonds to pay off debt and potentially make some acquisitions. 25 million shares would be about 8.7% of the current shares outstanding. Right now the stock is trading around $79.70 in after hours.

Picked on April 22 at $ 74.63 /1st target exceeded 79.50
Change since picked: + 6.69
Earnings Date 04/17/08 (confirmed)
Average Daily Volume = 5.6 million


Oil Services HOLDRs - OIH - close: 216.77 chg: +1.81 stop: 199.00

Target achieved. By midday the market's strength had lifted OIH to an intraday high of $219.10. Our target was the $219.00-220.00 zone. This was perfect timing since we're somewhat concerned that crude might see a short-term sell-off following futures expiration.

Picked on May 13 at $206.78 *target achieved $219.00
Change since picked: + 9.99
Earnings Date 00/00/00
Average Daily Volume = 7.1 million

Dropped Puts


Dropped Strangles


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


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