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Daily Newsletter, Wednesday, 10/15/2008

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Table of Contents

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

Market Wrap

Stocks Retreat, Oil Prices Continue To Fall

Market Wrap

Buyers showed little interest in equities Wednesday and some arms had to be twisted to buy a commodity as continued credit woes had investors and traders cautious ahead of Friday's option expiration.

Volumes at both exchanges were light with the big board churning just shy of 6.5 billion shares compared to its 5-day average run rate of 8.3 billion and 10-day average of 8.0 billion shares.

Market breadth was weak from the opening bell, and while Treasuries did find some selling at the open (resulting in higher yields), a more defensive posture developed into the mid-point of the session.

After a spat of short covering on Monday, the benchmark S&P 500 Index (SPX.X) 907.84 -9.03% holds just more than a 7-point gain from Friday's close, while Nymex October Crude Oil futures (cl08x) settled down $4.09, or -5.20% at $74.54 on demand fears.

Due to Monday's holiday, the EIA delayed their weekly inventory report until tomorrow (Thursday) at 11:00 AM EDT. Current forecasts among industry analysts are for crude oil inventories to show a build of 1.9M barrels.

Number two (2) and three (3) Dow Industrial component heavyweights saw shares of ExxonMobil (NYSE:XOM) $62.35 -13.95% and Chevron (NYSE:CVX) $59.98 -12.48% pacing declines as "peak oil" takes on a new meaning in recent months. ExxonMobil and Chevron are, or were, respective #1 and #8 most heavily weighted S&P 500 components at this morning's cash open.

Brazil-based Petroleo Brasileiro (NYSE:PBR) $25.07 -23.07% was also slammed lower to close at its lowest level since May 10, 2007. No, PBR hasn't split its shares 3:1 since closing at $75.19 on May 21, 2008 either.

Earnings season gets into full swing and it was shares of Dow component and S&P500 heavyweight Coca-Cola (NYSE:KO) $44.21 +1.09% bucking negative breadth of 29:1 in the blue chip index. Coca-Cola executives said strength in international markets helped the soft drink maker report better-than-expected Q3 profits of $0.81/share.

Pepsico (NYSE:PEP) $51.25 -5.79% remained weak after its recent quarterly report, closing at a new multi-year low.

Banking giant JP Morgan (NYSE:JPM) $38.49 -5.45% said its Q3 net fell to $527 million, or $0.11 a share, amid $3.6 billion in write-downs plus losses from its Washington Mutual buy, but profits tripled at the investment banking unit.

Super regional Wells Fargo (NYSE:WFC) $33.35 -0.50% posted net income of $1.6 billion, or $0.49 a share, down 23% from the prior year. The bottom-line figure beat analysts' forecasts of $0.41/share. The banker said earnings were hurt by troubled investments in Fannie Mae, Freddie Mac and Lehman Brothers.

After the closing bell, eBay (NASDAQ:EBAY) $15.33 -13.58% said swing back to a net profit of $492.2 million, or $0.38/share, but warned it expects 4Q earnings excluding items of $0.39 to $0.41/share on revenue of $2.02 billion-$2.17 billion. Analysts were expecting earnings of $0.47/share on revenue of $2.44 billion. The online retailer said it sees full-year EPS excluding items of $1.69 to $1.71. Shares were marked lower at $14.58 in this evenings extended session.

Wednesday's Global Economic Calendar

Economic reports released prior to this morning's opening tick did little to improve sentiment.

U.S. retail sales saw the sharpest drop in three years, falling by 1.2% last month, as consumers sharply cut spending on economic fears. Core sales (excludes autos) fell 0.6%

The Labor Department says the producer price index fell 0.4% in September, helped in part by lower energy prices. Core prices at the manufacturing level (excludes food and energy) rose 0.4%.

Regional data had the Federal Reserve Bank of New York saying that New York manufacturers saw conditions worsening markedly in October. Business conditions dropped 17 points to a record low -24.6.

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A quick browse of October's survey had 22% of respondents indicating that their borrowing needs had increased over the past year, but an even larger proportion - 31% - indicated that their needs had decreased. When asked about changes since July, roughly 20% reported higher borrowing needs and almost the same percentage reported lower needs. The most widely cited reasons for declines in borrowing needs since July were management of existing debt, an increase in revenue, and a reduced need to replace or expand capital equipment.

At 10:00 AM EDT the Census Bureau released its manufacturing and trade inventories and sales figures for August. Inventories rose 0.3% to $1.5 trillion. Sales were estimated to have fallen 1.8% to $1.2 trillion. That had August's inventory/sales ratio at 1.27.

U.S. Market Watch -

My U.S. Market Watch was red across all equity-based indices and sectors for the entire session.

I take that back.

The S&P Banks Index (BIX.X) 154.34 -2.52% was actually in the green for the better part of the day and the Airline Index (XAL.X) 17.88 -3.35% had its moments.

In the last hour of trade however, even the well-nourished lady seemed to have had enough and quit singing "You Are The Wind Beneath My Wings."

The Semiconductor HOLDRs (SMH) $19.10 -6.82%, AMEX Gold Bugs ($HUI.X) 231.32 -10.40% and DowJones Home Construction (DJUSHB) 219.90 -9.10% CLOSED at new 52-week lows today.

American Airlines (NYSE:AMR) $8.78 -0.11% held above its 150-day SMA ($8.57) after the carrier said it earned a profit of $45 million in the recent quarter, helped largely from a $432 million gain from the sale of its investment business, American Beacon Advisors. Without the sale and other one-time items, AMR said it would have lost $360 million, or $1.39/share, which was close to analysts' forecast for a loss of $1.40/share.

American Airlines said it spent $2.72 billion on jet fuel in the recently completed third-quarter, 56.1% more than the $1.74 billion spent a year earlier.

Delta Airlines (NYSE:DAL) $7.44 +1.22% edged up $0.09, but still battles its 150-day SMA ($7.55). For the July-September quarter, the carrier said it lost $50 million, or $0.13/share. Excluding special items, Delta said it would have lost $26 million, or $0.07/share.

Delta said it spent $1.95 billion on jet fuel and related taxes in Q3, which was 54% more than the $1.27 billion it spent a year earlier.

US Oil Fund (USO) - Daily Intervals

Crude oil futures and the U.S. Oil Fund (USO) $60.73 -6.61% settled/closed below a very important near-term level of support today and continues to look vulnerable, especially into Tuesday's November futures contract termination. Open interest in the November contract isn't particularly heavy at 106,920 contracts, but today's 210,193 was and would suggest hesitancy to take delivery.

No price/earnings, no debt/equity ratios here and if the USO's WKLY S2 $57.17 doesn't find buyers, $45-ish looks in play.

Major Global Indexes, Currencies, USO, GLD, HUI, OIX and XLF

Asian markets were showing some sign of "stability" until tonight, and I wanted to monitor Japan's Nikkei-225 at its Thursday open. We weren't expecting a very positive open as the iShares Japan (EWJ) $8.35 -10.40% closed at another multi-year low today, which suggested the $NIKK was going to get hit.

As I type, the $NIKK trades down 921 points, or -9.65% at 8,626.

If we're to see any type of bounce in the U.S. tomorrow, Japan's $NIKK would need to see a MINIMUM decline of 4% at this point.

Then yen as depicted by the CurrencyShares Yen (FXY) $99.47 +1.80% has the yen trading near par ($/y $100 would be par) with the dollar, and the strong yen is NOT positive for Japanese exports, thus their economic outlook.

Japan is the world's 2nd largest economy (ranged by GDP).

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

Last Wednesday, I "drug it down" and this Wednesday, I'm "dragging it down" again!

Today's intra-day action seemed rather "orderly" and no real sign of panic, but the last 30-minutes sure had the look at buyers (bulls or short-covering bears) simply gave up.

Even as I "drag it down" there's still the "tie" way up at 1,208 and the July lows. That is NOT bullish considering the decline from last Wednesday's wrap.

If I were to "drag down" the now 839.80 low to 770, we'd still see a "tie" at what is now the 61.8% retracement at 1,295.

Today's last 30-minutes suggest buyers willing to "give up" and another break to a new low leaves vulnerability to 770 and 700.

Should NEW LOWS at the big board (NYSE) build back above 650 or so, that would also be some sign that the bottom is once again about to give way.

NASDAQ new lows greater than 450 also a negative sign.
 


New Plays

New Option Plays

Call Options Plays
Put Options Plays
Strangle Options Plays
AAPL None None
DIA    
HANS    
MA    
     

Play Editor's Note: Time and time again we have heard the old Wall Street maxim "don't try to catch a falling knife", which essentially states don't try to pick the bottom in a stock or a market. You'll end up getting cut. Unfortunately, that's all the market is offering us these days - a rain of knives!

Long-term investors can just hold their nose and close their eyes and wait for the selling to stop. Or if you're brave you can dollar-cost average as your market gets "cheaper" for you. This newsletter isn't about long-term investors. It's about trading.

I don't think traders have many options right now. If you can't watch your positions and the market during the day then you absolutely need to be sitting out. The volatility swings are horrific. If we don't sit out then we can either go with the trend, which is down, or we can try to buy dips near support. Lately, stocks have been slicing through support with barely a tap on the brakes.

Personally, as bad as the charts look, I do not want to short this market. That may be my emotion getting in the way but it would be too easy to see another +800 point day if something spooks the shorts into covering. That sort of violent rebound is what bear markets typically provide. Granted bear market rallies aren't normally as big as last Monday's move but you get the idea.

If we're not going to buy puts or short equities then we need to be looking for entry points to buy the dip and in this market that means trying to catch the knife! (Or you can sell puts, the strategy I mentioned yesterday and again in today's plays) All of the new plays I am publishing below should be considered very high-risk. It would be all too easy for the market to keep falling. I'm trying to play with a stop wide enough that stocks have room to move but not too wide. Stop loss placement is probably the greatest challenge in this market if you're not day trading.

In addition to tonight's plays I wanted to list a few stocks and where they might find support if the markets keep falling.

SPY: The S&P SPDRs, A drop to 84.00 could be a buy. I'd be a lot more bullish at $80.00.

BIDU: This is a big mover and a drop to $200 could be support.

GILD: I almost played this one tonight but earnings are tomorrow. A drop toward $35.00 could be an entry point near support.

FAST: Watch for a pull back toward $32.50.

ERTS: A dip toward $24.00 might be an entry point.

JOYG: I was tempted to add JOYG to the play list. I'd be tempted to buy calls in the $22.50-20.00 zone with a stop under $20.00.

UTX: A dip near $44.00 with a stop under $40.00 might work.

CAT: I'm watching for a plunge toward $34.00.

COF: I think the company is in trouble but a dip near $31.00 might be a short-term entry point.

BHI: Watching for a dip near $27.00.

YHOO: There is still speculation that someone will acquire YHOO. I would be tempted to speculate on some long-term options on a dip near $10.00. Of course I'd be a lot more bullish on a plunge toward stronger support around $5.00.


New Calls

Apple Inc. - AAPL - close: 97.95 change: -6.13 stop: 79.45

Why We Like It:
Please read tonight's Play Editor's note if you haven't already. If AAPL suffers another irrational sell-off then we want to be ready to buy the bounce. We're suggesting readers buy calls on AAPL if the stock dips into the $85.50-85.00 zone. We'll use a stop loss at $79.45. If triggered our first target is $98.00. Our second target is $109.00.

An alternative strategy, if you read my Play Editor's note from 10/14/08, would be to wait for AAPL to dip toward $90-85 and then sell the November $85 or November $80 puts. That is assuming you don't mind owning shares of AAPL at $85 or $80. A plunge toward $90 could send the November $85 puts toward double-digits.

Suggested Options:
If AAPL hits $85.50-85.00 we're suggesting the November calls. Please note we do not want to hold over the late October earnings report. (These option prices will drop if AAPL hits our trigger, hopefully all in the single digits.)

BUY CALL NOV 90.00 QAA-KR open interest=3812 current ask $17.00
BUY CALL NOV 95.00 QAA-KS open interest=3418 current ask $14.20
BUY CALL NOV 100.0 QAA-KT open interest=6789 current ask $11.70

Picked on October xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/22/08 (unconfirmed)
Average Daily Volume = 10.6 million

---

DIAMONDS - DIA - close: 84.87 change: -8.80 stop: 74.40

Why We Like It:
The DIAMONDS are an ETF that allow us to trade the huge movement in the Dow Jones Industrial Average. We are betting on a retest of last week's lows. Right now the plan is to buy calls on the DIA when it dips into the $80.25-79.00 zone with a stop loss at $74.40. More conservative traders may want to use a tighter stop loss. If triggered at $80.25 our first target is $88.50. Our second target is $94.50.

Suggested Options:
We are suggesting the November calls.

BUY CALL NOV 85.00 DAV-KG open interest=1085 current ask $7.45
BUY CALL NOV 90.00 DAV-KL open interest=2474 current ask $3.75
BUY CALL NOV 95.00 DAV-KQ open interest=2376 current ask $2.99

Picked on October xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 00/00/00
Average Daily Volume = 30 million

---

Hansen Natural - HANS - close: 24.16 change: -1.94 stop: 19.45

Why We Like It:
This is another play where we are trying to buy the fear and sell the bounce. Nimble and aggressive traders might want to use bearish plays to ride HANS lower. We're suggesting readers buy the dip in the $20.65-20.00 zone with a stop loss at $19.45. A breakdown under $20.00 would be extremely bearish for a stock that's already in a bearish trend (as is most of the market). If triggered at $20.65 our first target is $24.50. Our second target is $27.50.

An alternative strategy would be wait for the drop toward $21-20 and then sell the November $20 puts as long as you don't mind owning HANS at $20.00. If HANS dips toward $20 the November $20 puts could spike to $4.50-5.00ish. That offers a lot of room to protect yourself. See my Play Editor's note on 10/14/08 for more details.

Suggested Options:
If triggered at $20.65 we're suggesting the November calls. We do not want to hold over the early November earnings report.

BUY CALL NOV 22.50 QHO-KX open interest= 113 current ask $4.70
BUY CALL NOV 25.00 QHO-KE open interest= 481 current ask $3.50

Picked on October xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 11/06/08 (unconfirmed)
Average Daily Volume = 10.6 million

---

MasterCard - MA - close: 153.55 chg: -20.52 stop: 118.99

Why We Like It:
MasterCard is purely a credit card processing company. They don't have any exposure to consumer credit and yet the stock is getting killed. Bears could argue that if the economy is slowing down that consumers will make few transactions, which might hurt MA, but the trend toward using less checks and less cash and more plastic is a long-term bullish trend for MA. We're suggesting readers speculate on a bounce with buying a dip in MA in the $130.00-120.00 zone. If triggered our first target is $149.50. Our second target is $167.50. This is a very volatile stock and options are extremely expensive. This play is not for everyone.

A smarter strategy might be selling puts if you're familiar with the concept I suggested yesterday in my note. If MA trades near its lows near $140 or to where I think it might trade near $130, then investors could sell the November $130 or $125 puts. If MA trades that low these puts could be trading around $15-20 each. That gives you a lot of room to be wrong if MA keeps falling. Remember you have to be willing to own shares of MA if you get put the stock and you'll definitely need the funds to cover the stock purchase.

Suggested Options:
We are suggesting readers buy November calls on MA if the stock trades in the $130-120 zone. Remember, these options will be priced a lot lower with MA near our entry point.

BUY CALL NOV 140.00 MAL-KH open interest= 139 current ask $26.40
BUY CALL NOV 150.00 MAL-KJ open interest= 236 current ask $20.70
BUY CALL NOV 160.00 MAL-KL open interest= 298 current ask $16.10

Picked on October xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 11/03/08 (confirmed)
Average Daily Volume = 3.8 million
 

New Puts

None today.
 

New Strangles

None today.
 

Play Updates

Updates On Latest Picks

Call Updates

None
 

Put Updates

Volatility Index - VIX - cls: 69.25 chg: +14.12 stop: n/a

There is no doubt about - these have to be the most volatile markets ever. The Friday-Monday move in the VIX looked like a typical blow-off top sort of pattern. Today's massive sell-off in equities pushed the VIX to a 25% gain and back near its highs. If you're nimble enough traders could open new put positions on a move into the 75-80 range but the worst part of that plan is the obscene prices on the VIX options, which are soaring due to the extreme volatility in the market. Even if the VIX collapses it will have a negative impact on option premiums. Selling volatility seems like the best bet - see our spread play in the strangle section.

Note: The VIX options, which are European style options, have a unique expiration date. October VIX options expire on October 22nd, 2008. November VIX options expire on November 19th, 2008. The last day of trading for these options is the Tuesday before expiration. For more information check this link.

Our September 16th put position (suggested entry at 30.30) has a 25.50 target. In all honesty this position may be dead. We still have plenty of time with these next two. The September 29th position (suggested entry at 46.72) has two targets at 36.00 and 31.00. Our October 8th position (entry 57.53) has two targets at 40.00 and 35.00.

Picked on September 16 at = 30.30 first position
Change since picked: +38.95
Picked again Sept. 29 at = 46.72 second position
Changed since picked: +22.53
Picked again Octo. 08 at = 57.53 third position
Changed since picked: +11.72
Earnings Date 00/00/00
Average Daily Volume = --- 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.)

---

CBOE Volatility Index - VIX - cls: 69.25 chg: +14.12 stop: n/a

If you missed your chance to sell some options on the VIX Monday morning we're getting a second chance today. The VIX has rocketed back to its highs near 70. There is a good chance the market will continue lower on Thursday morning, which should push the VIX toward its intraday highs. If you're considering new positions think about waiting for the VIX to near or pass its highs from last week.

Please see the CBOE website or our Sunday play description for details on margin requires for selling VIX options.

Note: VIX options are European style options that settle for cash at expiration. Furthermore VIX options have unique expiration dates. October options expire on Wednesday, October 22, 2008 and will stop trading on Tuesday, Oct. 21. November options expire on Wednesday, November 19, 2008 and will stop trading on Tuesday, November 18th.

We have listed two different plays. The strategy was to sell an deep in-the-money call to collect the premium while buying a much higher call as a partial hedge should the VIX remain extremely elevated.

VIX spread #1 with October options:

We wanted to SELL the October 40 calls (the opening price Monday morning was $13.00) and BUY the October 60 (open was $2.90) as a hedge against the VIX remaining elevated.

Here is the strategy in another format:
SELL CALL OCT 40.00 VIX-JH.
Monday 10/13/08 open 13.00, high 15.16, closed 11.00
Update 10/15/08 open 11.00, high 17.00, closed 17.00 (2nd chance)

-and-
BUY CALL OCT 60.00 VIX-JN.
Monday 10/13/08 open 2.90, high 3.70, closed 1.80
Update 10/15/08 open 1.35, high 5.00, closed 4.40 (2nd chance)
--
VIX spread #2 with November options:

We wanted to SELL the November 30 calls (opening price was $ 8.60) and BUY the November 50 (opening price was $1.61) as a hedge against the VIX remaining elevated.

In a different format the play is:

SELL CALL NOV 30.00 VIX-KF.
Monday 10/13/08 open 8.60, high 9.80, closed 8.40
Update 10/15/08 open 10.00, high 13.00, closed 13.00 (2nd chance)

-and-
BUY CALL NOV 50.00 VIX-KJ.
Monday 10/13/08 open 1.61, high 2.10, closed 1.50
Update 10/15/08 open 2.00, high 3.60, closed 3.60 (2nd chance)

Picked on October 12 at $ 69.95
Change since picked: - 0.70
Earnings Date 00/00/00
Average Daily Volume = ---
 

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.

DISCLAIMER

Option Investor Inc is neither a registered Investment Advisor nor a Broker/Dealer. Readers are advised that all information is issued solely for informational purposes and is not to be construed as an offer to sell or the solicitation of an offer to buy, nor is it to be construed as a recommendation to buy, hold or sell (short or otherwise) any security. All opinions, analyses and information included herein are based on sources believed to be reliable and written in good faith, but no representation or warranty of any kind, expressed or implied, is made including but not limited to any representation or warranty concerning accuracy, completeness, correctness, timeliness or appropriateness. In addition, we do not necessarily update such opinions, analysis or information. Owners, employees and writers may have long or short positions in the securities that are discussed.

Readers are urged to consult with their own independent financial advisors with respect to any investment. All information contained in this report and website should be independently verified.

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