Option Investor

Daily Newsletter, Wednesday, 10/22/2008

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Table of Contents

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

Market Wrap

Phillies Vs. Rays At 8:00 PM Eastern!

Stocks around the globe retreated on Wednesday, where from the opening bell it appeared buyers were more interested in handicapping this year's World Series than buying stocks.

While baseball is thought to be "America's favorite pastime," selling stocks and commodities for a couple of days after a Monday gain has also become the "world's favorite pastime."

Any baseball aficionado knows that in Japan, baseball ranks high among viewer interest, and Wednesday's 631-point decline for the Nikkei-225 ($NIKK) 8,675 -6.79% was equivalent to being down 6 runs in the top of the first inning when other Asian markets were yet to open.

Hong Kong's Hang Seng ($HSI) faired only slightly better with a 775-point, or 5.15% decline to finish at 14,267. Buyers had one more pitch to hit, but after a few foul balls, struck out with the Shanghai Composite ($SSEC) falling 62 points, or -3.20% to 1,896.

In Europe, where sports fans would rather kick a ball than swing at it, London's FTSE-100 ($FTSE), Germany's DAX ($DAX) and France's CAC-40 ($CAC) fell roughly 5% as worries about the global economy persisted.

Wednesday's Global Economic Calendar

While Italy's -0.5% decline in August retail sales isn't what many would consider to be a key economic report from the Euro block, a 0.3% month-to-month decline in food sales and a 0.7% decline in non-food sales offered little reason for optimism.

MPC minutes looked like a box score with all members voting unanimously for the 50 basis point cut earlier this month to 4.5%. The Bank of England's Mervyn King said he thought that the British economy was probably entering a recession.

James Knightley of ING said he thought the base case for further cuts would be to cut rates further, to as low as 2.75% in the first half of 2009.

The British Pound was hammered further lower as depicted by the British Pound CurrencyShaes (FXB) $162.69 -2.68% plunging further since our visit on Wednesday.

The only economic report here in the US was the weekly EIA inventory and refinery utilization figures, and while oil was weak ahead of the data, "peak oil" continue to try and find its trough.

EIA Weekly Inventory and Refinery Data

If there was ONE surprise in today's figures, it was the DECLINE in the # Days Supply of Crude oil, which actually FELL to 22.6 days supply from last week's 23.7 days.

While this 1.1-days supply decline comes from a lofty level of 23.7 days supply, refiners continue to come back online with utilization (up to 84.75%) after Hurricane Ike (66.71%).

December Crude (cl08z) - Daily Intervals

In early September, as the above contract broke lower from $117.48 to $108.47, that decline and subsequent selling had the December contract's Point and Figure chart building a BEARISH vertical count to $63.00. While BEARISH and BULLISH vertical counts may be traded, sometimes exceeded, and sometimes NEVER met, the December futures contract gets my "chart of the week" status as the bearish vertical count nears.

In today's Market Monitor at OptionInvestor.com, I also reviewed some recent history in late 2006 where the euro, which has been a key driver for oil's weakness, the # Days Supply of Crude Oil, and the PRICE of the US Oil Fund (USO) $54.93 -6.53% are starting to line up in equilibrium.

Bears can stay short, but a move above the $76.24 level from a benchmark prior month's termination benchmark (November Crude Oil terminated yesterday, Tuesday), could bring in some powerful short covering.

One of the PRIMARY reasons traders want to note VERTICAL COUNTS is to assess RISK/REWARD to the count.


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At today's settlement of $66.75, REWARD for a BEAR to the VERTICAL COUNT is $3.75.

In the above chart, I did add a "-11.8 fib," which is nothing more than the technique I've taught traders over the years. It is the SAME type of fibonacci range as 50% to 38.2% if taken from the recent pre-termination low settlement of the November contract. The "-19.1% fib," is nothing more than the same fibonacci range from 38.2% to 19.1%, again taken from the pre-termination low settlement of $70.26.

Now, let's take a look at our Global Equity benchmarks, but let's also focus in on some of our "oil equity/oil commodity" and our "gold equity/gold commodity" benchmarks.

There could be a couple of "arbitrage-like" trades here as the discrepancies continue to play out.

Major Global Indexes, Currencies, Oil, Gold, HUI, OIX, XLF

First things first, and I started noticing this several days ago, is that the Russell 2000 (RUT.X) and the Select Financial SPDRs (XLF) 14.64 -6.27% are really moving in unison in Q3 and so far Q4. Now, the XLF doesn't have a "small cap" in the bunch, but the RUT.X's most heavily weighted sector is financials themselves.

Point here is that an ASSET ALLOCATION doesn't need both at this point in the game.

Now check out the USO and a "like" equity index in the CBOE Oil Index (OIX.X) 507.13 -10.8%. Not that much different Q3 and so far Q4, but on a 2008 YTD, USO the commodity -27.13% yet OIX.X -43.13%. A trader here may be to be LONG an oil STOCK and short the commodity (see above for a stop on the commodity), but the difference on a 2008 YTD suggests something has to give. AGAIN ... CALL/PUT OPTIONS a great way to MINIMIZE capital exposure, but when the PRICE MOVE comes, it can come QUICKLY and SIGNIFICANTLY.

Now, even MORE notable is the StreetTracks Gold (GLD) $72.01 -5.28% today (~$720.10 spot) and the Amex Gold Bugs Index ($HUI.X) 168.36 -16.32% today, but LOOK at the 2008-YTD discrepancy GROWING and the Q3 and Q4 to date. Here the trade is to pick a "gold" equity on the call side, and PUT the commodity still.

One blurb I caught on the news wire today was Russia's central bank saying it expects its GOLD and foreign exchange reserves to grow at a slower pace than originally planned this year and next, amid a plunge in oil prices and outflow of capital from the country.

I (Jeff Bailey) mentioned that I was "surprised" Russia's central bank used the word "grow" as it relates to any GOLD buying, as their currency has been PLUNGING, there equity markets have seen SEVERAL halts due to mass liquidation. It is usually this that has the country's central bank DUMPING gold on the market in order to raise cash it so desperately needs.

Isn't that why some stuff their mattress with gold?

Here, let's take a quick look at the U.S. Market Watch, and while we still can with QCharts' 5.01 version, take a look at the 20DyNet% as well as some of today's "sea of red."

I can tie USO with OIX.X, UNG with XNG.X, and SLV/GLD with HUI.X.

U.S. Market Watch - 10/22/08 Close

On certain days we'll see some INCREDIBLE percentage moves from the equity-side of things, ESPECIALLY the sectors that are "tied" with a commodity.

See the GOLD/SILVER disparity with the HUI.X? MUCH greater than the OIL/OIX.X and Nat.Gas/XNG.X.

It has been my observation and teachings over the YEARS that the COMMODITY tends to FOLLOW the equity trade.

Remember the Market Wrap from Wednesday 10/08/08. Due to some type of glitch, it didn't get posted until Friday, so view that day's "archive" 10/10/2008.

But here's what happened since. Let's keep the same "0%" fibonacci anchor point, and like I showed above in the cl08z, let's add some -11.8%, -19.1% and even a -38.2%.

AMEX Gold Bugs ($HUI.X) - Daily Interval

Here we are two (2) weeks later, and the HUI.X after popping 18.7% reversed course. The COMMODITY SHOULD FOLLOW the stocks.

A "gold stock" that tends to trade UP in BIG moves and shows is GoldCorp (NYSE:GG) $16.75 -15.91%. On 10/08/08 it closed $31.02.

I'm not kidding! Slam dunked -50% without the benefit of a 2:1 stock split.

PUT the GLD, and CALL shares of GG. Something has "gott'a give!"

There were a lot of earnings reported today. Some of the more notables were ...

Dow component and drug giant Merck (NYSE:MRK) $28.01 -6.53% saying Q3 earnings fell to $1.09 billion, or $0.51/share, on weakness in its cholesterol-drug joint venture. The company did lower the long-term forecast that it withdrew in July and says it will cut 7,200 jobs by 2011.

Telecom giant AT&T (NYSE:T) $23.78 -7.57% said its Q3 net rose to $3.23 billion, or $0.55/share, with revenue rising 4% to $31.34 billion as launch of Apple's iPhone 3G helped boost its wireless business, but subsidies paid to Apple weighed on results.

Boeing (NYSE:BA) $42.91 -7.52% said its Q3 net fell to $0.96/share, with results hurt by the ongoing machinists strike. Revenue fell 7%.

Fast-food giant McDonald's (NYSE:MCD) $54.18 -1.72% said quarterly profits rose to $1.19 billion, or $1.05 a share, besting analysts' expectations of $0.98/share. Comparable-store sales rose 7.1% globally, but only 4.7% in the U.S.

Energy producer and refiner ConocoPhillips (NYSE:COP) $49.06 -9.08% Q3 net rose to $5.19 billion, or $3.39/share, which was above analysts' expectations of $3.06 a share, with revenue climbing 52% to $70 billion amid higher energy prices.


Tobacco giant Philip Morris (NYSE:PM) $40.83 -3.15% said Q3 net rose to $2.08 billion, or $1.01/share. Analysts' were looking for $0.90/share. Company execs said revenue jumped 22% across its markets despite a global economic crisis.

Northwest Air (NYSE:NWA) $11.87 -1.33% said it posted a Q3 loss of $317 million, or $1.20/share, but excluding fuel hedging losses, it would have earned $0.35/share, topping estimates of $0.25/share. Revenue rose 12% to $3.8 billion, above its September projection of 10% growth, helped by fees for checked bags.

One question I keep seeing asked is "capitulation" signs. Another is ... "how does an index trader trade this mess of price volatility?";

Here's what we can do with a Point and Figure chart of the S&P Depository Receipts (SPY) $90.64 -5.44%, which would have fallen 5-boxes today.

With StockCharts.com's PnF charts, we can turn on VOLUME of each column, we can also look at how MARKET participants may be trading.

SS&P Depository Receipts (SPY) - $2 and $1 box

Volume observations don't suggest a "capitulation" low at this point. See the 5th's column from the right? Even that ooong column of O (supply/selling) didn't generate as much as the "little" column of O nine (9) columns from the right, from $140 to $120.

See the "triangle" starting to form? Lower highs and higher lows??

One pattern that might be worth trading near-term is to simply look for a 3-box reversal.

Example of what MARKET participants might be doing is "everybody in" at $87. Then "everybody out" at $99. Then "everybody in" at $90. Then everybody out yesterday at $96.

With SPY having traded $88 today, a 3-box reversal would be $91.

Feel the "compression" as you say "everybody in," and "everybody out?"

That's the triangle.

New Plays

New Option Plays

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

New Calls

Energy SPDR - XLE - close: 44.20 chg: -4.76 stop: 37.45

Why We Like It:
The XLE Select Sector Energy SPDRs is an exchange traded fund (ETF) for the oil, energy, gas and services sector. The XLE lost almost 10% today and looks like it could dip toward its October lows. The market is very oversold again and it's setting up for another one of those huge short-covering rallies. The 2008 October low was $38.84. We are suggesting that readers begin buying calls on the XLE in the $40.50-39.00 zone with a stop loss at $37.45. More conservative traders may want to use a much tighter stop loss. If triggered we're setting two targets. Our first target is $45.00. Our second target is $49.75.

Suggested Options:
We are suggesting the November calls. These options will be a lot less at our entry point (40.50).

BUY CALL NOV 40.00 XLE-KN open interest=1345 current ask $7.05
BUY CALL NOV 43.00 XLE-KQ open interest=1735 current ask $5.20
BUY CALL NOV 45.00 XLE-KS open interest=2340 current ask $4.10

Picked on October xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 00/00/00
Average Daily Volume = 47.7 million

New Puts

None today.

New Strangles

None today.

Play Updates

In Play Updates and Reviews

Call Updates

CSX Corp. - CSX - close: 43.56 chg: -1.51 stop: 37.99

Railroads were not immune to the sell-off but the railroad index did perform better than the S&P 500. CSX was not quite so lucky and shares lost 3.3% by the closing bell, while paring its losses with a quick bounce before the close. Volume appears to be very light on CSX's decline, which might be considered somewhat bullish. The intraday low was $41.43. We are still waiting for CSX to hit our entry point. We're suggesting readers buy calls in the $40.50-40.00 zone. If triggered at $40.50 we have two targets. Our first target is $45.00. Our second target is $48.00. Traders need to be aware that two of CSX's rivals, BNI and UNP both report earnings on October 23rd this week. Their earnings news and guidance could have a big impact on CSX's performance.

Picked on October xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/14/08 (confirmed)
Average Daily Volume = 6.5 million


DIAMONDS - DIA - close: 85.50 change: -4.88 stop: 74.40

The DJIA is pulling back as we expected. We're still waiting for our entry point. We are suggesting that traders buy a dip in the DIA in the $80.25-79.00 zone. If the DIA hits our trigger to buy calls at $80.25 our first upside target is $88.50. Our second target is $94.50. More conservative traders may want to use a stop loss much tighter than our stop at 74.40.

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: 23.40 change: -0.70 stop: 18.95

HANS actually out performed the S&P 500 with the beverage company's stock only falling 2.5%. We're still expecting a dip toward $20.00. We are suggesting readers buy calls on a dip into the $20.65-20.00 zone. If we are triggered at $20.65 then our target to exit the calls is at $24.50 and then $27.50.

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


iShares Russ.2000 - IWM - cls: 50.49 chg: -2.69 stop: 44.90

The Russell 2000 small cap index suffered a rough 5.4% loss and the IWM almost kept pace with a 5% decline of its own. The low for the IWM today was $49.31. We suspect that stocks will bounce when they hit their October lows. Right now we're suggesting readers buy calls on the IWM in the $48.50-45.00 zone. More conservative traders will certainly want to wait for the IWM to near the lower end of that entry range before initiating positions. If triggered at $48.50 we're listing two targets. Our first target is $54.50, which could be hit in just a few days. Our second target is $58.00, which might take a few weeks.

Picked on October xx at $ xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 00/00/00
Average Daily Volume = 123 million


MasterCard - MA - close: 140.93 chg: - 8.85 stop: 118.99

We're being tested now on our decision to yank the $140 entry point on MA. The stock slipped to $134.96 (-$14.82 at its low) before bouncing back above $140. Last night we deleted the suggested entry to buy calls on MA at $141 and stuck to our lower entry point to buy calls on a dip into the $131.00-120.00 zone instead. Given the market's weakness odds are definitely growing that MA will hit new relative lows. If triggered at $131.00 we have two targets. Our first target is $158.00. Our second target is $169.50.

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

Put Updates

Alliant Tech - ATK - close: 78.07 change: -3.32 stop: 83.05

We did not have to wait very long for ATK to hit our trigger to buy puts. The stock gapped down to open at $80.16 and then hit our trigger at $79.75. If you missed the entry point look for a failed rally near $80.00 or even a failed rally in the $82.00 region as a new entry point to buy puts. Our target is the 74.50 mark, just above the October low. We do not want to hold over the late October earnings report.

Picked on October 22 at $ 79.75 *triggered
Change since picked: - 1.68
Earnings Date 10/30/08 (confirmed)
Average Daily Volume = 340 thousand


CSX Corp. - CSX - close: 43.56 change: -1.51 stop: 45.55*new*

CSX under performed its peers in the railroad sector. The stock lost 3.3% and dipped to $41.43 intraday. Our exit target is $40.50 where we would take profits on this put play and switch to buying calls (see our call section). We are reducing the stop loss to $45.55, just above today's high.

Picked on October 21 at $ 45.07
Change since picked: - 1.51
Earnings Date 10/14/08 (confirmed)
Average Daily Volume = 6.9 million


Ultra Dow30 ProShares - DDM - cls: 32.42 chg: -3.85 stop: 36.30*new*

The DDM is certainly moving our direction. Unfortunately, this ultra-long ETF on the DJIA actually gapped down to open at $34.34. Shares dipped to $30.55 intraday. Our target is the $30.50-30.00 zone - so almost a winner on the first day! We are adjusting the stop loss to $36.30. More conservative traders may want to tighten their stops closer to $35.00 or even toward today's high instead (34.66). We are not suggesting new positions at this time.

Picked on October 21 at $ 34.34 /gap open entry/
Change since picked: + 0.00 /originally listed at 36.27
Earnings Date 00/00/00
Average Daily Volume = 6.9 million


Energizer Holdings - ENR - close: 55.85 chg: -2.55 stop: 61.65

ENR continued lower as we expected but shares gapped open lower at $57.62. The intraday low was $54.64. More conservative traders may want to start thinking about a tighter stop loss already. Another failed rally in the $58.50-60.00 zone could be used as another entry point if you missed this morning. Our target is the $52.00-50.00 zone. We do not want to hold over the late October earnings report.

Picked on October 21 at $ 57.62 /gap down entry/
Change since picked: + 0.00 /originally listed at 58.40
Earnings Date 10/30/08 (confirmed)
Average Daily Volume = 838 thousand


Monsanto - MON - close: 78.40 chg: -6.98 stop: 90.15

First target achieved. We were expecting some sharp moves lower for MON and shares gave up more than 8% today. Unfortunately, our play started with a gap down entry at $82.10 this morning. The low today was 75.86, which is good enough to hit our first target at $76.00. We're not suggesting new positions at this time but a failed rally under $85.00 is a good spot to look for another entry point. Our second target is the $70.50 mark. Be advised that MON could see a lot of volatility on Thursday following a couple of earnings reports from rivals in the sector.

Picked on October 21 at $ 82.10 /gap down entry/1st target hit
Change since picked: + 0.00 /originally listed at 85.38
Earnings Date 12/31/08 (unconfirmed)
Average Daily Volume = million


Volatility Index - VIX - cls: 69.65 chg: +16.54 stop: n/a

Another multi-hundred point drop in the DJIA and a 6% loss in the S&P 500 lifted the VIX to a 31% gain. The intraday high appears to be in the high 70s not the 81.45 some quote services display. Moves of this magnitude in the VIX are simply amazing. Another way to play this extreme volatility might be to sell calls. Think about it. The VIX is at super extreme levels right now and it's unheard of that it has been able to last this long (about three weeks above 60). What are the odds it will last another four weeks? If the VIX spiked toward 80 again more aggressive traders may want to start selling 80 (or higher) strike price November calls. If the VIX closes under 80 at November expiration the calls will settle at zero.

We are not suggesting readers buy new puts at this time. With volatility this high the option prices are outrageous.

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: +39.35
Picked again Sept. 29 at = 46.72 second position
Changed since picked: +22.93
Picked again Octo. 08 at = 57.53 third position
Changed since picked: +12.12
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: 69.65 chg: +16.54 stop: n/a

This extreme spike back toward 70 and beyond in the VIX is another entry point to sell the November spread. We're marking this down as a new position except this time we'll sell the November 35 calls and buy the November 60s. See the details below.


Please see the CBOE website or our Sunday, October 12th 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.

VIX spread #1 has been completed.

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:

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
Update 10/16/08 open 13.70, high 16.20, closed 13.25
Update 10/17/08 open 15.55, high 17.70, closed 17.50bid
Update 10/20/08 open 16.30, high 17.20, closed 15.00bid
Update 10/21/08 open -----, high 15.50, closed 14.40bid
Update 10/22/08 open 16.40, high 19.20, closed 18.10bid

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
Update 10/16/08 open 3.70, high 5.50, closed 3.65
Update 10/17/08 open 4.50, high 5.30, closed 5.50ask
Update 10/20/08 open 3.90, high 5.30, closed 4.40ask
Update 10/21/08 open ----, high 4.70, closed 3.80ask
Update 10/22/08 open 4.30, high 6.60, closed 6.40ask

Picked on October 12 at $ 69.95
Change since picked: - 0.30


VIX spread #3 with November options (published 10/22/08):

We wanted to SELL the November 35 calls (opening price was $ x.xx) and BUY the November 60 (opening price was $x.xx) as a hedge against the VIX remaining elevated. We'll fill in the prices Thursday morning. Our account will be credited with the amount for selling the November 35 calls, while it the price paid for the 60 calls will be deducted.

In a different format the play is:

Wednesday 10/22/08 closed at 14.00 bid

Wednesday 10/22/08 closed at 3.70 ask

Picked on October 12 at $ 69.65
Change since picked: - 0.00

Dropped Calls


Dropped Puts


Dropped Strangles


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


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.

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