Option Investor
Newsletter

Daily Newsletter, Saturday, 10/31/2009

Table of Contents

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

Market Wrap

October Ends With A Rout

by Jim Brown

Click here to email Jim Brown

Weak economics, cautious earnings outlooks and fiscal year end for mutual funds combined to push the indexes to their lowest levels in three weeks.

Market Statistics

October ended with a thud as the indexes closed at multi week lows. Thursday's +200 point short squeeze was completely erased and had time not expired the markets would probably be even lower. There were multiple factors in play and I will try to cover all of them.

Starting with Friday's economic reports the Michigan Consumer Sentiment survey fell to 70.6 from 73.5. This should not have been a surprise since the October consumer confidence report fell off the cliff earlier in the week. Growing concerns about the economic outlook was blamed for the drop in sentiment. The present conditions component actually rose to 73.7 from 73.4. However the expectations component fell sharply to 68.6 from 73.5. Clearly consumers are concerned about what the economy will look like in the future. Concerns over rising taxes are also weighing on consumers. Rising gasoline prices and worries about job security and home values continue to be negative issues.

Thomson Reuters reported that only 31% of consumers surveyed had a favorable economic outlook in 2010. That is only 3% above the 28% recorded in October 2008 at the bottom of the crisis. The majority of consumers reported their finances had worsened in October. That is the 13th consecutive month and the longest and steepest decline in the 66-year history of the Consumer Sentiment survey. Only 12% reported improvement in their finances and that was also the lowest on record. Also, for the first time in sixty years the majority of families expected their incomes to be flat or lower in the year ahead.

Consumer Sentiment Chart

The Personal Income report for September showed incomes were flat from August when incomes rose +0.2%. Wages are currently more than 5% below last years level. Real spending fell sharply by -0.6% led by a drop in auto sales after the cash for clunkers program ended. Overall durable goods spending fell by a whopping -7%. In the same report the core PCE deflator rose +0.1% for the fifth consecutive month. This shows that prices are rising while spending is slowing. The savings rate rose to 3.3% and the second month of growth after years of declines.

Of all the economic reports on Friday the drop in spending was the worst for investors. This suggests the recovery is slipping and is dependent on government spending to continue. Since no government in history has been able to spend itself into prosperity the long-term outlook is not good. Eventually the government will have to quit supplying stimulus and raise taxes to pay for the credit incurred for the stimulus. If the consumer has not recovered to take up the consumption slack by time the government quits then it will be a very long recovery road.

The Chicago ISM report (formerly PMI) was very positive with a jump from 46.1 to 54.2 on the headline number. Positive inputs came from strong gains in New Orders, Backorders and Production. However, employment fell slightly and suggests the non-farm payrolls on Friday could be worse than expected. The manufacturing trends in the Chicago area have improved significantly since the automakers went back to work.

ISM Table

ISM Chart

The ISM New York (formerly NAPM-NY) was also released on Friday and it also showed improvement although not on the scale of the ISM-Chicago. The difference is clearly the resumption of production by automakers in the Chicago report. The conditions in the New York area are recovering but they are far less robust than Chicago.

However, the current conditions component fell to 60.8 from 72.9 in October and the employment component fell to 45.7 from 47.3. The employment component was 26.1 last October so conditions have improved significantly but any number under 50 remains a contraction. Employers are still cutting jobs but the pace of layoffs is slowing. At this point New York is still in recession but it is moderating. On Monday we will get the national ISM and it is expected to show a minor gain.

ISM-NY Chart

The economic calendar for next week has some huge events that could be market movers. I already mentioned the national ISM on Monday followed by the ISM Services on Wednesday. Gains are expected on both reports. The Factory Orders on Tuesday is expected to show an increase of +0.8%. The really big reports are the Fed meeting announcement on Wednesday and the Jobs report on Friday.

Nobody expects the Fed to change rates on Wednesday. What they are expecting is some tough talk about what to expect in the rate department. With Australia and Norway already hiking rates and seven other central banks announcing rate decisions next week the Fed will be under the gun to take a strong stand on U.S. rates. If they don't and other nations raise rates that will further weaken the dollar.

The Fed will try to walk the tightrope between taking a hard line towards future rate hikes while at the same time trying to keep rates low until the last possible minute to stimulate the recovery. They will also comment on what they see as the state of the economy. They will have advance info on Friday's jobs report so any decision they make will be done with that in mind. The FOMC statement at 2:15 on Wednesday will be a market mover.

The Non-Farm Payrolls on Friday will be the real read on the economy and the state of the recovery. The ISM may tell us in economic terms that a recovery is underway but if the payroll report says we are still losing jobs at a higher than expected rate then the payroll report will be the deciding factor.

Consensus estimates are for a loss of 175,000 jobs in October. This would be down from the 263,000 lost in September. However, nearly every regional economic report of late has seen a drop in the employment component. That suggests that there will be more jobs losses than currently expected. Obviously there are as many opinions as there are analysts. Moody's Economy.com is predicting only 75,000 jobs lost. I am not going to speculate on the number of jobs but I don't expect much change in the unemployment rate and that is what is going to keep the U.S. from recovering. Using the U6 unemployment there are over 15 million people out of work and growing. Those people are not consuming, not buying cars or houses or flat screen TVs. They are also not paying takes so that is another drain on the deficit. This is why the payroll report is so important. It provides information on the actual heartbeat of the economy, the actual consumer.

Economic Calendar

While I am on the subject of economics I want to touch on the Q3-GDP. The headline number at 3.5% is totally bogus for measuring the strength of the recovery. This is the GDP for Q3, not year to date. The GDP was dramatically influenced by the cash for clunkers program, which added 1.66% to the headline number, homebuyer incentives, etc. Government spending rose 7.9% in the quarter also adding significantly to the GDP. In short the government bought the 3.5% GDP for Q3 with its various incentives. This is a short-term bounce not the beginning of a trend. For instance estimates for Q4 GDP are being quoted at +1.8% to +2.2% in most cases or roughly half of Q3. There will still be some stimulus in the Q4 GDP so it is still not a true picture of our economic health. Stimulus tends to move buying events forward leaving a void when stimulus ends. We saw that with cash for clunkers. Everyone thinking about buying a car in Q4 rushed to do it in Q3 instead. Now auto sales in Q4 are nearly non-existent. As these facts become more widely accepted the idea that the economy is rebounding sharply from the recession will eventually fade. With 15 million people out of work it will be nearly impossible to create a quick economic recovery. Analysts are now saying it could be the second half of 2010 before a credible recovery appears.

These factors are giving more credibility to the "VV" recovery scenario. High unemployment and earnings built on cost cutting rather than revenue growth are not a recipe for recovery. Growth will eventually come and when it does the companies who cut the most costs will have stellar earnings and their stock prices will soar. That growth may not arrive for several more quarters.

The strength of the dollar continues to rule our equity markets. Last week the dollar gained ground on four of the five days and the equity markets posted losses of 3%-9%. The dollar gained strength last week on rumors of central bank intervention in other currencies. The Swiss National Bank was rumored to have intervened in the Franc against the Euro and the dollar. Shorts in the dollar had a bad week and this is a very crowded trade. The U.S. dollar will remain under pressure simply because our debt is growing rapidly and our economy is not. Interest rates are nearly zero and the only reason anyone would buy the dollar today is due to its apparent safety. How much longer that will last is anybody's guess.

Art Cashin was interviewed last week and he said a disaster was building in the dollar. With everyone short the dollar and long term expectations for a continued decline there was an imbalance building. He theorized that an eventual geopolitical event like Israel or the U.S. bombing Iran would create a stampede to the safety of the dollar while short positions were at record levels. He said this could seriously undermine our markets, both currency and equity, and create a massive disaster. Remember, the derivative trades in currencies have far reaching impacts. If traders are short the dollar they may be long another currency or basket of currencies. If everyone suddenly rushed into the dollar those interlocking currency trades would be wiped out. This could be another major financial crisis and it could occur overnight under the right circumstances. This is why weeks like we had last week are good in a down trending trade. It reminds investors that there is risk involved and all trades are not guaranteed winners. I would not be surprised to find out that the Fed or Treasury spiked the dollar just to keep everyone on their toes.

Dollar Index Chart

Oil stocks and especially oil service stocks had a tough week. The rising dollar crushed oil prices while services companies and majors alike reported sharply lower revenues and earnings. Crude oil has no fundamental basis over $80 at present. OPEC still has millions of barrels of production shutdown despite cheating by nearly every OPEC member. Inventories are very high and there is simply no justification for these prices. I believe support at $77 will break and we should see $70 oil before we see $85 oil.

Crude Oil Chart

Oil Service Index Chart

The FDIC closed 9 banks on Friday with locations in California, Illinois, Texas and Arizona. That brings the 2009 total to 115. All were owned by a privately held bank holding company named FBOP Corp. US Bank agreed to assume the deposits and most of the assets. The banks had combined assets of $19.4 billion and deposits of $15.4 billion. The banks had 153 locations all of which will open as US Banks on Saturday. The closings will cost the FDIC $2.5 billion plus shared losses on $14.4 billion in USB assumed assets. The FDIC expects hundreds more to fail over the next two years. There were 25 failures in 2008 and three in 2007. The FDIC has spent more than $25 billion so far in 2009 on bank closures. There will be more next week because the FDIC is currently seeking bids on several other pending closures.

The Volatility Index (VIX) exploded for a 41% gain for the week with 24% of that gain coming on Friday alone. The VIX had been slowly bleeding value as investors bought the earnings expectations in early October. That calm exterior exploded with a rebound from 20.10 last week to a high of 31.59 on Friday. This was also a reminder that bulls should not become complacent in their long only positions. The VIX at 30 is historically a level where traders felt comfortable buying the market but after the last year of volatility where the VIX hit 89 in October 2008 I am not sure there is a comfortable reentry point today.

VIX Chart

The month of October was not kind to traders if you failed to exit during the peak of earnings. The Dow finished unchanged for the month but the other indexes were not so lucky. The S&P lost -2%, Nasdaq -3.6%, Transports -4.9% and the Russell -6.9%. I suggest you take special interest in the Russell decline. You know I favor the Russell as the fund manager sentiment indicator and that is some ugly sentiment. The Russell gave back -6.3% last week alone. An entire month of losses in only one week.

The Russell closed September at 604 and rallied to 624 at the peak of earnings for a +3.3% gain. That means the Russell actually declined -10% from its October highs and I don't think the damage is over. I wrote on Tuesday that 580 was the initial support target and a break of 580 could test 550. The Russell closed at 563 on Friday. We need to pray that support at 550 holds or we are in serious trouble since the next material support is 500. The October closing high was 623.64 making a 10% correction a drop to 561.28. The intraday low on Friday was 560.19 or almost exactly -10%. A further dip to 550 would be a solid correction of about 12% and an excellent test of bullish support. I would be a buyer of that 550 level if tested. However, a break under 550 would mean the markets are probably not going much higher by year-end. I believe it would signify a willingness to wait in cash to see how the recovery plays out.

Russell-2000 Chart

The S&P imploded on Friday losing -2.8% to close at 1035. The talking heads on stock TV were all a twitter over the support break at 1042. Personally I did not see the relevance with 1035 and 1023 much more critical levels. The S&P did not even slow down when it hit the uptrend support at 1050 and that trend is now broken. 1097 was the October closing high making a dip to 987 a 10% correction. That just happens to be a strong support level and I would love to see it happen. Fund managers could check off the correction box from their due diligence list and start buying stocks again.

S&P-500 Chart

The Dow is holding up much better than the other indexes despite all 30 stocks being negative on Friday. The Dow only lost -2.6% for the week and was exactly flat for the month at 9712. The October high close was 10090 making a 10% correction a distant 9081. Considering the Russell has already corrected 10% and the S&P has fallen -5.6% the Dow is the hero by far. This is because the Dow has the monster blue chips that do the best in hard times. These high liquidity stocks are exactly the stocks that fund managers were using for cash banks as their year came to a close. Small caps imploded and megacaps were flat. That should be all the explanation anyone needs to understand our current situation.

The next material Dow support is 9410 and the 38% Fib retracement level. I would be shocked if the Dow fully corrected but it would not be the first time that has happened. If those funds decide to go back to cash next week we could see some serious Dow weakness but there is still a crowd that sees every dip as a buying opportunity so I am not making a prediction here.

Dow Chart

Dow Table

The Nasdaq gave up -5% for the week and came to rest right on decent support at 2040. I would be surprised if it held but there is a huge range of converging support from 1950-2010. If 2040 breaks I really expect that broad range of support just below to hold. It could still mean a maximum 100-point drop for the Nasdaq with something around the 2000 level a likely price magnet.

The Nasdaq has had its share of bad luck in recent days. BIDU took a 50-point dive. First Solar gave back 35 points and AMGN lost almost 10 points over the last two days. Add in -20 points for Apple and -23 points for Google and I am surprised it only lost 5% for the week. I believe funds are still holding Apple and Google and any post October restructuring next week could see selling in those names. Other than that I believe support from 1950-2010 will hold.

Nasdaq Chart

October is over but the portfolio restructuring games are not. Any fund manager with the normal Oct-31st fiscal year-end probably tuned his holdings to put forth the best picture possible for the year-end tax statements and marketing brochures. Starting Monday that slate is wiped clean and he has another 12 months before he has to do it again. Anything he picked up recently to appear in the list of year-end holdings can now be dumped and turned back into cash. Given the events of the last week a larger cash position is probably looking pretty desirable today.

Any post October portfolio adjustments should only take a couple days. They will know what they want to dump/buy and it should happen quickly. The next challenge for the market is the FOMC statement on Wednesday and the Payroll report on Friday. I would be surprised to see any major rebound until after the payroll report. I can't envision anything the Fed could say that would be very positive for the market. They have to be worrying about a strong statement to keep the dollar in check. They have exhausted their $300 billion buy of securities and that was keeping a short-term top on real interest rates. Unless they announce a new round of purchases I think real rates are going to tick back up and they may not be ready for that. I think the Fed will err on the side of a stronger statement rather than continue to be conciliatory to the markets. If the "considerable time" sentence disappears the markets might not react favorably.

As you might expect the internals were terrible on Friday. There were nearly 12 billion shares traded and nearly 11 billion were down volume with only 1.16 billion in up volume. Decliners were 5:1 over advancers. Thursday's short squeeze volume was decent at 9.8 billion shares compared to the nearly 12 billion on Wednesday's decline. Down volume on Wednesday was 8:1 over advancing. Larger volume on down days remains the trend as well as increasing volume as we enter a period of economic instability. The earnings cycle is basically over and all eyes will be on the Fed and Jobs next week. This should be an interesting exercise in Fed watching and I will be glad when this week is over. The following week is devoid of any material economics so the markets will be left to roam alone. Let's hope the direction is not down.

Don't forget to turn your clocks back on Sunday when daylight savings time ends.

Jim Brown


Index Wrap

Volatility and downside surprises

by Leigh Stevens

Click here to email Leigh Stevens
THE BOTTOM LINE:

The 5-day average of the call to put CBOE equities daily volume ratio (CPRATIO) in the way I compute it (daily equities call volume divided BY daily put volume), reached its peak of 1.94 on Friday 10/16 ONE day ahead of the recent Closing high in the S&P 500 (SPX) on Monday the 19th. I have found generally that single day CPRATIO readings of 1.9 and above represent bullish EXTREMES. Such extremes may or may not signal tops. When such extremes also occur on a 5-day moving average basis, there is an even stronger case for a top to follow within 1 to 5 trading days. I said in my introductory note on the OIN home page that part of the bulls 'problem' was that bullish sentiment among traders was "too hot not to come down", per the famous song!

While, as I noted last week that, on the one hand, a sideways move after a strong upswing (SPX) is often a bullish consolidation, this pattern ALSO represents a slowing or stall in upside momentum. A bearish tip off in the S&P was the diverging action in the Nasdaq Composite (COMP) as it stalled so close to its prior price peak. Price action coupled with the sentiment extreme and a prior peak (10/14, 15 and 19) in the 13-day RSI in its typical overbought zone all added up to trouble ahead. Hey, just in time for fright-night!

A couple of more notes on other points of technical interest and I'll move ahead to the charts of the major indexes and how I read the week past and what that may portend for the upcoming period.

CHARTS OF THE WEEK:

Charts that I don't usually or always show but struck my interest recently are the multimonth hourly SPX (dating back to Feb) and the weekly pivot point for the S&P 100 (OEX), with two levels of implied support and resistance based on the 'pivot' price.

When I was one of the senior technical analysts at PaineWebber (now UBS) covering the indexes and bonds mostly, my counterpart for individual equities, used to keep an hourly Dow chart and it covered one side, the back and side walls of his office, all done by hand on graph paper. Finally it went outside of his office and looked like it was going to take over the room. I found this level of detail over such a prolonged period to tell a big picture story, even though it was based on hourly Closes.

If you can keep or tap into the data there's nothing like seeing many months or even a couple of years of hourly data. The trendline seen on the S&P 500 (SPX) chart below goes back to a low made in February; subsequent lows in July and September made for a well-defined (and steep) up trendline. For the first time in 8 months, this trendline was pierced on the downside. The subsequent rally back to the trendline then showed the classic pattern of support 'becoming' resistance. The big picture point is that the recent sell off marks the first time that SPX has a rate of price change that has shifted to a lesser order of ascent, suggesting that bullish expectations may give way to what actually happens with earnings for a while.

The other point to make with the chart above is that the 21-period RSI applied to an hourly index chart gives some excellent buy/sell points when this indicator hits its upper (70-75) or lower extremes (currently the 30-37 zone). These overbought or oversold 'zones' shift over time depending on the dominant trend and how bullish or bearish that trend is.

The other chart is reprinted from my Thursday Trader's Corner article describing the '5-point pivot' method of computing both a key price level for the day or weekly ahead, but also 2 support levels and 2 resistances based on a formula that uses the prior day's or week's price range; e.g., either the HLC or OHLC that includes Open. I'm not yet sure that the 5 weekly points [pivot (P) + 2 support levels (S1 + S2) and 2 resistance levels (R1 + R2)] have enough lasting value for me to compute them every week for each of the major indexes. I'd also like to have an automatic computation for them in my TradeStation's Easy Language set of indicators. I'll have to get on to my contacts there sometime soon.

The pivot point formulas are seen in my 10/22 and my 10/29 Trader's Corner columns accessed on the web site or in your saved OIN market letters for those dates. (The site has a Trader's Corner tab at top for easy archive access to these articles.)

Given the downside range of this past week, trade was not only below the weekly 502.3 pivot point (bearish) but 1st support (S1) was pierced (although with a Thursday recovery rebound) and the handwriting was on the wall so to speak. OEX was next pulled down nearly to the second (S2) support as noted on the chart. (Friday's bar is NOT seen on this chart published Thursday.)

What was interesting to me was that VARIOUS technical/chart/sentiment patterns were working to show what was coming and where prices might be headed. I don't usually use the pivot point 'system' but it showed its value this past week also.

LAST BUT NOT LEAST

Per the SPX hourly RSI above and the oversold extreme hit recently, I won't be surprised to see a near-term rebound, possibly a substantial one. However, prices may then head lower again after that. I'm watching the low-1000 level in SPX if reached, for signs of renewed support/buying interest.

Also, COMP is reached its prior downswing low (of 2041) and in all prior instances for many months, pullbacks have stopped at or above such prior lows. If COMP breaks this pattern by piercing this level near-term, or after a rebound, it would suggest the market may see another round of selling ahead.

S&P 500 (SPX); DAILY CHART:

The S&P 500 (SPX) has turned bearish in its short-term pattern. I also anticipate a possible to likely oversold rebound near-term. The recent bearish decline remains within the index's broad uptrend channel. If my highlighted uptrend channel represents a correct showing of SPX's major trend, support will be found down in the 1020 to 1000 area and this level won't be pierced. Stay tuned on that!

Key near resistance is at 1066, then up in the area of recent highs around 1100. A daily close above 1066, that wasn't reversed (lower) in the next day or tow would put the index back on its previous bullish track.

Important technical support is suggested at the prior downswing low at 1020, then in the area of the lower boundary of SPX's broad uptrend channel. A weekly close below 1000 turns the intermediate trend suspect for the bulls, although prior turning points occurred in the 992 to 978 area.

SPX, in terms of the 13-day RSI has again reached its oversold zone or the top end of it and there's been a number of instances in this bull market of upside reversals setting up once such low RSI readings were reached. There could be a rally but not long-lasting and I could envision RSI getting to a more deeply oversold zone such as within 35 to 30. The chart pattern suggests another down leg may lie ahead after a possible next rally.

SENTIMENT

It took Friday's sharp decline to get traders even mildly bearish in terms of how this indicator usually 'works'. To get to an 'oversold' area in terms of sentiment will require another shoe to drop and this may well lie ahead.

S&P 100 (OEX) INDEX; DAILY CHART

The S&P 100 (OEX) Index also looks like there could be another down leg ahead, perhaps one that takes the index to a retest of prior support in the low-470 area or to around 466 putting OEX near its prior 462 low.

The S&P indexes have had a tendency in recent months to NOT get so hammered as to get to a 'fully' oversold extreme in terms of the 13-day RSI and its declines have held mostly in a mid-range band (what I call 'neutral' territory) before the index has taken off again. Perhaps in this seasonally week period the index will again register in the 'typical' oversold area basis the RSI indicator. It's a fluid situation and a greater possibility as volatility has picked up so considerably.

Near resistance is at 495 and this looks like a important price benchmark. Trade above 495 would be bullish, especially if OEX manages holds this area in subsequent pullbacks. If so, next resistance comes in not much higher at the prior 509 intraday high.

DOW 30 (INDU) AVERAGE; DAILY CHART:

The Dow 30 (INDU) Average chart pattern has been bullish for many months but recent weakness suggests that there may be more to go on the downside. As noted with the S&P, there's a better than even chance for a rebound ahead of any further slide; e.g., setting up by Tuesday.

Key near resistance is in the 9965 to 10000 area. 10000 is a very focused in on level of course, although undeservedly so. Next INDU resistance is in the area of the prior high around 10200.

Near support looks to be well below Friday's low, in the area of the prior 9430 bottom. The close under the 50-day moving average was for sure noted as bearish by the large fund and hedge fund managers that waltz the INDU 30 stocks around.

A larger correction as been 'due' or overdue in my estimation for awhile but traders and investors have kept bullish. Its part of even strong bull markets for the Dow to go though periodic selling sieges. This may be the time for that. October into November is a notoriously tricky time as portfolio changes get done ahead of year-end statements.

NASDAQ COMPOSITE (COMP) INDEX, DAILY CHART:

The Nasdaq Composite (COMP) led the overall market higher but it's having its days of profit taking and disappointed long liquidation. It's a rough playing field out there and tech stock prices are not immune to a generally still lousy economy. You aren’t buying that next generation PC with Windows 7 when you may get laid off or sacked. I've seen it even with very able and experienced professional friends.

I noted in my initial 'bottom line' comments that COMP reached its prior downswing low (at 2041) and in prior instances for many months, pullbacks in all the major indexes have stopped at or above their prior turnaround lows. If COMP breaks this pattern it suggests the market may see another round of selling ahead.

Next support below the 2040 area is 2000, with support seen another 40 points or so lower around the prior 1958 COMP low. A retest of 1958 is quite possible and would make this second down leg approximately equal to the first and would therefore fulfill a 'measured move' objective.

Key near resistance is in the 2100 area, then at prior highs made on COMP's last attempt to reach 2200 when the index hit repeated resistance/selling interest in the 2180-2190 zone.

I've commented with the S&P on the bullish sentiment extremes, as seen with the sentiment indicator. Such bullish extremes have been the rule for many weeks in this strong uptrend. Not surprising that we have a period where the bulls get a bit of fear again about the other possibility that, gasp, the market can go DOWN also! Many if not most 'average' investor types are more surprised that the market has been going up for many months.

NASDAQ 100 (NDX) DAILY CHART:

The Nasdaq 100 (NDX) pattern has turned bearish in its near-term chart pattern as it looks headed to a test of possible support at the low end of its uptrend channel. The lower up trendline also intersects at NDX's prior 1657 low and a close below it not reversed the next day would add a further bearish chart development and could foretell a move to 1600-1585 again.

Pivotal near resistance is at 1715, then up around 1740. A close back above 1700-1715 with an ability to hold this area on pullbacks would show promise for regaining upside momentum. I don't hold out much expectation that a near-term rally will manage to pierce 1715 but if so, 1740 is noted at a next resistance; this area looks like tough going also. Lastly, the prior intraday high at 1781 is a last hurtle to get NDX on track to a next rally phase, such as to the 1850 area.

NASDAQ 100 TRACKING STOCK (QQQQ); DAILY CHART:

Finally we've seen a big volume surge in the Nasdaq 100 tracking stock (QQQQ) and the volume came 'out' on the break below 42. It seems that 42 was a cry uncle point for those who bought into the stock recently as well as for those holding QQQQ from purchases in the 30's that were seeing fat profits possibly slipping away.

The On Balance Volume (OBV) indicator line continues to be in decline and this pattern when it persists has been accurate in foretelling price weakness ahead in the Q's.

Near QQQQ resistance: 42.0-42.15

Next overhead resistance: 42.75-43.0

Major resistance begins: 43.8

Near QQQQ support: 40.7

Next support: 40.35

Major support begins: 39.0

RUSSELL 2000 (RUT) DAILY CHART:

The Russell 2000 (RUT) has turned bearish in its pattern and not just on a short-term basis. RUT's double top has been 'confirmed' so to speak with its decline below the prior 576.4 low of early-October. Not only has the key 55-day moving average (the 55 length setting and a Fibonacci number seeming to work 'better' for RUT) failed to mark support, but this significant prior low was pierced.

RUT also pierced support implied by the low end of its uptrend price channel. However, I rate this as 'less' important that whether the index can hold, given further weakness, in the area of prior lows at 552 to 547.

As with the other indexes I anticipate a rally setting up by Tuesday if not before and look for a short-term rebound such as unfolding over 2-3 days. Any such rally is not anticipated to take the index back above 593 to 600, especially on a Closing basis.

A close above 593-600 that lasted into subsequent trading would negate the bullish picture I'm seeing currently and suggest potential for RUT to again reach resistance in the 625 area and the existing double top. A quick bullish turnaround is possible, the way the market can surprise us, but it's not an anticipated outcome by me.

GOOD TRADING SUCCESS!



NOTES ON MY TRADING GUIDELINES AND SUGGESTIONS

CHART MARKINGS:

1. Technical support or areas of likely buying interest and highlighted with green up arrows.

2. Resistance or areas of likely selling interest and notated by the use of red down arrows.

I WRITE ABOUT:

3. Index price areas where I have a bullish bias or interest in buying index calls, selling puts or other bullish strategies.

4. Price levels where I suggest buying index puts or adopting other bearish option strategies.

5. Bullish or Bearish trader sentiment and display the graph of a CBOE daily call to put volume ratio for equities only (CPRATIO) with the S&P 100 (OEX) chart. However, this indicator pertains to the market as a whole, not just OEX. I divide calls BY puts rather than the reverse (i.e., the put/call ratio). In my indicator a LOW reading is bullish and a HIGH reading bearish, consistent with other overbought/oversold indicators.

Trading suggestions are based on Index levels, not a specific option (month and strike price) and entry price for that option. My outlook often focuses on the intermediate-term trend (next few weeks) rather than the next several days of the short-term trend.

Having at least 3-4 weeks to expiration tends to be my guideline for trade entry choice. I attempt to pick only what I consider to be 'high-potential' trades; e.g., a defined risk point would equal in points only 1/3 or less of the index price target.

I tend to favor At The Money (ATM), In The Money (ITM) or only slightly Out of The Money (OTM) strike prices so that premium levels are not as cheap as would otherwise be the case, which helps in not overtrading an account. Exit or stop points, as well as projected profitable index price targets, are based on my technical analysis of the underlying indexes.


New Option Plays

The DJIA, Medical Equipment, and Industrial Goods

by James Brown

Click here to email James Brown


NEW DIRECTIONAL PUT PLAYS

UltraDow30 - DDM - close: 37.82 change: -1.95 stop: 41.26

Why We Like It:
The DDM is the ultra Dow 30 ETF, which tries to deliver twice the daily performance of the Dow Jones Industrial Average. I suspect that the DJIA will catch up to the rest of the major averages, which means the selling should accelerate. The failed rally last week at the $40.00 level looks like a good entry point but I am only suggesting small positions. The larger trend is still up and we're trying to catch a reversal lower. Let's limit our position size to reduce our overall risk.

Our first target is $35.25. The 100-dma near $35.00 could be technical support. I am considering a second target at $32.50 but for now we'll exit 100% at $35.25.

Suggested Options:
This should be a relatively quick trade. I'm suggesting the November puts. Strikes are available in $1.00 increments. My preference is for the $38.00 strike.

BUY PUT NOV 38.00 HXD-WL open interest=1246 current ask $1.95

Annotated Chart:

Picked on   October 31 at $ 37.82 (1/2 position size)
Change since picked:       + 0.00
Earnings Date            --/--/--
Average Daily Volume =        3.2 million  
Listed on   October 31, 2009         


Intuitive Surgical - ISRG - close: 246.35 change: -7.20 stop: 261.00

Why We Like It:
It looks like ISRG is forming a top. Shares hit new 2009 highs in October the day before earnings. The stock gapped lower on its earnings news and now the post-earnings bounce has filled the gap and reversed lower. All together it paints a very bearish picture for ISRG. The only thing bulls can point to is the low volume on the decline and the fact that ISRG is still clinging to technical support at its 50-dma. I believe that support is going to break soon.

Before I go any further I want to caution traders that this is an aggressive trade. ISRG can be very volatile and options aren't cheap. I would use very small positions about 25% your normal trade size. Our first target is $226.00. Our second target is $202.00.

Suggested Options:
November puts have more open interest and should work well for our first target. I'm suggesting the December puts, which will give us more time. My preference is the $220 strike.

BUY PUT DEC 220 AXV-XW open interest= 259 current ask $4.90

Annotated Chart:

Picked on   October 31 at $246.35
Change since picked:       + 0.00
Earnings Date            10/20/09 (confirmed)
Average Daily Volume =        939 thousand 
Listed on   October 31, 2009         


Precision CastParts - PCP - close: 95.53 change: -2.56 stop: 100.55

Why We Like It:
PCP spent more than four weeks building a top in the $103-104 region. Now shares are breaking down. I would prefer to open put positions on a bounce or failed rally near $99-100 but we may not get the chance. I'm suggesting small positions about 50% your normal trade size. Our only target is $90.25. More aggressive traders may want to aim lower but I'm concerned about the trendline off the March lows, which could be strong support.

Suggested Options:
This should be a relatively quick play. I'm suggesting the November puts. My preference is the $90 put.

BUY PUT NOV 90.00 PCP-WR open interest=488  current ask $1.45

Annotated Chart:

Picked on   October 31 at $ 95.53
Change since picked:       + 0.00
Earnings Date            10/20/09 (confirmed)
Average Daily Volume =        1.3 million  
Listed on   October 31, 2009         



In Play Updates and Reviews

Bulls Take Fright and Flee

by James Brown

Click here to email James Brown


CALL Play Updates

Gold ETF - GLD - close: 102.53 change: -0.15 stop: 97.40

Gold wasn't hurt quite so much by the dollar's rebound on Friday probably since many investors see gold as a safety play with stocks falling. Unfortunately if the dollar does continue to climb gold will probably see more profit taking as well. I've been suggesting readers wait for a dip or a bounce near round-number support at $100.00. That plan still works.

If we do see a dip near $100.00 I would only buy January 2010 or longer-dated options as the GLD doesn't move very fast. Our first target is $109.90. We are still contemplating a second, longer-term target.

Suggested Options:
If GLD provides a new entry point I would use the January 2010 calls.

Annotated Chart:

Picked on   October 06 at $102.28
Change since picked:       + 0.25
Earnings Date            00/00/00
Average Daily Volume =       14.2 million  
Listed on   October 06, 2009         


UltraShort Treasury ETF - TBT - close: 47.02 change: +0.99 stop: 43.90

The Federal Reserve has ended its program of buying bonds in an effort to keep a lid on interest rates. Now that the $300 billion program is ended it is largely expected that bond yields will tick higher. It may not be immediate. If the stock market starts sinking bonds could see more buying pressure as investors move money toward the perceived safety of bonds.

I am still bullish on the TBT. This ultra-short ETF hit $45.48 on Friday. It was our plan to buy the dip at $45.50 with another half-sized position. If you're still looking for an entry point I'd wait for a bounce from here.

Our first target is $54.50. Our second target is $58.50. Our time frame is several weeks (possibly year end).

Note: This same trade in reverse is puts on the TLT. The TLT will go down as yields rise.

Suggested Options:
I suggested the January 2010 calls. My preference was the $50 strike (TBT-AX).

Annotated Chart:

Picked on   October 26 at $ 47.89 (1/2 position)
Change since picked:       - 2.23

2nd entry on   October 30 at $ 45.50 (1/2 position)
Change since picked:          + 0.16

Earnings Date            --/--/--
Average Daily Volume =        6.0 million  
Listed on   October 26, 2009         


PUT Play Updates

BIOGEN IDEC - BIIB - close: 42.13 change: -0.95 stop: 47.25 *new*

Both the BTK biotech index and BIIB are both very short-term oversold. Shares lost 2.2% and set new 2009 closing lows on Friday. I am lowering our stop loss to $47.25. I'm not suggesting new positions at this time. Our second and final target to exit is $40.50.

Suggested Options:
No new positions at this time.

Annotated Chart:

Picked on   October 03 at $ 48.89
Change since picked:       - 6.76
                               /1st target hit @ 44.50 (-8.9%)
Earnings Date            10/20/09 (confirmed)
Average Daily Volume =        2.6 million  
Listed on   October 03, 2009         


Bank of Montreal - BMO - close: 46.37 change: -1.72 stop: 51.25

Financial stocks were significant under performers on Friday. BMO lost 3.5% and closed under technical support at its 100-dma. If you open positions now I would use small positions. A better entry point would be a failed rally near the 50-dma around $49.00. Our first target is $42.75. Our second target is $40.50.

Suggested Options:
I'm suggesting the December puts.

Annotated Chart:

Picked on   October 27 at $ 47.37
Change since picked:       - 1.00
Earnings Date            11/24/09 (unconfirmed)
Average Daily Volume =        539 thousand 
Listed on   October 27, 2009         


DST Systems - DST - close: 41.71 change: -0.99 stop: 45.25

DST broke support at its 100-dma and exponential 200-dma on Friday. Yet it closed exactly at its early October low of $41.71. Readers can expect a bounce from here but the $44-45 zone should remain overhead resistance. I'm not suggesting new positions at this time. Our target to exit is $40.25. More aggressive traders may want to aim a little lower.

Suggested Options:
No new positions at this time.

Annotated Chart:

Picked on   October 24 at $ 43.73
Change since picked:       - 2.02
Earnings Date            10/21/09 (confirmed)
Average Daily Volume =        462 thousand 
Listed on   October 24, 2009         


iShares Transports - IYT - close: 64.71 chg: -1.60 stop: 70.60

The transports have been very weak. Now the sector is oversold and nearing another level of support. I would expect to see an oversold bounce sooner rather than later. I would expect any bounce to roll over in the $68-70 zone.

I'm not suggesting new positions at this time. IYT hit our first target on Wednesday. Our second target is $62.00.

Suggested Options:
No new positions at this time.

Annotated Chart:

Picked on   October 24 at $ 68.29
Change since picked:       - 3.58
                              /1st target hit @ 65.25 (-4.4%)
Earnings Date            --/--/--
Average Daily Volume =        664 thousand 
Listed on   October 24, 2009         


Life Tech. - LIFE - close: 47.17 change: -1.51 stop: 50.10

I still think LIFE is forming a top under resistance at $50.00. I would use Friday's decline as a new entry point to buy puts. This is an aggressive trade. I would keep positions small.

The $45 and $44 levels remain support but our target is $41.00.

Suggested Options:
I'm suggesting the November puts. My preference is the $45 strike.

Annotated Chart:

Picked on   October 28 at $ 45.83 /gap down entry point 10/29/09
                              /originally listed at $46.61
Change since picked:       + 1.34
Earnings Date            10/27/09 (confirmed)
Average Daily Volume =        2.1 million  
Listed on   October 28, 2009         


Netease.com - NTES - close: 38.62 change: +0.13 stop: 40.15

I'm not ready to abandon our bearish play in NTES just yet but I'm not suggesting new positions either. More conservative traders might want to consider an early exit to avoid or limit any losses.

Our first target is $35.25. Our second target is $33.00, just above the exponential 200-dma. We want to exit ahead of the mid November earnings report. FYI: The P&F chart is bearish with a $25 target.

Suggested Options:
No new positions at this time.

Annotated Chart:

Picked on   October 17 at $ 38.47
Change since picked:       + 0.15
Earnings Date            11/12/09 (unconfirmed)
Average Daily Volume =        2.7 million  
Listed on   October 17, 2009         


Research In Motion - RIMM - close: 58.73 change: -2.63 stop: 66.55 *new*

Target achieved. RIMM fell to $58.42 intraday. Our first target to take profits was at $58.55. The close under the $60.00 level is very bearish but the top of RIMM's gap from April 2009 could act as support.

I am not suggesting new positions at this time. A failed rally in the $64-65 zone might be our next entry point. I'm lowering our stop loss to $66.55. Our second and final target is $53.00.

Suggested Options:
No new positions at this time.

Annotated Chart:

Picked on   October 28 at $ 62.93 /gap open entry    
Change since picked:       - 4.20
                               /1st target hit @ 58.55 (-6.9%)
Earnings Date            12/17/09 (unconfirmed)
Average Daily Volume =       17.9 million  
Listed on   October 26, 2009         


CLOSED BULLISH PLAYS

Ultra Oil & Gas ProShares - DIG - close: 33.02 change: -2.64 stop 31.95

If you step back and look at the oil sector (and oil) the larger trend is still up. Yet I'm concerned about this strength in the dollar. If the dollar continues to rise oil should see more profit taking and that will drag oil stocks lower.

I'm suggesting an early exit out of our DIG play. Let's cut our losses early.

Chart:

Picked on   October 28 at $ 34.20
Change since picked:       - 1.18 <-- early exit @ 33.02 (-3.4%)
Earnings Date            00/00/00
Average Daily Volume =        4.3 million  
Listed on   October 17, 2009         


Potash Corp. - POT - close: 92.78 change: -4.04 stop: 93.40

Our aggressive trade in POT did not pan out. Shares immediately reversed with the market's weakness. The stock broke down under Wednesday's low and several key moving averages. Our stop was hit at $93.40. The plan was to use very small positions to limit risk. The options gapped open lower, adjusting our entry point.

Chart:

Picked on   October 29 at $ 96.82 (1/4 pos)
Change since picked:       - 3.42 <-- stopped @ 93.40 (-3.5%)
Earnings Date            01/21/10 (unconfirmed)
Average Daily Volume =        7.4 million  
Listed on   October 29, 2009         


Schlumberger - SLB - close: 62.20 change: -2.60 stop: 61.95

Friday saw a sharp reversal higher in the dollar and a reversal lower in oil. This pushed oil stocks down hard. SLB erased Thursday's gains and hit our stop at $61.95 closing the play. Our plan was to use small positions to keep risk limited on this aggressive trade. The options gapped down at the open affecting our entry point.

Chart:

Picked on   October 29 at $ 64.80 (small positions)
Change since picked:       - 2.85 <-- stopped @ 61.95 (-4.3%)
Earnings Date            01/22/10 (unconfirmed)
Average Daily Volume =       10.3 million  
Listed on   October 29, 2009         


Volatility Index - VIX - close 30.69 change: +5.93 stop: 21.90

The sudden reversal lower in stocks on Friday sent a shock of fear through the market. The volatility index exploded higher with a 24% gain. The VIX pushed past the 30.00 region and hit our second and final target at $29.25 closing our bullish play.

Chart:

Picked on   October 24 at $ 23.06 /gap open entry
                            /originally listed at $22.27
Change since picked:       + 6.19 <-2nd target hit @ 29.25 (+26.8%)
                            / 1st target hit @ 27.25 (+18.1%)
Earnings Date            --/--/--
Average Daily Volume =         -- million  
Listed on   October 24, 2009