Option Investor
Newsletter

Daily Newsletter, Wednesday, 4/28/2010

Table of Contents

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

Market Wrap

PIIGS Continue To Drop, But Stocks Rebound

by Todd Shriber

Click here to email Todd Shriber
More news of European fiscal woes was not enough to deter stocks from taking a small part of yesterday's big losses back as all three major U.S. indexes managed gains on Wednesday. The Dow Jones Industrial Average moved back above 11,000, gaining 53 points to finish the day at 11,045.27, but the S&P 500 could not reclaim 1200, adding less than eight points to settle at 1191.36. The Nasdaq, held back by restaurant stocks, added less than three tenths of one point to close at 2471.73.

Stats Table

While those gains are not much to get excited about and they certainly pale in comparison to Tuesday's loss, it can be argued that stocks moving higher by any amount on a day when Europe's sovereign debt woes continued to dominate the headlines is no small feat. Stocks and commodities were roiled yesterday on news of Portugal's credit rating being cut and continued concerns about the ability of the Eurozone and the International Monetary Fund to actually get a bailout package together for Greece.

The Portugal downgrade really should have not caught anyone by surprise as that country was widely speculated to be the next shoe to drop after Greece, and as I have previously noted, Portugal's economy is even smaller than Greece's. That said, this Greek tragedy is dragging on far too long and the amount of money the country may need seems to grow, and exponentially at that, every few days. For a while there it seemed like Greece needed about $60 billion to meet a May 19 deadline on debt coming due. That total is far higher than Greece originally said it would need.

To make matters worse, several media outlets reported today Dominique Strauss-Kahn, the head of the IMF, told German officials that Greece may need close to $160 billion over the next several years. At the close of trading on Tuesday, Greek bonds were sporting the highest yields in the world, even higher than comparable Venezuelan issues.

All of this is bad news, but remember that the acronym is ''PIIGS'' and that means there are several other candidates to make a mess of equity markets. Portugal and Greece have already chimed in. On Wednesday the ''S'' had its day in the day in the sun and I do not mean that in a good way. Standard & Poor's downgraded Spain's credit rating to ''AA'' from ''AA+.'' That means the country has a ''very strong capacity'' to pay its debts and the rating is still investment grade.

Again, this turn of events cannot be considered shocking. Sure, Spain's debt load is 53% of national income compared to 115% for Greece, according to the Associated Press, but Spain is the ninth largest economy in the world, so this is kind of a big deal. I say the Spain news is not surprising because in some regards, Spain's economy is eerily similar to that of the U.S. A real estate bubble fueled by easy access to credit spurred Spain's GDP in the go-go days of 2005-2007, but when the bubble burst, the aftermath was not pretty. Now Spain faces the specter of one of the highest unemployment rates in the Eurozone and future growth that can only be deemed sluggish.

There are no country-specific ETFs for Greece and Portugal, much to the chagrin of many short sellers, but there is a Spain ETF, the iShares MSCI Spain Index (EWP). To its credit, EWP was down less than 2% on volume that was more than triple the daily average. Then again, EWP is down almost 20% year-to-date.

Spain ETF Chart

The effects of the European contagion may be more wide-reaching than many investors previously imagined. I mean who would have thought this company would be taken to the woodshed on concerns of a European sovereign debt crisis? Aflac Duck

That is right, Aflac (AFL), a company known perhaps more for its advertising campaign than the products it sells, has roughly $2 billion in exposure to Greek and Portuguese debt. According to Bloomberg News, Aflac owns $1 billion in Greek bank debt, $750 million in Portuguese bank debt and another $285 million Greek sovereign debt. A toxic investment portfolio if there ever was one. The end result is on a day that Aflac reported first-quarter results that beat Street estimates, the stock still traded down by more than 5% on almost five times the average daily volume.

Alfac Chart

There were some bright spots for stocks on Wednesday. Dow Chemical (DOW), the largest U.S. chemicals maker, said its first-quarter profit rose to $466 million, or 41 cents a share, from $24 million, or three cents a share, a year earlier. Sales soared 48% to $13.42 billion from $9.04 billion. Analysts were expecting a profit of 30 cents a share on revenue of $12.9 billion.

Like rival DuPont (DD) said yesterday, Dow noted it is seeing signs of a strong economy. Dow's chemicals are used in a variety of products from agriculture seeds to furniture to electronics and appliances, so this is one company that has its pulse on the consumer and the economy at large. Improving home sales and durable goods data are positive catalysts for companies like Dow, but while the company did give a rosy assessment of the U.S. economy, demand growth was fueled by emerging markets, led by Brazil, China, India and Eastern Europe.

Dow also noted that it realized $275 million in synergies related to its acquisition of Rohm & Haas, a purchase that was viewed as controversial when the transaction was announced. Shares of Dow Chemical rose $1.76, or 5.85% to close at $31.83 after earlier touching a new 52-week high of $31.96.

Dow Chemical Chart

Comcast (CMCSA), the largest U.S. cable company, said its first-quarter operating income jumped 6.8% to $1.9 billion on revenue of $9.2 billion. Analysts had forecast a top line of $9.15 billion. In another sign that the economic recovery may be gaining some steam, Comcast said its cable advertising revenue rose 23% in the quarter. That marks the company's first quarterly ad growth in two years, according to the New York Times.

Sanford C. Bernstein analyst Craig Moffet said Comcast has ''an awfully nice tailwind...'' Comcast is losing subscribers to rivals such as AT&T (T), Verizon (VZ) and DirecTV (DTV), but it did gain 590,000 new Internet, telephone and video subscribers. Comcast's free cash flow rose by 38% to $1.89 billion. The stock was up 35 cents to $18.81 after making a new 52-week high at $19.20 earlier in the day. Volume was more than twice the daily average.

Comcast Chart

After the market closed, a knight in shining armor finally emerged to save struggling smart phone maker Palm (PALM). Dow component Hewlett-Packard (HPQ), the world's largest maker of personal computers, will pay about $1.2 billion in cash for Palm in a deal that values Palm at $5.70 a share. News of the deal, which is expected to close in the third quarter, sent Palm shares up almost 26% to $5.83 after the stock closed at $4.63.

Analysts are already saying that a bidding war for Palm is not likely to materialize given the high price HP is paying. Remember that Palm was trading around $3 earlier this month and that the acquisition news had been tossed around for weeks, so it may not be reasonable to expect other suitors to emerge for Palm. Palm is not a profitable company and HP has plenty of cash to throw around, making a challenge to HP's offer an unattractive proposition for other comopanies.

Palm Chart

There was not a lot of good news to go around on the Nasdaq while the market was open as a surprising sector hampered the index. Restaurant stocks were bludgeoned as several of the sector's marquee names offered disappointing outlooks. Panera Bread fell by more than 7% after saying it will earn 81 cents to 83 cents a share in the second quarter. Analysts had been expecting a profit of 84 cents a share. The stock is still up close to 50% in the past year.

PF Chang's China Bistro (PFCB) fell 2.54% due to a weak first-quarter report and outlook. The Cheesecake Factory (CAKE) joined in the declines, falling by 7% on the back of its own disappointing second-quarter outlook while Texas Roadhouse (TXRH) fell by more than 6% after Global Hunter Securites downgraded the stock to ''neutral'' from ''buy,'' while saying there is limited upside in the shares.

All of those declines pale in comparison to the tumble endured by Buffalo Wild Wings (BWLD), which dropped $8.71, or 17%, to close at $42.30. Volume was almost 10 times the daily average. The company's first-quarter results beat estimates, but April same-store sales are looking sluggish and investors seem to be doubting the company's ability to meet 2010 profit growth of 20%. Making matters worse was an Oppenheimer downgrade of Buffalo Wild Wings to ''perform'' from ''outperform.''

Buffalo Wild Wings Chart

For now, it looks like 11,000 will act as support for the Dow. After that 10,850 is the next support level, but good news from the Federal Reserve regarding its stance on keeping interest rates low for an ''extended period,'' 10,850 may not be seen in the coming days. Of course, all bets are off if things get worse for Greece and friends. Exxon Mobil (XOM) and Procter & Gamble (PG) report earnings before the bell tomorrow.

Dow Chart

With the S&P 500 residing below 1200, it is evident that 1180-1185 is the first support area, but the 1210 range could once again act as a resistance. Along with the aforementioned earnings reports, there are several other marquee names from the energy and materials sectors reporting tomorrow that could boost the S&P 500 higher, if the outlooks are good. Apache (APA), ConocoPhillips (COP), Occidental Petroleum (OXY) and Potash (POT) all report before the bell.

S&P 500 Chart

The Nasdaq is still lingering right around critical support at 2470, so it will be interesting to see if the restaurant stocks remain a drag on the index for the rest of this week. I believe the Nasdaq would have traded a little bit higher today had it not been for the carnage seen in that particular group. Closes below 2470 would be concerning because that could spell a return to 2400.

Nasdaq Chart

No, Wednesday's trade was not strong enough to make up for Tuesday's losses, but it does appear dip buying is still a relevant theme. The ''X'' factor in how stocks finish the week is likely to revolve around Europe. If some convincing Greece bailout news does not emerge before markets close on Friday, I would not be surprised to see some choppy trade as neither buyers nor shorts will want to be carrying positions into the weekend.


New Option Plays

Long Gold Miner, Short Transportation

by Scott Hawes

Click here to email Scott Hawes


NEW DIRECTIONAL CALL PLAYS

Gold Fields Ltd - GFI - close 13.28 change +0.23 stop 12.25

Company Description:
Gold Fields Limited (Gold Fields) is a producer of gold and holder of gold reserves in South Africa, Ghana, Australia and Peru. In Peru, Gold Fields also produces copper. Gold Fields is primarily involved in underground and surface gold and copper mining and related activities, including exploration, extraction, processing and smelting. Gold Fields also has an interest in a platinum group metal exploration project. The majority of Gold Fields’ operations, based on gold production, are located in South Africa. Its South African operations are Driefontein, Kloof, Beatrix and South Deep. Gold Fields also owns the St. Ives and Agnew gold mining operations in Australia and has a 71.1% interest in each of the Tarkwa gold mine and the Damang gold mine in Ghana. (source: company press release or website)

Why We Like It:
Gold Miners and gold appear to be ready to make another leg higher and I suggest readers take advantage of the momentum that is building. The FOMC is keeping interest rates low and this is stoking fears of inflation, or inflationary bubbles, and I believe traders are beginning to pour into gold mining stocks once again. GFI has been trading in an upward channel since late February and appears ready to break out of resistance at $13.36. I believe the stock will quickly trade to the $13.95 over the next week. GFI reports earnings on May 6th so I plan to be out of this trade on that date. We'll place a stop below the 50-day SMA at $12.25 and our target is $13.95 which is just below the YTD highs. Our time frame is about one week or shorter. *NOTE: Please use small position size to limit risk as gold stocks tend to be volatile.*

Suggested Position: Long MAY $13.00 CALL, current ask $0.60

Annotated chart:

Entry on April xx at $xx.xx
Earnings Date May 6, 2010 (unconfirmed)
Average Daily Volume: 5.3 million
Listed on April 26, 2010


NEW DIRECTIONAL PUT PLAYS

iShares Dow Transports - IYT - close 84.02 change +0.21 stop 87.10

Company Description:
iShares Dow Jones Transportation Average Index Fund (the Fund) seeks investment results that correspond generally to the price and yield performance of the Dow Jones Transportation Average Index (the Index). The Index measures the performance of the transportation sector of the United States equity market, and includes companies in primary groups, such as airlines, trucking, railroads, air freight, transportation services and industrial services. Companies are selected for inclusion in the Index by the editors of the Wall Street Journal. (source: website)

Why We Like It:
I believe IYT is overextended and it is due to take a breather. I suggest readers buy PUTS to take advantage of a pullback. The ETF is at the top of an upward channel that started in July 2009 and has rallied +25% since the February lows. All of the technical indicators have remained overbought for some time and I think it is unsustainable. I expect a pullback to at least $81.50 which is our first target. Our second more aggressive target is the 50-day SMA, currently just under $80. We'll place a stop above the recent highs at $87.10. Our time frame is several weeks but will exit sooner if there is a sharp correction. *NOTE: Some of the strike prices in IYT have wider than normal bid/ask spreads. Use a limit order in the middle of the spread and you should get filled.

Suggested Position: JUNE $83.00 PUT, current ask $2.65

Annotated Chart:

Entry on April xx at $ xx.xx
Earnings Date N/A
Average Daily Volume = 1.0 million
Listed on April 26, 2010


In Play Updates and Reviews

WFT Triggered, Still Waiting on HANS

by Scott Hawes

Click here to email Scott Hawes

Editor's Note:

Good evening traders. The FOMC meeting was an absolute dud. This may be the excuse the market is looking for to continue this rally. It will be interesting to see how it all plays out and I would not be surprised to see an attempt at new highs that fail. If nothing else the extended low rates seems to be causing inflationary fears which is why I like our new gold miner play. We also released a bearish play on the transports. Hopefully we get filled on HANS in the next day or two or I will probably drop the play. WFT retraced right down to our aggressive entry so we are now long CALLS. Good luck trading to you all!

Current Portfolio:


CALL Play Updates

Hanson Natural Corp. - HANS - close 42.82 change +0.26 stop 40.45

Since Friday's spike higher HANS has had a low volume pullback which is a bullish pattern. We have been waiting to be triggered at $42.30 but the stock just hasn't retraced this much. The stock held up rather well considering the broader market sell-off. I think HANS will rally on any market strength and I suggest readers get a piece of the action. As such, I am looking going to move up the entry target on this trade to $42.60 which where I suggest readers initiate call positions as outlined below. HANS is still above its 20-day SMA and the stock is forming a longer term ascending triangle. It is currently in the middle of an upward channel that has been intact since mid 2009. I believe the stock is poised to breakout higher or at least trade to $43.75 which is our first target. If we get triggered and the stock rallies to our first target, we are looking at a +50% gain which I will gladly take all day long. Our second target is $44.95 but this target may not be reached until after earnings on May 6. I suggest readers sell the position prior to earnings. The stock has good support at about $40.70 so I would like to use a stop just under this level at $40.45 if we get triggered. Our time frame is about one week.

Trigger to buy calls if HANS trades to $42.60

Suggested Position: Buy MAY $43.00 CALL, current ask $1.65, estimated ask at entry $1.50

Entry on April xx at $ xx.xx
Earnings Date 5/06/10
Average Daily Volume = 854,000
Listed on April 21, 2010


Weatherford International - WFT - close 18.23 change +0.26 stop 15.90

WFT hit our trigger of $17.85 at about 11:30 this morning and we are long June $17.00 calls @ $1.58. The stock traded down to $17.76 and then reversed hard closing near its highs. The stock closed up +1.45% on the day. We have a wide stop on this trade at $15.90 because I want to give it some time and room to work which is why we are in June calls. Our initial target was $18.95 but since the stock reversed at $18.80 yesterday I would like to lower our target just a bit to $18.75. This may end up being a quicker trade that I thought if WFT rallies into this area in the coming days. I suggest traders sell half of their position if the $18.75 level is reached. A second more aggressive target is $20.45. Longer term I think WFT will easily test this level but I do not suggest hanging on to call options waiting for this target as time decay could end up hurting you. A strategy readers may consider is to take profits if the first target is hit and then buy further dated options. The August $19 calls are going for about $1.35 as of the close today. Readers who haven't initiated positions can do so on weakness in the stock. Our time frame is one to three weeks.

Current Position: JUNE $17.00 CALL, entry at $1.58

Entry on April 28 at $ 1.58
Earnings Date Over 2 months
Average Daily Volume = 14.9 million
Listed on April 24 2010


PUT Play Updates

Toll Brothers - TOL - close 22.24 change +0.08 stop 24.25

TOL started the day strong and it appeared the bounce we anticipated was going to happen, but buyers stepped in pushing the price back down near the lows from yesterday. The stock closed 8-cents higher, or +0.36%. The stock has four consecutive topping tail candlesticks which indicates to me that sellers are alive and well. We now need TOL to break down below $22.00 to reach our target. Our $1.40 PUTS are now worth about $1.70 for a +21% unrealized gain. I am still eying the $21.80 level as a point to take profits on this trade. It was TOL's intraday high On November 11 and could act as support, especially if there is not a daily bounce prior to the price reaching $21.80. I suggest readers tighten stops and protect profits at this level just in case a reversal starts. This is our target and trying to squeeze another 30-cents out of the stock is probably not the smart thing to do. However, if the overall market is under pressure TOL could just blow right through this level which would enable us to realize more gains. My point is to protect profits as the stock reaches this level and try not to get too greedy. I am not suggesting new position at this time. Our stop $24.25 and our time frame is a 1 to 5 days.

Current Position: JUNE $23.00 PUT, entry @ $1.40

Entry on April 27 at $ 1.40
Earnings Date Over 2 months
Average Daily Volume = 3.2 million
Listed on April 26, 2010