Option Investor
Newsletter

Daily Newsletter, Wednesday, 5/5/2010

Table of Contents

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

Market Wrap

What we have here is a conundrum.

by John Gray

Click here to email John Gray
These are frustrating times indeed. Neither the bulls nor the bears are having much fun. The markets are being whipped around by news events on a daily basis and volatility is increasing.

The bulls argue that there is no "reason" why the markets should not continue on their upward trajectory. They cite the following reasons:

1. Earnings season is winding down and most of the important, bellwether companies have reported excellent earnings that have either met or exceeded expectations.

2. Most of the economic reports (PMI, ISM, Home Sales, Consumer spending, etc.) show that the economy is improving.

3. The jobs picture, although still bleak, shows signs of improving as well, and non-farm payrolls have actually begun to add new jobs.

The bears, on the other hand, respond as follows: 1. While conceding that economic conditions are improving, they point out that the markets have already priced in these factors (and then some) with the SPX up over 80% in fourteen months and the NDX and RUT up 100% in the same time frame.

2. The jobs picture may be showing signs of improvement, but the fact remains that the country has lost over 20 million jobs and it is going to take years (if ever) to regain the pre-2007 employment levels.

3. Foreclosure rates are likely to soar in the next two years as many mortgages with ARM's reset to higher rates.

4. Commercial real estate is the next 800 lbs. gorilla in the room. Bears believe this could be an even bigger problem than the residential real estate problem.

While many of the big, high-profile companies are reporting excellent earnings, small and medium-size businesses across America are suffering. They can't get credit; they can't find work that's reasonably priced; they are not hiring. If America is going to create new jobs this is where it is going to come from. For folks who get dirty working for a living, life is not that good. In short, the bears believe that there is a major disconnect between the optimism on Wall Street and the despair on Main Street.

The news out of Europe just won't go away. Over 100,000 protesters took to the streets in Athens protesting the austerity measures imposed by the euro zone and the IMF as a condition to receiving the 110 billion euro bailout package. Fires broke out, and at least three people have died. Fundamentals are only part of the equation when it comes to stock prices. Social mood plays a large role as well - if people feel good, they buy; if people are worried or mad, they sell.

Many of you don't follow the daily Market Monitor but over a week ago (April 27) I had this to say at the beginning of the day:

I'm going to tell you why I think Greece does matter. Once upon a time (1997), in an obscure country far, far away (Thailand) a world-wide financial crisis found its genesis when their currency (the Thai Baht) collapsed after they made the decision to let it "float". Thailand had acquired a burden of foreign debt that had, effectively, made it bankrupt. The "Contagion" (as it became known) quickly spread to Indonesia, Malaysia, South Korea, Hong Kong and even Japan. The IMF and the WORLD Bank needed to step in to avert a crisis. There is far more to the story, but, the point is, the world is far more "global" and inter-dependent today than it was in 1997, and, I would submit, Europe is far more important on the international stage today than southeast Asia was in 1997. And, let's be perfectly clear about one thing, we are not just talking about Greece. Spain, Portugal, Italy and Ireland have the same problems and, indeed the strength and even the efficacy of the EURO is at stake. If you don't think this situation would (or should) have any effect on U.S. stock prices you are hopelessly naive (IMO). Stock prices are not just driven by earnings, PE's, future outlook (fundamentals), they are also driven by peoples' moods and how they feel about their lives and life general.

ADP reported today that 32,000 new jobs were added to the private sector. This was in-line with expectations but the futures took a sharp hit. ADP's numbers do not include federal workers and new census workers.

Moody's announced today that they were considering a downgrade to Portugal's bonds by one, or perhaps two notches. The market did not like this either. The euro slid to a 13-month low against the dollar. The dollar hit a high of 84.43 this morning and subsequently backed off some.

Gold is behaving rather oddly. For many months now gold has reacted inversely to the dollar (dollar up, gold down, and vice versa). The recent strength in the dollar has not depressed the price of gold this time around. And what is even more bizarre is that GDX (ETF for Market Vectors Gold Miners) has actually been moving in the opposite direction from gold. This suggest to me that gold may be in a topping mode.

GDX

Crude dropped precipitously with the rising dollar and hit a low at 9:00 AM of $79.15. It has been bouncing since that time and is now over $80.00.

While we are on the subject of oil, BP executives have been meeting privately with members of Congress and have revealed (through anonymous, though reliable sources) that the blown-out well from the Deepwater Horizons disaster could be leaking as much as 60,000 barrels per day, which are ten times the original estimates. Various Congressional committees are planning hearings. I'm sure it comes as no surprise to you that Congressmen and Senators cannot resist the temptation to drag the perps from BP, RIG, and HAL in front of the TV cameras so they can put on their dog and pony show and crucify these scoundrels in a public forum.

My two sons travelled to Omaha last weekend to partake in the Berkshire Hathaway annual extravaganza. One has an MBA and the other has a Masters in Economics (I tell him that that and $5.00 will get him a latte at Starbucks). They really enjoy the show. No doubt you have read that the "Oracle" defended the bunch from Goldman Sachs. I'm sure that the fact that he loaned them $5 billion, which yields Berkshire Hathaway an income of $15 per SECOND ($500 million per year) has nothing to do with his support.

Seriously though, I agree with him to some extent in that most of the buyers of the ABACUS CDO were not poor, unsophisticated, rural farmers from Kansas. They were, indeed, wealthy and sophisticated investors who had every opportunity to do a thorough due diligence on the assets contained therein, and as Buffett said, "they just made a dumb credit deal". Criminal charges against Goldman or its employees will probably never see the light of day, however that won't stop their reputation from being sullied.

Today is Cinco De Mayo (The Fifth of May). It is primarily celebrated in Mexico and commemorates the Mexican militia's defeat of the French Army at the Battle of Puebla in 1862. Mexico owed France a large debt and the French invaded on the gulf coast near Veracruz and marched inland to collect their debt. The moral to the story is that if you are going to collect money you need to carry a big stick.

As one might expect, the nervousness over the situation in Europe has caused investors to flee into the perceived safety of government treasuries. The ten-year yield has dropped four basis points to 3.56, the lowest since last December.

OK, so where do we go from here? I have the sense that the markets have had a seismic shift. Whether we are due for a garden-variety (and much-overdue) correction, or whether we have experienced a significant trend reversal that signals the end of the March, 2009 - May, 2010 bull market is unknown at this time. The chart below shows some pretty important levels that we need to watch going forward. The market will reveal itself in due course.

SPX


New Option Plays

This Retailer Could be Defensive

by Scott Hawes

Click here to email Scott Hawes


NEW DIRECTIONAL CALL PLAYS

Target Corporation - TGT - close 56.06 change +0.48 stop 52.10

Target Corporation (Target) operates Target general merchandise stores with an assortment of general merchandise and food items. During the fiscal year ended January 30, 2010 (fiscal 2009), the Target stores also included a deeper food assortment, including perishables and an offering of dry, dairy and frozen items. In addition, the Company operates SuperTarget stores with a line of food and general merchandise items. Target.com offers an assortment of general merchandise, including various items found in its stores and a complementary assortment, such as extended sizes and colors, sold only online. It operates in two segments: Retail and Credit Card. The Retail segment includes all of its merchandising operations, including its general merchandise and food discount stores in the United States and its integrated online business. The Credit Card segment offers credit to qualified guests through its branded credit cards, the Target Visa and the Target Card (collectively, REDcards). (source: company press release or website)

Why We Like It:
TGT is approaching a major trend line from that started on July 8th also converges with a key support level (see dashed line on chart). The stock's 50-day SMA is also just below which should also provide support if TGT breaks any lower than this. There is also a prior support/resistance area just below which gives us a good reference point to place a stop at $52.10. TGT is also a defensive play that could do well if the overall market continues its decent. I suggest readers take advantage of any pullback to $54.80 to buy June $57.50 calls. Our target is $58.00. Our time frame is a couple of weeks. Target reports earnings on May 20th so we plan to be out of the trade prior to this date. In the after market TGT is down about 50 cents. If TGT trades down near our trigger and reverses we will initiate positions.

Suggested Position: Long JUNE $57.50 CALL if TGT trades near $54.80, current ask $1.53, estimated ask at entry $1.05

Annotated chart:

Entry on May xx at $xx
Earnings Date May 20, 2010 (unconfirmed)
Average Daily Volume: 5.2 million
Listed on May 5, 2010


In Play Updates and Reviews

BIIB and IMAX Initiated

by Scott Hawes

Click here to email Scott Hawes

Editor's Note:

Good evening traders. BIIB and IMAX CALLS were initiated this morning. Both stocks performed well considering the market's overall weakness. WFT fell apart today and we were stopped out. We also closed GFI. I feel like we are going to get a relief bounce before the end of the week which is probably a good time to tighten stops on long positions. We now have an equal number of CALLS and PUTS which is certainly needed in this volatile environment. Our long positions are from more defensive sectors so they may perform well if the overall market is not. Stay on your toes and take profits off the table when the opportunity presents itself.

Current Portfolio:


CALL Play Updates

Biogen Idec Inc. - BIIB - close 52.70 change +0.40 stop 50.90

We initiated CALLS in BIIB at the open for $1.30. The stock performed well today and closed up +0.76%. My comments from the trade set-up remain the same. The stock has been in a downtrend on the daily charts but appears poised to break to the upside. The interesting thing though is that BIIB has not taken out its recent lows like the overall market and most other equities have. This has me wondering whether or not we should initiate a positions at current levels to take advantage the weakness and the ensuing break out above its recent downtrend line from March 22nd. When I look at the stock's YTD chart it did not suffer from the overall market weakness experienced from mid January through early February. It also has strong support here and sets up a very nice risk reward trade. Plus the stock has retraced almost 50% of the gain between its October 29th low and its March 22nd high. BIIB also trades at a low 16.1 PE ratio when compared to its peers in biotechnology and it also trades below the S&P 500 average PE of about 21. Biotechnology can be defensive so I like the play at these levels and suggest traders take advantage of the weakness. Our stop will be $50.90 so we will be out quick if the set-up fails from here. This is also below the 200-day SMA and a recent swing low. Our target is $56.90 with a more aggressive target at $58.90. The stock may experience some resistance with its 20-day SMA just overhead but if there is momentum it should overcome it.

Current Position: Long JUNE $55.00 CALL, entry at $1.30

Entry on May xx at $xx.xx
Earnings Date July 15, 2010 (unconfirmed)
Average Daily Volume: 2.7 million
Listed on May 1, 2010


IMAX Corporation - IMAX - close 19.05 change -0.02 stop 16.75

IMAX gapped down this morning and hit our trigger of $18.50 to buy CALLS. We are now long June $20 CALLS at $1.10. My comment from the play set-up remain the same. IMAX bounced nicely around $18.15 on Tuesday and Wednesday which was a prior resistance level that should now act as support. The stock has also created two back to back bottoming tail candlesticks on its daily chart which may indicate that sellers of the stock are waning. Buyers have been piling into the stock in recent months and IMAX reported earnings on 4/29 that beat expectations (.53 compared to .37 estimate). The company is experiencing a surge in earnings due to the onslaught of 3-D movies on the horizon. I suggest readers take advantage of the momentum and initiate positions if IMAX pulls back to $18.50. We will place our stop at $16.75 which is just below the 50-day SMA. Our target is $20.95 which is just below the stock's 52 week highs.

Current Position: Long JUNE $20.00 CALL, entry at $1.10

Entry on May 5th at $1.10
Earnings Date More than 2 months (unconfirmed)
Average Daily Volume: 1.9 million
Listed on May 4, 2010


The NASDAQ OMX Group - NDAQ - close 20.86 change +0.46 stop 19.75

NDAQ was under pressure this morning but buyers came piling in pushing the stock higher to a +2.25% gain. The stock closed back above our key pivot level at $20.60 dating back August 2009. The stock has good support down to $20.00. I moved our stop down a few cents yesterday to $19.75 which is below the swing low from March 15th and the 200-day and 100-day SMA's. Our target is $22.25 with a more aggressive target at $22.90. However, if NDAQ trades up to its 20-day SMA (near $21.65) I suggest traders tighten stops or take profits. Our time frame is about two weeks.

Current Position: Long JUNE $21.00 CALL, entry at $0.80

Entry on May 4th at $0.80
Earnings Date More than 2 months (unconfirmed)
Average Daily Volume: 2.9 million
Listed on May 3, 2010


PUT Play Updates

iShares Dow Transports - IYT - close 83.43 change -3.13 stop 84.45

IYT came within 18 cents of hitting our target of $81.50. Our $2.00 PUTS are now worth about $3.50 for +75% unrealized gain. I suggest traders begin to exit positions soon to protect profits. I am going to change our second target on this trade is $81.75 which is just above today's lows. But don't let this position reverse on you. Rather be stubborn in protecting profits. I am going to lower our stop to $84.45 but tighter stops could be placed at $83.10 and $83.75. Our time frame is about one week we but will have no issues exiting sooner if there is more downside in the coming days. I am not suggesting new positions at this time. *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.

Current Position: JUNE $83.00 PUT, entry at $2.00

Entry on April 29 at $2.00
Earnings Date N/A
Average Daily Volume = 1.0 million
Listed on April 28, 2010


Sina Corporation - SINA - close 34.50 change +0.37 stop $38.80

SINA got a the relief bounce today but our PUTS are still in the black. SINA even retested our trigger area before it reversed back lower. SINA is below all its major daily and weekly SMA's except for the 100-week SMA. I expect the overhead resistance and SMA's to hold. Our new stop is $38.80 but we will adjust it as the trade develops. Our first target is $33.25 which is a point where I would tighten stops to protect profits. If SINA trades down there in the coming days I will be happy to take profits. A more aggressive 2nd target is $30.50. If a market correction gets going I think SINA could easily trade down to this level but I don't want to get whipsawed back and forth so please protect profits. Our time frame is several weeks.

Current Position: JUNE $35.00 PUT, entry at $2.20

Entry on May 4th at $2.20
Earnings Date June 9, 2010 (unconfirmed)
Average Daily Volume: 1.1 million
Listed on May 1, 2010


Toll Brothers - TOL - close 22.02 change -0.40 stop 24.25

TOL was under pressure again today but bounced back and then reversed back down in the afternoon. The stock closed -1.78% lower. Our PUTS are now worth about $1.75. TOL traded within 8 cents of our target in early trading before reversing. I think TOL will ultimately hit our next target of $21.50 and possibly even $20.60. I'll keep our targets listed here as possible exit points: $21.80, $21.50, and $20.60. These are the levels where I suggest traders tighten stops or simply take profits. Aggressive traders can enter the position at this time. A tighter stop can be placed at $22.70 but don't let the stock run away from you. our time frame is about a week.

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


CLOSED BULLISH PLAYS

Gold Fields Ltd - GFI - close 13.22 change +0.00 stop 12.79

GFI reports earnings tomorrow before the bell. We closed the position this afternoon for breakeven as the stock reversed near its 20 and 50 hourly SMA's. We are now flat for breakeven on the trade. GFI didn't follow through higher like I expected but held up well considering the massive sell off the last few days. We are now looking for better opportunities. *NOTE: Please use small position size to limit risk as gold stocks tend to be volatile.*

Closed Position: Long MAY $13.00 CALL @ $0.60, entry was at $0.60

Annotated chart:

Entry on April 29 at $0.60
Earnings Date May 6, 2010 (unconfirmed)
Average Daily Volume: 5.3 million
Listed on April 28, 2010


Weatherford International - WFT - close 16.60 change -0.73 stop 16.55

WFT fell apart today and hit our stop late in the day by 3 cents. Hindsight says we should have closed this trade for a profit when we could have last week. The headline risk with oil proved to be too much as the entire sector has taken a beating this week. I have been urging traders to be cautious with WFT so if you exited great job. Traders who may still have positions can place stops a few cents below today's low. WFT looks like it has good support right here. $17.30, $17.80 and $18.60 are logical exit targets to keep an eye on. If

Closed Position: JUNE $17.00 CALL at $0.95, entry was at $1.58

Annotated chart:

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