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Daily Newsletter, Tuesday, 9/28/2010

Table of Contents

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

Market Wrap

Running Out the Clock

by Jim Brown

Click here to email Jim Brown
The markets continued moving sideways as fund managers kept the indexes pinned at four-month highs with quarter end window dressing.

Market Statistics

The lack of forward progress by the indexes should have surprised no one. Friday's close at strong resistance made it tough to start a new week at higher highs and fund managers appear to be content to let the quarter expire at current resistance levels. There were multiple halfhearted attempts to move over S&P 1150 but a lack of volume and conviction doomed them to failure.

Pressuring the markets at the open today was a seven-month low on Consumer Confidence. The headline number fell to 48.5 from 53.5 and more than erased last month's 2.2-point gain. The Conference Board spokesman said confidence remained "quite grim."

The majority of the decline came from a sharp drop in the expectations component from 72.0 to 65.4. The current conditions component, already at very low levels, fell from 24.9 to 23.1. Those consumers who think there are plenty of jobs available fell to the low for the year at only 3.8%. The only bright spot was an increase in consumers expecting to buy a household appliance rose from 24.6% to 27.5%. I suspect they are anticipating buying a flat screen TV for the holidays.

Despite the September rally in the stock market, consumers continued to expect further declines. The rally had no impact on consumer views and that is unusual.

I believe, as I have stated several times in recent weeks, that sentiment is being depressed by the election process. Candidates use ugly headlines and blame it on incumbents and incumbents warn that things will get worse if the other side wins the election. The process of election mudslinging depresses consumers and this is an especially contentious election.

Consumer Confidence Chart

Also depressing the market this morning was an ugly Richmond Fed Manufacturing Survey. The headline number fell back into contraction territory at -2 from a +11 in August. The cycle high back in April was +30. This was the fifth consecutive monthly decline for a total of 32 points.

New orders fell to zero from +10, a -41 point drop from April's high. Backorders declined to -11 and employment fell to -3 from +12. The Richmond Survey has a strong correlation to the National ISM coming on Friday. The decline in the Richmond survey suggests the ISM could drop from 56.3 to 51.4 and very close to contraction territory once again. This is not a good sign and there are several more regional reports due out this week.

The combination of the low consumer confidence and the weak manufacturing surveys could bring back the worries about a double dip recession.

Richmond Fed Chart

The Case Shiller Home Price Indexes lost ground for the second month but this is a lagging report for July and was essentially ignored. The survey showed home prices increased +3.2% in July from July 2009. This compares to a +4.2% rate in June.

The next major series of reports will be on Thursday with GDP, Kansas Fed and a couple regional ISM reports.

Economic Calendar

Apple shares fell -5.5% (-$16) this morning on a rumor that the heir apparent to Steve Jobs throne, CFO Tim Cook, was leaving to become the CEO at Hewlett Packard. This was later refuted and the shares rebounded to recover $11 of the drop. Apple shares have been on a massive rally for over a month and many traders probably had some tight stop losses to protect their profits going into quarter end. When the news hit we saw a cascading breakdown to a low of $275.

Some news reports were blaming the announcement of the Research in Motion tablet PC but I refuse to believe this was a factor. The RIMM tablet is just not that big a competitor to Apple and it has been in the works for a year. It was not a surprise.

Apple's weighting in the Nasdaq 100 has risen to 20% of the total index value. There is no way for the NDX to escape any move in Apple shares. The decline in Apple shares knocked -32 points off the NDX in the opening minutes of trading. The NDX eventually recovered to close slightly positive while Apple ended with a -4.30 loss.

Apple Chart

Research in Motion shares declined sharply and ended with a -3% loss because of a weak reception for the Playbook tablet. The tablet will have a 7-inch screen and require a companion BlackBerry for 3G Internet access. It will not be released into the market until sometime in the first quarter. The drop in RIMM shares on the lackluster announcement is just proof to me that the Playbook had no impact on Apple's drop. I believe Apple's drop was more of an impact to RIMM and other tech shares than anything else.

RIMM did not even have a product demonstration with the announcement and traders are used to the Apple theatrical releases with Jobs himself demonstrating the product. It is a tough act to follow, especially without a working prototype.

The Android tablets and phones are more likely to weigh on RIMM than Apple because of the flood of models and vendors.

RIMM Chart

Goldman Sachs put a sell rating on KB Homes and pushed the stock down -4% intraday. Goldman cut the price target to $10 and warned the company would probably post a loss in 2011. Goldman said KBH would have to grow its top line by 20% to 25% just to break even in 2011. That was a goal they believed was unachievable.

Goldman upgraded Pulte Homes (PHM) to neutral from sell saying the builder could turn a profit in 2011 thanks to deep cost cutting.

The airline sector was showing signs of life after the International Air Transport Association (IATA) raised its 2010 profit outlook to $8.9 billion compared with an earlier outlook for only $2.5 billion. The IATA said cargo markets remain positive although undergoing a slower rate of expansion. Cargo in some regions is expected to close the year at pre recession levels.

The IATA expects profits to decline in 2011 to $5.3 billion because excess capacity will outpace demand. Delivery of higher capacity planes will offset the decline in routes and mothballing of higher cost equipment over the last three years. With a consolidation of carriers in the U.S. the survivors will have a stronger route structure and the ability to trim expenses by reducing duplicate routes. This will lead to higher prices.

Oil prices were mentioned as the spoiler for profits in 2011-2012 with prices expected to be in the mid $80 in 2011 and return to triple digits in 2012.

The American Trucking Association's Truck Tonnage Index declined -2.7% in August. That was the largest drop since March 2009. ATA Chief Economist Bob Costello said August's data highlights that the economy, while still growing, is slowing. The ATA expects lower tonnage numbers for the remainder of 2010 and the current index is reflecting that view. However, he expects the carriers to do better because of a drastic decline in capacity during the recession. Trucks carry 68% of all freight in the USA.

Toys R Us said they were going to hire 45,000 seasonal workers to help with the holiday traffic. This is an increase from past years because they were opening 600 "pop-up" stores for the holiday season. These pop-up stores are geared to take advantage of vacant retail space in malls. They sign a four-month lease, produce temporary signage and use temporary workers. The stores are called Toys R Us Express because of their smaller floor space and reduced inventory. In the past the company hired 35,000 workers but the abundance of vacant retail space allowed them to expand their holiday offering. Toys R Us is currently private but is planning an $800 million IPO.

In similar news Macy's said it was hiring 65,000 seasonal workers and Best Buy 29,000. This raises the expected hiring for seasonal workers to just under 600,000 according to outplacement firm Challenger, Gray and Christmas. At 600,000 that would be a +20% increase over 2009. However, that is still about 200,000 below what is considered "normal" seasonal hiring.

Monsanto took a major hit after reporting that yields of their genetically modified SmartStax corn hybrid were below expectations. This hybrid corn has eight added genes to protect against weeds and bugs and the yields are coming in 3% to 5% lower than expected. Monsanto said they would give seed credits to farmers who were unsatisfied with the performance. Jefferies & Co said this would be a significant headwind for profits in 2011. Monsanto was counting on SmartStax to boost profits as much as +17% after earnings on herbicide Roundup collapsed due to competition from generic versions. Monsanto shares fell -8% on the news. Genetically modified crops are banned in Europe as well as dozens of other countries.

Monsanto Chart

Hewlett Packard said its earnings for the coming year should exceed analyst expectations. During an analyst meeting on Tuesday the company said 2011 earnings should be in the range of $5.05 to $5.15 per share. That is a +14% increase from 2010 estimates. Analysts were expecting $4.99 per share. Revenue should be in the $133 billion range and an increase of 5% to 7%. No word on how the CEO search is progressing. HPQ closed up +36 cents.

WalGreen's profits rose more than 8% last quarter according to their release today. This produced an 11% spike in the stock and the largest single day gain in a year. Profits were 49-cents compared to estimates of 44-cents. Most investors were expecting an earnings miss. The company said it was planning on administering 15 million flu shots this year compared to the seven million in 2009.

Walgreen Chart

Gold closed at $1309 with an intraday high at $1311.40. The spike in gold came on a continued decline in the dollar on expectations for further stimulus from the Fed. Fed officials spoke in various events and there seems to be no agreement inside the Fed to do another easing program but analysts are united in their expectations for a minimum of another $500 billion in bond purchases. Gold analysts are starting to predict $1500 for gold and some are saying $2000 within five years because of the impact of inflation from the Fed's moves.

Gold Chart

Dollar Index Chart

In House testimony today a lawyer for the collapsed Bank of Credit and Commerce told lawmakers the U.S. banking system is open to large-scale fraud. He provided evidence of money laundering by a Saudi businessman of more than $1 trillion using nothing more exotic as some shell companies and PC Anywhere remote desktops. The lawyer criticized the banks nearly total ignorance of the details behind large-scale money transfers. The scammer, Maan al-Sanea, opened fictitious offshore banks as fronts to "loan" money to corporations. The banks then setup correspondent accounts in the U.S. with reputable companies like Bank of America. He then moved over $1 trillion of laundered money through the international banking system without attracting attention. One account in New York had been setup with an application claiming $15 million a year in expected transfers. He moved $160 billion through the account in one year without any questions. This ability for an individual to move money on a large scale without any checks and balances suggests countries like Iran and North Korea could easily avoid the sanctions and transact business worldwide.

Volume picked up today to total 7.6 billion shares. This was in no small part due to the sharp dip at the open to levels where investors were waiting. The next SEC response to the flash crash is expected to be released soon and one troubling change being mentioned in the news would be the elimination of stop losses at market. This has yet to be mentioned by the SEC but it is still getting plenty of press. In theory a stop loss at market is supposed to get you out of a trade at the current price no matter what it is.

If I own RIMM at $48 at the open with a market stop at $47 then a dip to $47 takes me out at whatever the bid is when the $47 level is touched. On a fast drop this could be $46.75 or even $46.50 but I am out instantly. If they remove the market option and force a limit order then I could get trapped in the stock in a fast market. If I had a stop loss at $47 with a generous limit price at $46 I would normally get filled close to $47. In a fast market where RIMM gaps down below my $46 limit I would not be filled and the stock could go to zero and leave me hanging out to dry.

I understand this from the SEC perspective. They want to put a floor under the stock price by forcing a limit price. With everyone at market that market bottom can fall out instantly and produce swings of $10 to $20 in seconds. That happened in Progress Energy (PGN) on Monday. A mini crash hit the shares at 12:30 and the price went from $44.61 to $4.57 in only five milliseconds. If you had a stop loss at market you could have been filed at any point between $44 and $4 depending on your brokers computer system. If you had a limit order at say $42 you would not have been filled and had the drop been real and the price stayed low you would have been in deep trouble. Fortunately for PGN shareholders the price returned to $44 over the next 30 minutes and trades were busted.

I am strongly against the elimination of market orders for stop losses. I have been in far too many trades where I would have lost large amounts of money waiting for a limit order that would not have been filled. I seriously hope this change is a figment of somebody's imagination and not something the SEC is actually considering.

The SEC said investors have pulled money out of mutual funds every week since the May 6th flash crash. SEC Chairman Mary Shapiro said the trend was very "troubling" because of the underlying decline in investor confidence. TrimTabs.com said investors have withdrawn $55.4 billion from funds in 2010 despite the average fund gaining +36.4% since year-end. TrimTabs.com said investors are still so deep in the red from the recession drop that they were selling from frustration at the lagging recovery and to harvest losses for tax purposes.

The markets are doing about what I expected for the week. I thought we would see a little stronger effort on Monday to punch through resistance but there was no material news event to push stocks higher and force more short covering.

The S&P failed at 1149.92 on Monday and exactly 1150 today. This resistance is very strong and without a major catalyst to spike the market higher on short covering I believe we will close out the quarter very close to this level. The end of quarter window dressing is in full bloom and October is still looking ominous.

If the S&P can't punch through 1150 on decent volume and cause the shorts to panic then next week is going to be dicey.

S&P-500 Chart

The story is the same on the Dow. Today's gains just offset Monday's losses and we are right back at resistance, currently 10,870 and again at 10,900. The big caps have been getting all the bids but are still unable to move higher.

Dow Chart

The Nasdaq composite is still negative for the week despite today's 10-point gain. Resistance at 2380 is solid and every minor move over that level is sold immediately.

The sharp decline in Apple this morning triggered fears of a new flash crash even though the drop was news related. Most traders don't know what is powering the moves until hours after it happens. The stock zigs, traders zag and then a couple hours later we hear several contradictory opinions on why it happened. That is not confidence building. If Apple recovers its momentum that will be the best chance for the Nasdaq to move higher. Otherwise I expect it to move sideways into Thursday's close.

The Nasdaq 100 managed only a +1 point gain and that is the index that has powered the rally. Big cap, highly liquid tech stocks have been favored by funds in September. Apple's drop knocked the legs out from under the NDX.

Nasdaq Chart

Nasdaq 100 Chart

In summary I expect the markets to hold at these levels with possibly a minor gain until Thursday. I still believe October will bring some selling as fund managers shuffle their portfolios. This is the equivalent of the two-minute drill with one team well ahead of the other and in possession of the ball. They just want to retain possession and run out the clock. Fund managers want to pin the indexes to these levels until the month of September expires.

Jim Brown

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New Option Plays

Short Play on Large Caps

by Scott Hawes

Click here to email Scott Hawes


NEW DIRECTIONAL PUT PLAYS

SPDR DJIA ETF - DIA - close 108.56 change +0.37 stop 110.55

Company Description:
SPDR Dow Jones Industrial Average ETF Trust, formerly Diamonds Trust, Series 1 (the Trust) is a unit investment, which issues securities called trust units or units. It seeks to provide investment results that, before expenses, generally correspond to the price and yields performance of the Dow Jones Industrial Average. The Dow Jones Industrial Average is an Index of 30 blue chip United States stocks.

Target(s): 106.55, 105.40
Key Support/Resistance Areas: 112.00, 110.00, 107.30, 106.40, 105.00
Time Frame: 1 to 3 weeks

Why We Like It:
Stocks have been flowing into large caps and I believe they are due for a decline after the quarter ends which is Thursday. I also think the broader markets may see a false breakout tomorrow which will head fake late comers to the party into long positions. I suggest readers enter long positions if DIA trades to $109.20, which is near the highs DIA printed after the flash crash before the DJIA plunged more than -1,000 points. If triggered, our profit targets on options positions are +50% to +75%.

Suggested Position: Buy November $105.00 PUT, current ask $1.97, estimated ask at entry $1.70

Annotated chart:

Entry on September xx
Earnings: N/A (unconfirmed)
Average Daily Volume: 6.5 million
Listed on September 25, 2010


In Play Updates and Reviews

Equities Still Consolidating Gains

by Scott Hawes

Click here to email Scott Hawes
Current Portfolio:


CALL Play Updates

Petroleo Brasileiro - PBR - close 35.58 change -0.28 stop 33.70

Target(s): 37.40, 38.65
Key Support/Resistance Areas: 39.00, 37.50, 36.60, 34.00
Current Gain/Loss: -2.4%
Time Frame: 1 to 2 weeks
New Positions: Yes

Comments:
9/28: PBR consolidated yesterday's gains, closing marginally lower. We are looking for the short interest to unwind which should cause the stock to spike higher. Be prepared to take profits or tighten stops to protect them as our target approach.

9/25: PBR gapped lower on Friday which improved our entry price into the position. All reports indicate the secondary offering was a success and was priced near the market. We are looking for the short interest to unwind which should cause a quick pop in the stock. Our stop is in place if we are wrong.

Suggested Position: Long November $37.00 CALL, entry was at $1.25

Entry on September 25, 2010
Earnings 11/11/2010 (unconfirmed)
Average Daily Volume: 13 million
Listed on September 23, 2010


Transocean Ltd - RIG - close 63.20 change +0.84 stop 53.40

Target(s): 62.95, 64.40, 66.50
Key Support/Resistance Areas: 55.50, 58.25, 63.90, 64.90
Current Gain/Loss: +27%
Time Frame: 2 to 4 weeks
New Positions: Yes, on pullbacks

Comments:
9/28: After consolidating on light volume over the past couple of weeks RIG has broken out on stronger volume the past two days. The stock came within 5 cents of reaching our 2nd target in early trading today so this target has been lowered to $64.40. Options positions could have been closed for +55% gain on the initial surge this morning. Today's candlestick may be considered a reversal pattern so readers should use caution. However, I do think pullbacks will get bought but the overall broader market strength or weakness will be important.

9/23 & 9/25: Still not much movement in RIG and it is still consolidating on lighter volume. The main reason this position is negative right now is due to a bad entry at the open last Monday when the stock gapped higher. Now we need a breakout which is going to be tough if the broader market continues lower, but so far RIG has held its own. If things pick back up I expect RIG to do well and I view pullbacks as possible buying opportunities.

Current Position: Long November $65.00 CALL, entry was at $2.25

Entry on September 13, 2010
Earnings 11/3/10 (unconfirmed)
Average Daily Volume: 8 million
Listed on September 11, 2010


STEC, Inc. - STEC - close 12.79 change -0.13 stop 12.05

Target(s): 14.15, 14.65
Key Support/Resistance Areas: 14.80, 14.15, 13.45, 12.15
Current Gain/Loss: -20%
Time Frame: 1 to 2 weeks
New Positions: Yes

Comments:
9/28: STEC has pulled back from big gains late last week. We may need to exhibit patience as the broader market determines its next direction. I like new positions at current levels.

9/25: The storage sector has been beaten down and is due for a comeback if the broader market cooperates. STEC bounced hard off of its 20-day SMA on Thursday and is forming an ascending triangle on its daily chart. I suggest readers initiate long positions if STEC pulls back to $13.10 or breaks higher to $13.50, whichever occurs first. We are targeting a move up to its congestion areas from April and June. If triggered at $13.10, our profit target on option positions is +50% to +75%.

Current Position: Long November $14.00 CALL, entry was at $0.96

Entry on September XX
Earnings 11/03/2010 (unconfirmed)
Average Daily Volume: 1.8 million
Listed on September 25, 2010


iPath S&P 500 VIX ST Futures - VXX - close 16.63 change -0.99 stop 16.23

Target(s): 17.55, 18.45, 19.25
Key Support/Resistance Areas: 17.50, 19.75, 20.60
Current Gain/Loss: -16%
Time Frame: 1 to 2 weeks
New positions: Yes, preferably on pullbacks

Comments:
NOTE: I view this as an aggressive trade so small position size is recommended. Long VXX is a bearish play on equities, however, it is listed as long play because we are long the underlying instrument.

9/28: Volatility carried into this morning but reversed lower as the bulls stepped in pushing stocks back toward their highs. I want to add a target of $17.55 which should be considered as a place to take profits or tighten stops to protect them. We have a tight stop which will most likely get hit if the broader market continues higher in the coming days.

9/25: VXX collapsed nearly $1 as the market ripped higher on Friday. Our +24% gain is now a -8% loss. I suggest readers use caution with this position. If the market breaks out higher this week we need to get out the way. Then we can consider possibly entering at a lower price. Let's implement a stop at $16.23 and move on if we are taken out.

Current Position: Long November $18.00 CALL, entry was at $1.25

Annotated chart:
%IMG4%

Entry on September 22, 2010
Earnings N/A (unconfirmed)
Average Daily Volume: 21 million
Listed on September 21, 2010


PUT Play Updates

Archer Daniels Midland - ADM - close 32.89 change +0.25 stop 32.95

Target(s): 32.20, 31.50, 30.85
Key Support/Resistance Areas: 33.50, 31.00, 29.80
Current Gain/Loss: -40%
Time Frame: 1 to 2 weeks
New Positions: Yes

Comments:
9/28: ADM is testing the backside of a broken intraday upward trend line and a downward trend line (which remains in tact). This is the logical spot for the stock to head lower and make another lower low. $32.20 is still a valid target, although $31.50 (raised 20 cents) looks very doable if the broader market pulls back.

9/25: ADM lost more than -2% of Friday when the broader market gained +2%. I could not find any specific news that would have caused the sell-off in the stock. Nonetheless, it was good for our puts. ADM is finding support at its 20-day SMA and if the broader market breaks out next week ADM could quickly erase Friday's losses. However, if the broader market retraces some of Friday's gains ADM should quickly head to towards our more aggressive targets. I want to tighten the stop down to $32.95. This is an intraday resistance level and just above Thursday's and Wednesday's closing prices.

9/23: We got a little reprieve in ADM today as the stock lost -1.14%. We need the stock to break below today's low to get things moving in our direction, which will also break an intraday trend line. I suggest readers remain cautious on the position and my comments from below remain valid.

Current Position: Long October $32.00 PUT, entry was at $0.82

Entry on September 20, 2010
Earnings: 11/2/2010 (unconfirmed)
Average Daily Volume: 6 million
Listed on September 18, 2010


Charles Schwab - SCHW - close 14.19 change +0.26 stop 14.42

Target(s): 13.45, 13.10, 12.85
Key Support/Resistance Areas: 14.10, 13.35, 13.05, 12.65
Current Gain: -30%
Time Frame: 1 to 3 weeks
New Positions: Yes

Comments:
9/28: SCHW traded up to its 50-day SMA today and closed just below it. We are very close to being stopped out which will probably happen if there is broader market strength. I've adjusted the targets and suggest readers begin to exit positions on weakness in the stock if it turns lower from here.

9/25: SCHW reversed right back up to its resistance level where the stock has struggled all month. It is a tough call to say where SCHW heads from here. I still think the stock heads lower but I could see the stock trading up to its 50-day SMA first. Our stop is 13 cents above the 50.

9/23: The gap down this morning triggered our entry into SCWH at 50 cents instead of 45 cents. In hindsight, my instructions should have been enter at 45 cents. Nonetheless, SCHW looks vulnerable but we have to get below $13.36 before the stock will head towards its lows. My comments from below remain valid.

NOTE: November strikes were just recently released in SCHW so the open interest not as great as other months. The spreads are reasonable and I am not worried about liquidity as trading will begin to pick up.

Current Position: Long November $13.00 PUT, entry was at $0.50

Annotated chart:

Entry on September 23, 2010
Earnings: 10/14/2010 (unconfirmed)
Average Daily Volume: 11 million
Listed on September 22, 2010