Option Investor
Newsletter

Daily Newsletter, Tuesday, 2/1/2011

Table of Contents

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

Market Wrap

Bulls In Stampede Mode

by Jim Brown

Click here to email Jim Brown
Good economic news and a tame day in Egypt combined to cause a bullish stampede that powered the Dow and S&P to critical new highs.

Market Statistics

The revolution in Egypt appears to be winding down after President Mubarak announced he would bow to the will of the public and not run for reelection in September. That was not exactly what the public wanted but it was an acknowledgment of defeat.

Now the focus will turn to the other countries where protests are starting to be seen. Jordan's King Abdullah dissolved his government and appointed a new prime minister and giving him a mandate to "enact effective, real and tangible political reform." Protests in Jordan were increasing in intensity. In Yemen, President Ali Abdullah Saleh increased wages and cut income taxes. He took these actions in an effort to head off a "day of rage" protest scheduled for Thursday. Syria is also bracing for an identical day of rage protest scheduled for this week.

Fortunately there appears to be no credible move to ramp up protests in Saudi Arabia. That would be a major risk factor for oil over $100.

In the U.S. the economic news was outstanding. The ISM Manufacturing Index surged fro 57.0 to 60.8 and well over the 58.0 consensus. That headline number of the highest since 2004. New orders surged by 5.8 points to 67.8 for the second month of gains over 5 points. The employment component rose +2.8 points to 61.7. Order backlogs spiked +11 points to 58 in the largest monthly increase since the inception of this series in 1997. New export orders rose to 62 from 54.5 and a huge surprise. This was a very strong report and suggests future GDP numbers over 4%.

ISM Manufacturing Chart

Coming after the blowout Chicago ISM (formerly Chicago PMI) on Monday this was a one-two punch for the bears. The Chicago ISM surged to 68.8 and new orders spiked from 71.3 to 75.7. The employment index rose +5.7 points to 64.1 and the highest level since the early 1980s.

These reports would normally be very positive for the Nonfarm Payroll report due out on Friday. However, there were back-to-back blizzards during the survey period for January. This could mean a dramatic drop in the actual numbers reported on Friday. It would also suggest a potential explosion of jobs in the February report as the pent-up hiring occurs in February.

The calendar for the rest of the week includes some important events. The ADP report on Wednesday will attempt to predict the nonfarm payroll number for Friday. The ADP report has not done very well with its predictions lately but it is still heavily watched by analysts.

Economic Calendar

On the earnings front UPS spiked to a two-year high after posting profits of $1.08 and beating the analyst estimate by three cents. Revenue surged by +8.4% to $13.42 billion. UPS said it handled 440 million packages between Thanksgiving and Christmas. That was 10 million more than it expected. UPS also raised guidance for all of 2011 to $4.12 to $3.35 per share. Analysts were only expecting $4.17. The company also said it would buyback $2 billion in shares. The CFO said UPS is seeing volume return at an accelerated rate.

UPS Chart

Novellus rallied +6% after reporting profits of $1.03 compared to estimates of 93-cents. Profits more than doubled! Novellus said demand for personal computers remained strong thanks to the Windows 7 operating system from Microsoft. The company guided higher and helped power the Semiconductor Index to a new three-year high.

Novellus Chart

Semiconductor Index Chart

Pfizer reported earnings that beat the street by a penny but still managed to set a new 52-week high. The company said it was making plans for the cash drain next year when Lipitor goes off patent. That is an $11 billion a year drug for Pfizer. Some of those plans included cutting R&D research from $9.4 billion in 2010 to $6.5 billion in 2012. Pfizer also announced a $5 billion share buyback.

Pfizer Chart

Chinese search firm Baidu rallied +9% to $118.73 after beating the street with earnings and painting a rosy outlook for the future. The company said it would target social networking for additional advertising opportunities. With only one third of China's population connected to the Internet Baidu has a bright future. Baidu has a 70% market share in search in China. Baidu split 10:1 back in May and at its current rate there is probably another split in its future.

Baidu Chart

Electronic Arts (ERTS) posted a loss after the close but it was smaller than analysts expected and the stock rallied +10% in after hours trading. The adjusted earnings less one time items were 59-cents. This was slightly better than the 58-cents analysts expected.

Borders Group (BGP) may be preparing a bankruptcy filing despite the recent loan from GE. Borders operates 500 stores and will likely close at least 150 according to Bloomberg. The company said last weekend it would preserve cash by delaying payments to vendors and landlords as it continues to try to restructure debt. Borders got a $550 million loan from GE Capital last week under conditions that will force it to close stores, work out deals with landlords and seek financing from vendors. Borders also warned it may have to file for chapter 11 bankruptcy. Shares fell to a new two-year low on the news.

The rally today was very bullish. The close over Dow 12000 and S&P 1300 will attract new retail investors and convince those already in the market to part with some more cash. Good economic news is breaking out all over and the bears are in complete denial. I am actually surprised how many bears are refusing to capitulate. They still see a market top in every higher high and promise a significant dip in the near future. Obviously they will eventually be right and there will be a dip but they have been wrong for so long they have lost all credibility.

Traders have to face facts. Those facts are a Fed that is committed to five more months of QE2. Another fact is the sudden explosion of economic activity now that the taxes are fixed for another two years. Add in the 100% accelerated depreciation and companies are going to be buying equipment and adding infrastructure at a breakneck pace.

Liz Ann Sonders, chief market strategist at Charles Schwab said, "We are at a new stage in the economy. There is a tremendous amount of pent-up demand for business capital spending." These same sentiments are being echoed by numerous high profile analysts.

Non-financial corporations have a near record of $1.845 T in cash. They have to find something to do with that money because they are definitely not making any money in interest.

Congress is exploring ways to let corporations bring home cash from overseas to spend at home. A "tax holiday" is one suggestion making the rounds and it has been done in the past. There is by one estimate nearly $1 trillion in cash overseas held by U.S. corporations. A tax-free return would create a nearly instant wave of spending in the USA.

In our markets the valuation of stocks is still relatively low. The combined Dow stocks are trading at a trailing PE of 14.7 and normal is 17. A move to a normal ratio would put the Dow at 13,877.

Investors pulled out $245 billion out of equity funds since June 2008. Normal inflows are $145 billion a year. Investors put $2.5 billion in equity funds in the last three weeks of January. With every new high on the major indexes there will be a greater sense of urgency to move money back into stocks.

Morgan Stanley said retail investors are coming back to the market and they are expressing confidence in the economy.

I am surprised at the strength of the rebound since Friday but of course quite a few people probably shorted the Egypt event thinking it was going to produce a severe market decline. Several prominent bears were feeding that paranoia. When it did not happen all those shorts were caught on the wrong side of the market. The strong economic news in the U.S. and China and the U.K. this week was fuel to the fire.

The S&P closed at 1307 and a new two-year high. The S&P has not closed there since June 2008. That is a +2.5% spike since the 1275 low on Friday. The rally was supported by techs, financials, biotech, healthcare and energy. The test now will be to see if the 1300 level acts as support on the next bout of market weakness. Initial overhead resistance is still 1310. A break through that level would be even more bullish.

S&P-500 Chart

The Dow is clearly leading the charge higher. It pulled back to exactly where it should have found support on Friday and then rebounded to close over resistance today. This is a very strong move and a strong bullish signal. The close over resistance where it had so much trouble last week is very bullish. Support remains 11,800.

Dow Chart

The Nasdaq had a good day but failed to breakout to a new high. The major momentum stocks all contributed to the Nasdaq gains with the exception of NetFlix. We had a good test of initial support on Fri/Mon and a good rebound. The Nasdaq needs to break above the 2766 closing high from Jan-18th in order to join the new high celebration. That is the current resistance to watch.

Nasdaq Chart

The Russell gained the most of the major indexes at +2.25% but stopped dead on resistance from last week. In order for the rally to continue the Russell needs to breakout to a new high as well.

Russell Chart

I always say the Russell is the sentiment indicator for the market. Fund managers will not invest in the less liquid small caps if they believe there is trouble ahead. Watching the Russell for a breakout is a key market indicator. However, the TSM (formerly the Wilshire 5000) has already confirmed the rising bullish sentiment by breaking out to a new high. Hedge funds can't game the TSM. With 5,000 stocks in the index they don't have enough money. They can push the S&P, Dow or Russell around by hammering individual names or shorting the ETFs but they can't push the TSM around. It is what it is and today it is bullish.

Total Stock Market Index Chart

In summary, we could have a dip at any time but I still believe it will be a buying opportunity. On any day after a +148 point Dow gain we should start off with some minor profit taking but I think the fix is in. The rapid rebound from the Egypt event and breaking out to close over 12000/1300 is pretty convincing the bulls are in charge and they are not giving up any ground. We have been in buy the dip mode for weeks and what you just saw was a classic dip buy on good volume. Anyone waiting on the sidelines for a buying opportunity has got to move pretty quickly in this market because they only last a short time. This should keep the bears confused for weeks to come as they try to find a top. In theory we should see a top now that earnings are winding down but theory and reality rarely seem to occupy the same space and time in my universe. As the saying goes, "the market can remain irrational far longer than we can remain liquid." Don't bet against the bulls if you want to remain liquid in this market. Any dip remains a buying opportunity.

Jim Brown

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New Option Plays

Better Than Expected

by James Brown

Click here to email James Brown

Editor's Note:

In addition to tonight's bullish candidate shares of CERN and ILMN both caught my eye today.

- James


NEW DIRECTIONAL CALL PLAYS

Perrigo Co. - PRGO - close: 74.00 change: +1.28

Stop Loss: 69.90
Target(s): 79.00
Current Option Gain/Loss: + 0.0%
Time Frame: 4 to 6 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
PRGO reported earnings this morning before the bell. The results were $1.05 a share on revenues of $717.5 million. That beat Wall Street's estimate of 95 cents and $709 million. PRGO's management raised their 2011 guidance. The combination of positive earnings news and a bullish market lifted PRGO to a +1.7% gain. This bounce from the $70 level looks like a bullish entry point to buy calls. I am suggesting small bullish positions now with a stop loss at $69.90. Our target is $79.00.
The Point & Figure chart for PRGO is bullish with an $85 target.

- Suggested Positions -

Buy the March $75 calls (PRGO1119C75) current ask $2.40

Annotated Chart:

Entry on February 2nd at $ xx.xx
Earnings Date 02/01/11 (confirmed)
Average Daily Volume = 915 thousand
Listed on February 1st, 2010


In Play Updates and Reviews

Stocks Squeeze Higher

by James Brown

Click here to email James Brown

Editor's Note:

The stock market crushed the shorts today with a breakout to new highs. Our CMP play hit our first exit target. While CTSH and MON hit our stops.

-James

Current Portfolio:


CALL Play Updates

Coach Inc. - COH - close: 54.00 change: -0.09

Stop Loss: 52.49
Target(s): 58.50, 62.00
Current Option Gain/Loss: Unopened
Time Frame: 4 to 6 weeks
New Positions: Yes, see trigger

Comments:
02/01 update: I was surprised by the relative weakness in COH today. Shares rallied toward resistance near $55 but failed to breakthrough. COH underperformed the RLX retail index. There is no change from my prior comments. A breakout past $55 could be an entry point to buy calls. The Jan. 18th high was $55.27.

I am suggesting a trigger to buy calls at $55.35. If triggered we'll target a move to $58.50 and $62.00 but keep in mind that the $60.00 level could end up being round-number, psychological resistance.

Trigger @ $55.35

- Suggested Positions -

Buy the 2011 March $55.00 calls (COH1119C55)

- or -

Buy the 2011 March $57.50 calls (COH1119C57.5)

Entry on February xxth at $ xx.xx
Earnings Date 04/20/11 (unconfirmed)
Average Daily Volume = 4.1 million
Listed on January 31st, 2011


Compass Minerals - CMP - close: 94.77 change: +2.90

Stop Loss: 87.75
Target(s): 94.75, 99.00
Current Option Gain/Loss: +100.0%, and +65.0%
Time Frame: a few days
New Positions: See below

Comments:
02/01 update: Target achieved. The market's big rally on Tuesday was enough to push CMP to new highs. Shares hit $94.84 this afternoon. Our first exit target was hit at $94.75. I am raising our stop loss to $89.85 and raising. Our final exit target is $99.00. If you're looking for a new entry point I'd wait for a dip near $92.00-92.50ish.

Don't forget that earnings are about a week away. We want to exit in front of earnings.

- Suggested Positions -

Long the 2011 February $95.00 calls (CMP1119B95) Entry @ $1.25

- or -

Long the 2011 March $95 calls (CMP1119C95) Entry @ $2.00

02/01 Target Hit @ 94.75. Feb. call @ $2.50 (+100%)
Mar. call @ $3.30 (+65%)
02/01 New stop loss @ 89.85

chart:

Entry on January 28th at $91.00
Earnings Date 02/08/11 (confirmed)
Average Daily Volume = 210 thousand
Listed on January 27th, 2010


FactSet Research Systems - FDS - close: 101.20 change: +0.40

Stop Loss: 95.75
Target(s): 99.90, 103.50
Current Option Gain/Loss: +51.7%, and +185.7%
Time Frame: 2 to 3 weeks
New Positions: see below

Comments:
02/01 update: FDS continues to climb and hit $101.99 intraday. Volume was a little light today. Right now our exit target is $103.50. More aggressive traders may want to aim higher. I am not suggesting new positions at this time.

FYI: I can't explain the ridiculously wide spreads on some of FDS' options today.

Small Positions

Long the 2011 February $95 call (FDS1119B95) Entry @ $2.90

- or -

Long the 2011 February $100 call (FDS1119B100) Entry @ $0.70

01/29 Consider an Early Exit now!
01/27 New stop loss @ 95.75
01/27 1st Target Hit @ 99.90. Feb. $95 call @ $4.25 (+46.5%)
01/27 1st Target Hit @ 99.90. Feb. $100 call @ $1.45 (+107%)

Entry on January 25th at $96.64
Earnings Date 03/16/11 (unconfirmed)
Average Daily Volume = 181 thousand
Listed on January 24th, 2010


CBOE Market Volatility Index - VIX - close: 17.63 change: -1.90

Stop Loss: N/A
Target(s): 24.00, 28.00
Current Option Gain/Loss: -18.7%
Time Frame: 4 to 6 weeks
New Positions: see below

Comments:
02/01 update: The market's bullish breakout past resistance today looks pretty convincing. This move could be the death knell for this trade on the VIX. More conservative traders will want to consider an early exit now to preserve capital. I am not suggesting new positions at this time.

We have two targets to take profits at 24.00 and at 28.00.

- Suggested Positions -

Long the 2011 March $22.50 calls (VIX1116C22.5) Entry @ $1.60

Entry on January 26th at $17.00
Earnings Date --/--/--
Average Daily Volume =
Listed on January 25th, 2010


PUT Play Updates

Advance Auto Parts Inc. - AAP - close: 63.35 change: -0.59

Stop Loss: 66.15
Target(s): 60.25, 58.00
Current Option Gain/Loss: +20.0%
Time Frame: 6 trading days
New Positions: see below

Comments:
02/01 update: Our AAP put play is off to a good start. Shares completely ignored the market's rally today. I don't see any changes from my prior comments. While AAP still looks like a put candidate we might have better luck trading calls given this market environment.

We want to exit ahead of the earnings announcement in a few days. The Point & Figure chart for AAP is bearish with a $52 target.

- Suggested Small Positions -

Long the 2011 Feb. $60.00 puts (AAP11N60) Entry @ $0.50

Entry on February 1st at $64.22
Earnings Date 02/09/11 (unconfirmed)
Average Daily Volume = 1.0 million
Listed on January 31st, 2011


BorgWarner Inc. - BWA - close: 67.28 change: -0.12

Stop Loss: 71.25
Target(s): 63.50, 60.25
Current Option Gain/Loss: -11.9%, and - 4.4%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
02/01 update: I am shocked that BWA underperformed on Tuesday. Yes, the pattern is bearish but the market's rally was so widespread I was expecting BWA to participate. We can still open put positions here at current levels but the market's trend is clearly up and we might have better luck on bullish candidates instead. Our targets are $63.50 and $60.25. FYI: The Point & Figure chart for BWA has turned bearish.

Use small positions to limit our risk.

- (small positions) -

Long the Feb. $65 PUTs (BWA1119N65) Entry @ $1.42

- or -

Long the Mar. $65 PUTs (BWA1119O65) Entry @ $2.25

Entry on January 31st at $67.77
Earnings Date 02/10/11 (confirmed)
Average Daily Volume = 2.0 million
Listed on January 29th, 2010


Citrix Systems - CTXS - close: 65.06 change: +1.88

Stop Loss: 67.65
Target(s): 60.10, 58.00
Current Option Gain/Loss: -63.1%, and -32.5%
Time Frame: 2 to 3 weeks
New Positions: Yes, see below

Comments:
02/01 update: CTXS bounced back toward resistance in the $65-66 area. This looks like a new entry point to buy puts but honestly given the market's breakout higher today I would be reluctant to buy puts. We're probably better off finding new bullish candidates instead. Previously I suggested that readers buy half their position at the start and if we see another failed rally near $66 then we can buy our second half. Our targets are $60.10 and $58.00.

- (small positions) -

Long the Feb. $60 PUTs (CTXS1119N60) Entry @ $0.95

- or -

Long the Mar. $60 PUTs (CTXS1119O60) Entry @ $2.00

Entry on January 31st at $63.43
Earnings Date 01/26/11
Average Daily Volume = 3.2 million
Listed on January 29th, 2010


Donaldson Company, Inc. - DCI - close: 59.25 change: +0.65

Stop Loss: 60.35
Target(s): 52.75, 50.50
Current Option Gain/Loss: Unopened
Time Frame: 4 to 6 weeks
New Positions: Yes, see trigger

Comments:
02/01 update: DCI added +1.1% with a bounce back toward short-term resistance near $59.50. If this stock can breakout past $60.00 we will want to consider buying call options instead. For now the plan is to buy puts with a trigger to initiate positions at $57.45. If triggered we'll aim for a drop to $52.75 and $50.50. I would keep your position size small to limit our risk.

Trigger @ 57.45 (Small Positions)

- Suggested Positions -

Buy the 2011 March $55 puts (DCI1119O55)

Entry on February xxth at $ xx.xx
Earnings Date 02/23/11 (unconfirmed)
Average Daily Volume = 208 thousand
Listed on January 31st, 2011


Decker's Outdoor Corp. - DECK - close: 75.97 change: +2.58

Stop Loss: 80.25
Target(s): 70.50, 65.50
Current Option Gain/Loss: -20.7%, and - 8.3%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
02/01 update: Uh-oh! The bounce today erased our gains. Shares of DECK are nearing resistance in the $77-78 zone. The bigger picture is still bearish but given the market's action today readers may want to scale back on their positions and/or lower their stop losses. I am not suggesting new positions at this time.

Our targets are $70.50 and $65.50. The Point & Figure chart for DECK is bearish with a $65 target.

- Suggested Positions -

Long the 2011 February $75.00 PUTS (DECK1119N75) Entry @ $2.65

- or -

Long the 2011 March $75.00 PUTS (DECK1119O75) Entry @ $4.80

01/27 DECK hit our trigger to buy puts at $77.00

Entry on January 27th at $77.00
Earnings Date 02/24/11 (unconfirmed)
Average Daily Volume = 1.5 million
Listed on January 20th, 2010


Google Inc. - GOOG - close: 611.04 change: +10.68

Stop Loss: n/a
Target(s): n/a
Current Option Gain/Loss: see below
Time Frame: 1 month
New Positions: No

THIS IS A STRANGLE TRADE (not a simple put play)

Comments:
02/01 update: GOOG bounced from the $600 level but shares face resistance near $620 and $640. I don't see any changes from my weekend comments.

STRANGLE TRADE: Buy an out of the money CALL and PUT

STRANGLE #2 (February) initial cost $15.10, currently: $2.35 (-84.4%)

2011 February $680 call (GOOG1119B680) Entry @ $6.20

- AND -

2011 February $580 put (GOOG1119N580) Entry @ $8.90

01/22: Exit the January strangle at the open.

Entry on January 20th at $626.77
Earnings Date 01/20/11 (unconfirmed)
Average Daily Volume = 3.4 million
Listed on January 19th, 2010


iShares Russell 2000 Index - IWM - close: 79.75 change: +1.80

Stop Loss: 80.25
Target(s): 75.00
Current Option Gain/Loss: -93.3%
Time Frame: 1 to 2 weeks
New Positions: see below

Comments:
02/01 update: Stocks saw a huge rally on Tuesday and the Russell 2000 index added +2.2%. Meanwhile the IWM rallied to resistance at the $80.00 mark. This is it. It's do or die time for our put play with a stop loss at $80.25. I am not suggesting new positions at this time. Nimble traders may want to buy calls if the IWM trades above $80.75.

Small Position only

Long the 2011 February $77 puts (IWM1119N77) Entry @ $1.65

01/29 New stop loss @ 80.25

Entry on January 20th at $78.14
Earnings Date --/--/--
Average Daily Volume = 38 million
Listed on January 19th, 2010


Panera Bread Co. - PNRA - close: 96.96 change: +1.40

Stop Loss: 100.05
Target(s): 95.15, 91.00
Current Option Gain/Loss: -22.8%
Time Frame: 3 weeks
New Positions: see below

Comments:
02/01 update: PNRA tried to keep pace with the market's rebound and shares added +1.45. PNRA might see some resistance near $98 and should definitely see some resistance near $100.00. However, more conservative traders may want to exit right now. I am not suggesting new bearish positions at this time.

- Suggested Positions - (small positions)

Long the 2011 February $95 PUTS (PNRA1119N95) Entry @ $2.85

01/29 New stop loss @ 100.05
01/28 1st Target Hit @ 95.15, option @ $3.20 (+12.2%)
01/26 New stop loss @ 100.55, target adjusted from 95.50 to 95.15

Entry on January 24th at $97.96
Earnings Date 02/10/11 (unconfirmed)
Average Daily Volume = 364 thousand
Listed on January 22nd, 2010


CLOSED BEARISH PLAYS

Cognizant Technology Solutions - CTSH - close: 75.35 change: +2.40

Stop Loss: 75.25
Target(s): 70.25, 68.00
Current Option Gain/Loss: -53.8%
Time Frame: exit ahead of earnings
New Positions: see below

Comments:
02/01 update: The market's big rally through resistance was enough to lift CTSH past resistance. Shares hit our stop loss at $75.25. I would keep an eye on the $76.50 level, which was tough resistance in early January. A breakout there could be big news for CTSH.

- Suggested Positions (very small positions only!) -

2011 February $70.00 PUT (CTSH1119N70) Entry @ $1.30, Exit @ 0.60 (-53.8%)

02/01 Stopped out. option @ $0.60 (-53.8%)
01/24 CTSH opened at $73.13. Put option opened at $1.30
01/22 Moved from call candidate to put play.

chart:

Entry on January 24th at $73.13
Earnings Date 02/07/11 (confirmed)
Average Daily Volume = 1.8 million
Listed as a PUT on January 22nd, 2010


Monsanto Co. - MON - close: 76.05 change: +2.67

Stop Loss: 75.51
Target(s): 69.00, 66.00
Current Option Gain/Loss: -55.0%, and -32.4%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
02/01 update: The rally carried shares of MON through resistance in the $75 area and hit our stop loss at $75.51. MON closed at new relative highs. This could be a bullish entry point to buy calls.

- Suggested Positions -

2011 February $70 PUT (FDS1119N70) Entry @ $1.00, exit @ $0.45 (-55%)

- or -

2011 March $70 PUT (FDS1119O70) Entry @ $1.85, exit @ $1.25 (-32.4%)

02/01 Stopped out. MON @ 75.51. Option at -55% and -32.4%
01/29 MON is offering a new entry point to buy puts.

chart:

Entry on January 26th at $73.00
Earnings Date 03/31/11 (unconfirmed)
Average Daily Volume = 6.2 million
Listed on January 24th, 2010