Option Investor
Newsletter

Daily Newsletter, Monday, 7/11/2011

Table of Contents

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

Market Wrap

Not Safe To Tread In Europe's Waters

by Todd Shriber

Click here to email Todd Shriber
Apparently the last few trading days of June and the first few days of July were nothing more than a front that now, with the benefit of hindsight, was easy to see through regarding Europe's sovereign debt woes as fresh concerns on this seemingly never-ending issue plagued stocks today, sending the S&P 500 to its worst two-day run in a month. The carnage was wide-spread as the Dow Jones Industrial Average slid 1.2%, the Nasdaq fell 2% and the Russell 2000 ended lower by 2.2%.

Stats Table

I have the benefit of writing the Monday wrap, which partially explains why I have been so vigilant in highlighting Europe's sovereign debt problems over the past 18 months or because the news that this issue produces tends to percolate over the weekend and then proceeds to drag riskier assets lower on Monday. So forgive me for sounding like a broken record, but as I have said many times in the past, Greece's situation alone is bad. Portugal's tribulations are moderately worse, but fears regarding a spreading contagion to the likes of Italy and Spain are another ball of wax altogether.

As ranked by the International Monetary Fund, Italy and Spain had the eleventh- and thirteenth-largest economies in the world last year, respectively. Spain's 2010 GDP was more than quadruple that of Greece's and Italy's was more than five times that of Greece, which is just a short trip away by way of the Ionian Sea.

I am not much of a bond guy, but I will note that the spreads on Italian and Spanish government debt relative to German bunds blew out today. Yields on 10-year Italian government-issued debt hit their highest levels in a decade. In fact, yield spread on Italian 10-years and the comparable German bund jumped 47 basis points today, the biggest daily increase since 1994 to a euro-era high of 305 basis points, Reuters reported. Yields on Spanish government bonds are hovering around 6%, also a euro-era high.

As an aside and as someone who spends a lot of time analyzing and writing about ETFs, I find it very interesting that Global X, one of the up-and-coming issuers in the ETF business, filed plans last week to possible introduce Greece-and Portugal-specific ETFs along with a fund tracking Southern Europe. I have to imagine there are plenty of short-sellers at hedge funds and banks throughout the world that wish these funds had come along sooner.

Speaking of ETFs, the iShares MSCI Italy Index Fund (EWI) was hammered to the tune of 6.2% today on volume that was nearly five times the daily average. The iShares MSCI Spain Index Fund (EWP) plunged 5.2% on volume that was more than double the daily average.

Italy ETF

Spain ETF

Mergers and acquisitions news flow was pretty active today, but savagery inflicted upon riskier assets, especially in the materials sector, held back shares of Peabody Energy (BTU), the largest U.S. coal producer. Missouri-based Peabody is teaming with ArcelorMittal (MT), the world's largest steelmaker, to bid for Australia's Macarthur Coal, the world's largest maker of pulverized coal for steel producers.

Given that anecdote about Macarthur, the company makes for an attractive acquisition target in this era of soaring coal demand and prices. Peabody certainly knows this as it tried to acquire Macarthur last year on its own for $3.8 billion, but was rebuffed. Teaming with ArcelorMittal for Macarthur's affections makes sense for Peabody because the steelmaker already owns almost 14% of Macarthur. Now the two companies just have to convince major shareholders such as China's Citic Group and South Korea's Posco (PKX) that Macarthur is better off being part of a joint venture that will be 60% owned by Peabody and 40% owned by ArcelorMittal. For more news and commentary on the energy sector, register for the OilSlick.com free daily newsletter (HERE).

Peabody Chart

Speaking of materials sector M&A, Stillwater Mining (SWC), the Montana-based platinum and palladium got shellacked today, plunging $5.26, or 22.2%, to $18.46 on volume that was nearly seven times the daily average after the company announced it will acquire Canadian rival Peregrine Metals to bolster its exposure to gold and copper.

Through the acquisition, which is expected to close at the end of September, Stillwater will gain access to Peregrine's undeveloped Altar property in the San Juan province of Argentina, which has indicated resources of 7.4 billion pounds of copper and 1.5 million ounces of gold, according to Reuters. On the surface, that would appear to be good news, but it was not. JPMorgan said investors were right to send Stillwater shares to the woodshed, saying the deal brings too much of a base metals flair to a precious metals mining company.

Stillwater had put in a nice run off its June lows, but all of that good work was undone today as the stock sank below the lowest closing price seen last month.

Stillwater Chart

Dow component Alcoa (AA), the largest U.S. aluminum, kicked off the second-quarter earnings parade today after the close after sinking nearly 3% on volume that was about 75% higher than the daily average during regular trading. The Pennsylvania-based company said its profit for the quarter rose to $322 million, or 28 cents a share, from $136 million, or 13 cents, a year earlier. On an adjusted basis, Aloca earned $364 million, or 32 cents, missing the 33 cents analysts were forecasting. Revenue climbed 27% to $6.59 billion, topping the $6.31 billion analysts were expecting.

Spot aluminum prices on the London Metals Exchange rose 24% in the second quarter compared with the second quarter of 2010, helping bolster Alcoa's profits. CEO Klaus Kleinfeld reiterated his forecast for global demand to increase by 12% in 2011 and double by the end of the decade as Asian countries build more offices and buy more aircraft, cars and trains, according to Bloomberg News.

Despite a solid quarter, reiteration of previous guidance is not going to get investors excited in this environment and, as usual, I expect Alcoa to have very little impact on the Dow's fortunes tomorrow. The stock was down about half a percent in after hours trading.

Alcoa Chart

In other after hours news, International Paper (IP), a former Dow component and currently the world's largest pulp and paper producer, has taken its previously rebuffed $3.3 billion offer for packaging maker Temple-Inland (TIN) directly to the latter's shareholders, making it a hostile bid. International Paper is offering $30.60 a share for Temple-Inland, saying the offer is good starting on Tuesday and will remain valid through August 9.

Texas-based Temple-Inland said it will review the offer and make a recommendation to shareholders over the next two weeks. That is better than what International Paper has gotten thus far as the company called Temple-Inland ''unrealistic'' while noting it was left with no choice but to take its offer directly to Temple-Inland investors because the company has refused to come to the negotiating table.

Temple Inland Chart

Looking at the charts, the major indexes were able to skirt disaster following Friday's weak jobs report, but no such luck was to be had today. The S&P 500's close below 1320 took the index below several different support areas in the 1325-1340 area, though the 1340 level is probably the most firm resistance at this point. The earnings calendar is light on big names Tuesday and Wednesday, so the S&P 500 could be in a holding pattern until JPM and GOOG report on Thursday.

S&P 500 Chart

Even with today's ugliness, the Dow has still lost less than 220 points over the past two trading days compared with a gain of 800 points over the previous eight days and I think those are margins the bulls could live with. Not a single Dow constituent was higher today, helping explain why the index moved below support at 12,550. Resistance remains 12,800.

Dow Chart

The Nasdaq flirted with resistance at 2873 on Friday, but today's sell-off now has the index flirting with support at 2800. Further downside could take the Nasdaq to 2760 while 2830 is the resistance the index must now contend with before addressing 2873. Google's earnings after the bell on Thursday are the major Nasdaq catalyst for the week.

Nasdaq Chart

The Russell 2000 took peak over its 2007 high at 855.77 last week, but those gains were undone on Friday and any positivity left over from the not-so-bad end to last week was undone with Monday's 19-point loss. The index violated support at 840, but found it at 830. Material resistance is still the 2007 high.

Russell 2000 Chart

Overall, it is familiar, yet sad song that continues to plague equity markets, that being Europe. If bailouts for Italy and Spain become a reality, expect the reaction to be far worse than it was for the Greek, Irish and Portuguese bailouts. In the face of European headwinds, blowout earnings will not be enough. It is going to take some seriously bullish upward revisions to second half and 2012 earnings guidance to legitimize the recent rally and give investors, pros and retail alike, new reasons to get involved with stocks. In the absence of the earnings revision catalyst, stocks may languish for the duration of the summer.

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New Option Plays

Packaged Goods

by James Brown

Click here to email James Brown


NEW DIRECTIONAL CALL PLAYS

Diamond Foods Inc. - DMND - close: 76.33 change: -1.38

Stop Loss: 73.25
Target(s): 79.50
Current Option Gain/Loss: Unopened
Time Frame: 3 to 4 weeks
New Positions: Yes, see trigger

Company Description

Why We Like It:
DMND has been an exceptional performer over the last four months. Shares are currently pulling back from all-time highs. The stock looks like it will test support near $75.00 and its up trend of higher lows soon. I am suggesting we launch small bullish positions on a dip at the $75.00 mark with a stop loss at $73.25. More conservative traders could wait for a dip closer to the 30-dma as their entry point instead.

If triggered our first target is $79.50. FYI: The Point & Figure chart for DMND is bullish with a $90 target.

Trigger @ $75.00

- Suggested Positions -

buy the AUG $75 call (DMND1120H75) -small positions-

Annotated Chart:

Entry on July xx at $ xx.xx
Earnings Date 10/05/11 (unconfirmed)
Average Daily Volume = 237 thousand
Listed on July 11, 2011



In Play Updates and Reviews

Ouch! S&P 500 Loses -1.8%

by James Brown

Click here to email James Brown

Editor's Note:

Lack of a debt ceiling deal and more concerns over Europe push investors on the defensive and rushing to lock in gains. Granted we all knew the market was overbought but after last week's resilience the sharp declines today were a bit surprising. It was the worst one-day loss in a month.

CAT and NSC hit our triggers so these plays are open. JOYG and SBUX were also opened and closed as these stocks hit our stops. I am recording the loss today and relisting both with new triggers to buy calls a little bit lower.

-James

Current Portfolio:


CALL Play Updates

Agrium Inc. - AGU - close: 87.08 change: -2.72

Stop Loss: 85.90
Target(s): 94.00, 98.00
Current Option Gain/Loss: -16.6% & - 9.5%
Time Frame: 4 to 5 weeks
New Positions: see below

Comments:
07/11 update: Our new AGU is not off to a very good start. Shares gapped open lower at $88.54 and plunged toward the bottom of its recent trading range near $86.50 and its simple 200-dma. I would still buy calls here with our stop loss at $85.90. As a matter of fact, this is probably a better entry point. Readers may want to start small. Our exit targets are $94.00 and $98.00. FYI: The Point & Figure chart for AGU is bullish with a $104 target.

- Suggested Positions -

Long AUG $90 call (AGU1120H90) Entry @ $2.70

- or -

Long AUG $95 call (AGU1120H95) Entry @ $0.94

Entry on July 11 at $88.54
Earnings Date 08/03/11 (unconfirmed)
Average Daily Volume = 1.7 million
Listed on July 9, 2011


Caterpillar - CAT - close: 108.16 change: -2.25

Stop Loss: 105.95
Target(s): 114.00
Current Option Gain/Loss: + 3.1%
Time Frame: Until the earnings report
New Positions: see below

Comments:
07/11 update: Our trade on CAT is finally open. Shares spiked down toward their rising 10-dma. CAT then spent most of the session consolidating sideways in the $107.50-108.00 zone. Our trigger to buy calls was hit at $107.50. I still consider this an aggressive, higher-risk entry point but it is an entry point. We have a stop at $105.95. Cautious traders may want to hold off and wait for the dip to $105 before initiating positions.

Don't forget that we do not want to hold over the July 22nd earnings report.

- Suggested Positions -

Long Aug. $110 call (CAT11H110) entry @ 3.15

07/11 Triggered @ 107.50.
07/09 adjusted trigger to $107.50, stop to $105.95, target to $114.00

Entry on July 11 at $107.50
Earnings Date 07/22/11 (confirmed)
Average Daily Volume = 8.4 million
Listed on July 2, 2011


Cerner Corp. - CERN - close: 62.83 change: -1.23

Stop Loss: 61.45
Target(s): 64.75
Current Option Gain/Loss: +46.8%
Time Frame: 3 to 6 weeks
New Positions: see below

Comments:
07/11 update: CERN has pulled back to short-term support near the $63.00 area. I would not be surprised to see CERN slip to its 10-dma near $62 before rebounding higher. I am not suggesting new positions at this time.

Earlier Comments:
We do not want to hold over the late July earnings report.

- Suggested (small) Positions -

Long Aug. $62.50 call (CERN1120H62.5) Entry @ $1.60

07/09 new stop loss @ 61.45
07/08 Planned exit. July calls @ +125.0%
07/07 new stop loss @ 60.90
07/07 plan on exiting July calls on Friday at the close.
07/02 New stop loss @ 58.75
07/02 Cautious traders may want to exit the July calls now for a gain

Entry on June 29 at $60.76
Earnings Date 07/28/11 (unconfirmed)
Average Daily Volume = 624 thousand
Listed on June 28, 2011


Joy Global - JOYG - close: 94.47 change: -2.78

Stop Loss: 94.75
Target(s): 102.00
Current Option Gain/Loss: Unopened
Time Frame: 3 to 6 weeks
New Positions: Yes, see trigger

Comments:
07/11 update: Ouch! Well that certainly did not go as planned. Traders were in a sell everything mood and JOYG gapped open lower at $95.97 and then plunged to $93.40 intraday. That means the stock opened under our trigger, opening our trade, and then hit our new stop loss at $94.75, closing the trade. I am listing this as a loss below. However, JOYG still offers potential here. I am relisting this trade with a buy-the-dip trigger at $93.00 and a stop loss at $91.40. More aggressive traders could place their stop under support at $90.00 instead. Our upside target is $102.00. I would keep positions small.

Trigger @ $93.00 (Small Positions)

- Suggested Positions - Buy the Aug $95 call (JOYG1120H95)

07/11 relist this play with a trigger at $93.00 and stop @ 91.40

07/11 JOYG hit our trigger at $96.00 (actually $95.97) and then hit our stop at $94.75. The option opened at $2.32 (ask) and we were stopped out at $2.20 (bid) for a loss of -5.1% We were fortune this loss was not larger!

07/09 Adjusted trigger to $96.00, stop to $94.75, target to $102.00, and option strike to Aug. $100 call.

chart:

Entry on June xx at $ xx.xx
Earnings Date 08/31/11 (unconfirmed)
Average Daily Volume = 1.9 million
Listed on June 30, 2011


Norfolk Southern - NSC - close: 74.67 change: -1.01

Stop Loss: 73.40
Target(s): 79.75
Current Option Gain/Loss: + 2.5%
Time Frame: up until its earnings report.
New Positions: see below

Comments:
07/11 update: The market sell-off today was enough to push NSC under support at $75.00 but not under $74.00. Our trigger to buy calls was hit at $74.50. The stock actually gapped open lower at $74.75 and spent the entire day consolidating sideways in a tight range. I would still launch new positions now. We do want to keep our position size small. Our target is $79.75 but we do not want to hold over the late July earnings report.

- Suggested (SMALL) Positions -

Long Aug. $75 call (NSC11H75) Entry @ $1.95

07/11 triggered @ 74.50
07/09 new stop loss @ 73.40. Small positions!
07/06 adjusted entry trigger to $74.50 and stop to 71.75

chart:

Entry on July 11 at $74.50
Earnings Date 07/27/11 (unconfirmed)
Average Daily Volume = 2.3 million
Listed on July 2, 2011


Panera Bread Co. - PNRA - close: 130.12 change: -1.82

Stop Loss: 127.95
Target(s): 138.50, 144.00
Current Option Gain/Loss: -14.7%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
07/11 update: Hmm... PNRA gapped open lower at $130.61 and then suddenly shot higher to a new high before reversing again. Overall the profit taking in PNRA was not that bad. Cautious traders may want to wait on launching new positions but PNRA is still holding near the $130 level and still above its 10-dma. If we do get stopped out at $127.95 I'd like to try again on a dip or a bounce near $125.00. We do not want to hold over the late July earnings report.

Don't forget that PNRA has significant short interest and could see a short squeeze higher. FYI: The most recent data listed short interest at 8.6% of the small 28.2 million-share float.

- Suggested Positions -

Long AUG $135 call (PNRA1120H135) Entry @ $3.40

Entry on July 11 at $130.61
Earnings Date 07/26/11 (unconfirmed)
Average Daily Volume = 337 thousand
Listed on July 9, 2011


Starbucks Corp. - SBUX - close: 39.74 change: -0.61

Stop Loss: 37.75
Target(s): 44.00
Current Option Gain/Loss: unopened
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Comments:
07/11 update: SBUX weathered the market sell-off pretty well. Shares gave up -1.5% but failed to breakdown to new lows. That doesn't mean it won't. Unfortunately, the low today just happened to be $39.45, which is our stop loss. We will mark this as a loss below but we're reloading the play. However, this time we'll use a buy-the-dip entry point at $38.75 and a stop loss at $37.75. We do not want to hold positions over the late July earnings report.

- Suggested (Small) Positions -

buy the AUG $40.00 call (SBUX1120H40)

07/11 Our first attempt at a call play on SBUX did not pan out. Shares opened lower at $39.98 and then hit our relatively tight stop loss at $39.45. The option opened at $1.49 (ask) and we were stopped out at $1.22 (bid)for an -18% loss.
We are reloading this trade with a buy-the-dip trigger at $38.75.

chart:

Entry on July xx at $ xx.xx
Earnings Date 07/28/11 (unconfirmed)
Average Daily Volume = 6.8 million
Listed on July 9, 2011


VMware, Inc. - VMW - close: 102.13 change: -2.87

Stop Loss: 99.75
Target(s): 109.75, 114.00
Current Option Gain/Loss: -11.2%
Time Frame: seven trading days
New Positions: see below

Comments:
07/11 update: VMW did not see much of a gap down. It opened at $103.19 and actually tried to rally but didn't get very far. VMW dipped to $100.91 before trying to pare its losses. I see today's -2.7% decline as an opportunity to jump into VMW at a better entry point and would still buy calls now.

We only have a few trading days. VMW is due to report earnings on July 19th and we do not want to hold over the announcement. I would keep positions small. VMW can be a little volatile. I am listing our stop at $99.75. Our targets are $109.75 and $114.00.

- Suggested Positions -

Long AUG $110 call (VMW1120H110) Entry @ $3.10

Entry on July 11 at $103.19
Earnings Date 07/19/11 (confirmed)
Average Daily Volume = 1.9 million
Listed on July 9, 2011