Option Investor
Newsletter

Daily Newsletter, Wednesday, 7/27/2011

Table of Contents

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

Market Wrap

Debt Ceiling Trumps Earnings...Again

by Todd Shriber

Click here to email Todd Shriber
With four trading days left before the August 2nd deadline to extend the U.S. debt ceiling expires, things are getting worse, not better for stocks as the specter of a credit rating downgrade for Uncle Sam is suffocating equities. Sentiment was so bearish today that not even gold could muster a positive close, though its tiny loss was far better than the losses of more than 2% suffered by S&P 500 and the Nasdaq. The Dow Jones Industrial Average and the Russell 2000 were also harshly kicked around today.

Stats Table

In economic news, the big report of the day came courtesy of the Commerce Department, which said June durable goods orders slumped 2.1% after a revised 1.9% jump in May. Excluding automobiles and planes, durable goods rose 0.1% last month compared with 0.7% increase in May. For those looking for a silver lining, it should be noted durable goods orders were up 4.7% through the first half of this year. Add to that durable goods prices are higher on an annual basis, which some economists would argue indicates more growth ahead.

That theory would conflict with the recent downward revisions to the U.S. GDP forecast by a host of banks and economic agencies and it can surely be said that the debt ceiling debate on Capitol Hill is not a positive for economic growth.

Durable Goods Chart

Speaking of economic growth, the Federal Reserve's Beige Book survey said U.S. economic activity continued to grow last month, but the pace of that growth slowed in eight of the 12 regions the survey covers. Just four regions showed slower growth in the previous Beige Book update. This puts the Fed in a pickle to some degree. As some analysts and economists have been noting, the economy is not weak enough to justify a third round of quantitative easing. Unfortunately, it is not strong enough for Fed Chairman Ben Bernanke to say outright that there will be no more QE packages in our future.

The Beige Book survey indicated consumer spending grew modestly in most regions, but auto sales tailed off a bit. Friday's second-quarter GDP report, the first look at U.S. economic growth for the previous quarter, is expected to show an anemic increase of 1.8%, the slowest pace in a year, according to Bloomberg News.

Adding to the market's woes today were more international issues, and yes, some came by way of Greece, but I am referring to Brazil. The ''B'' in the BRIC quartet and the largest economy in Latin America was once an emerging markets superstar and it may be again one day. That is not the case in the here and now.

Perhaps even more than its largest trading partner, China, Brazil has been bitten hard by the inflation bug and the country's central bank has engaged in a scorched-earth interest rate increase cycle this year. Brazil's central bank has hiked rates eight times in the past 15 months, but that is not helping dampen inflation there. Policymakers in Brazil seem to think the annual inflation target of 4.5% will not be exceeded this year, but economists are forecasting higher inflation next year.

Brazil's recent inflation picture is not pretty, as the chart below indicates. Nor is the impact this issue has had on Brazilian equities. With Wednesday's tumble, Brazil's benchmark Bovespa index has slid 20% from its November peak. That is a bear market.

Brazil Inflation Chart

Lack of enthusiasm by the consumer when it comes to buying discretionary items such as high-end TVs is weighing on myriad stocks. Today, the obvious candidate was Corning (GLW), the maker of glass for pricey LCD TVs. Echoing sentiments made by Dow component MMM earlier this week, New York-based Corning warned of weakness in the LCD market and said TV makers are not exactly thrilled about the prospects the holiday season will bring.

Corning lowered its forecast for worldwide glass demand to between 3.3 billion and 3.4 billion square feet this year from 3.5 billion to 3.7 billion square feet, Reuters reported. Shares of Corning plunged more than 7% on volume that was more than triple the daily average.

Corning Chart

We are now far enough along into the second-quarter earnings season that it is safe to say those reports have been, for the most part, pretty good, but that was expected and in the face of the debt ceiling debate, ''good'' is not good enough. Even big oil stocks are not getting much love this week. Such is life for ConocoPhillips (COP), the third-largest U.S. oil company.

Houston-based Conoco, which recently announced plans to spin-off its downstream operations into a separate company next year, posted a second-quarter profit of $3.4 billion, or $2.41 a share, compared with $4.16 billion, or $2.77, a year earlier. Asset sales helped the figure in the year-earlier period. Analysts were expecting a profit of $2.19 a share and Conoco's exploration and production profit of $2.5 billion also topped the $2.4 billion Wall Street forecast.

Production fell to 1.64 million barrels of oil equivalent per day in the quarter from 1.73 million barrels per day in the second quarter and those declines were attributable to asset sales and lost production in Libya. Conoco forecast 2011 production of 1.625-1.65 million barrels per day. Rival Exxon Mobil (XOM), the largest U.S. oil company, reports tomorrow before the bell and Chevron (CVX), the second-largest U.S. oil company, chimes in on Friday. For more news and commentary on the energy sector, register for a free trial of the OilSlick daily newsletter (HERE).

ConocoPhillips Chart

After the bell today Visa said its fiscal third-quarter profit jumped 40% to $1.5 billion, or $1.43 a share. On an adjusted basis, the company earned $883 million, or $1.26 a share, as revenue climbed 14% to $2.32 billion. Analysts were expecting a profit of $1.23 on revenue of $2.3 billion. International growth was the big driver of Visa's solid results. Credit card and debit card volume rose 25% and 27%, respectively, outside of the U.S., Visa said.

Visa and rival Mastercard (MA) need to grow international revenue in an effort to offset lost profits from the Federal Reserve's plan to cap fees on debit card transactions in the U.S. The Fed capped the fees banks collect from merchants for processing debit purchases at an average of 24 cents, down from the current average of 44 cents starting Oct. 1, according to the Associated Press.

Visa also gave bullish fiscal 2012 guidance, projecting single-to-low double-digit revenue growth and mid-to high-teens EPS growth. Even with that, shares of Visa were only moderately higher in the after-hours session.

Visa Chart

Looking at the charts, the S&P 500 had been holding up pretty well until today. Round number support at 1300 held, but the 2% drop took the index below its 50-day moving average, violating support around 1315 in the process. If 1300 does not hold, a return to 1260 may be in the cards. Above 1315, resistance lies in the 1330-1340 area.

S&P 500 Chart

The Dow is in similar trouble as just two components, BA and T, managed to close higher today. Support at 12,400 did not hold and as was the case with the S&P 500, the 50-day line has been broken. From here, there is a plenty of real estate for the Dow to cascade back to 12,000. Below there, we could be discussing 11,750-11,850. The Dow faces two near-term problems. First, earnings from XOM and CVX may not be enough to get the index headed back in the right direction. Second, old support at 12,400 may now be new resistance.

Dow Chart

A decent post-earnings performance from AMZN did nothing to help the Nasdaq. In fact, the index is now a mess after blowing past at 2830 and psychological support at 2800. Drop another 10 points and the Nasdaq will be at its 50-day moving average. From there, 2725 and then 2700 are next support. Now the Nasdaq must retake resistance at 2800 and then again at 2840 before addressing an even more firm ceiling at 2860.

Nasdaq Chart

It took the Russell 2000 less than a month to rally from the 770 area to 860, nearly challenging the May peak of 868.57. In a comparable amount of time, the index has fallen back to 800. If the Russell does not find support here, it should return to 780 and perhaps back to 770.

Russell Chart

Any hopes for a legitimate third-quarter rally have suffered a setback this week. Unfortunately, whether the setback is temporary or longer-lasting is a fate that will be decided by the folks on Capitol Hill. The Treasury Department reiterated that August 2nd is a hard and fast deadline, news that could pressure stocks the rest of this week. That may also be enough to motivate politicians to finally reach a debt ceiling accord over the weekend, setting stocks up for a rally to start August. Keene will be back with you next week.


New Option Plays

Panic In the Air

by James Brown

Click here to email James Brown

Editor's Note:

Investors are starting to get spooked by the approaching debt ceiling deadline and no deal in Washington. Stocks accelerated lowered today. If lawmakers managed to get it together and produce a deal the market could rally. Yet a deal is not a guarantee the U.S. will avoid a credit rating downgrade. If we do lose our AAA trading then stocks would most likely fall.

You might hear some market pundits tonight and tomorrow talking about Dick Bove's dramatic call today. Bove is a widely followed banking analyst. He is suggesting investors sell everything and go to cash due to the weakness in the U.S. financial system and insurmountable debt issues. Essentially he feels there is no safe haven investment right now.

We are adding some market neutral trades tonight. I mentioned this idea last night. You don't have to trade them all. Pick the index that best suits your trading style.

- James


NEW MARKET NEUTRAL OPTION PLAYS

SPDR Dow Jones Industrial Average (ETF) - DIA - cls: 122.84 chg: -1.99

Stop Loss: n/a
Target(s): -----
Option Straddle Gain/Loss: + 0.0%
Option Strangle Gain/Loss: + 0.0%
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
Commonly called the Diamonds, the DIA is the ETF that tracks the Dow Jones Industrial Average. I am suggesting a couple of market neutral trades. Stocks could see some wild swings over the next several sessions as the debt ceiling deadline approaches.

I'm listing both a straddle and a strangle. We're using August options that expire in less than four weeks. Readers may want to consider September options instead.

NOTE: If the DIA gaps up or down at the open tomorrow by more than $1.00 then we'll adjust our entry point to the closest strikes available (example: if the DIA gaps open lower near $120 then we'll use the $120 or $121 strikes for the straddle instead). On a gap open we'll adjust the strikes for our strangle as well (if the DIA gaps open at $124 then we'll adjust our strikes up $1.00).

Trade #1. Option Straddle

BUY the AUG $123 call (DIA1120H123) current ask $2.23
- and also buy -
BUY the AUG $122 put (DIA1120T122) current ask $2.30

- or -

Trade #2. Option Strangle.

BUY the AUG $127 call (DIA1120H127) current ask $0.58
- and also buy -
BUY the AUG $117 PUT (DIA1120T117) current ask $0.98

NOTE: you may want to buy three calls for every two puts if you're trading the strangle due to the price difference.

Annotated Chart:

Entry on July 28 at $ xx.xx
Earnings Date --/--/--
Average Daily Volume = 6.6 million
Listed on July 27, 2011


iShares Russell 2000 Index - IWM - close: 79.97 change: -2.46

Stop Loss: n/a
Target(s): --
Option Straddle Gain/Loss: + 0.0%
Option Strangle Gain/Loss: + 0.0%
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
We are applying the same strategies we listed in the DIA trade to the IWM small cap ETF. We'll list both a straddle and a strangle using August options. If this ETF gaps open more than a $1.00 tomorrow morning we'll adjust our strikes appropriately.

Readers may want to consider September options instead.

Trade #1. Option Straddle

BUY the AUG $80 call (IWM1120H80) current ask $2.20
- and also buy -
BUY the AUG $80 put (IWM1120T80) current ask $2.33

- or -

Trade #2. Option Strangle.

BUY the AUG $84 call (IWM1120H84) current ask $0.58
- and also buy -
BUY the AUG $76 PUT (IWM1120T76) current ask $0.96

NOTE: you may want to buy three calls for every two puts if you're trading the strangle due to the price difference.

Annotated Chart:

Entry on July 28 at $ xx.xx
Earnings Date --/--/--
Average Daily Volume = 60 million
Listed on July 27, 2011


SPDR S&P 500 ETF - SPY - close: 130.60 change: -2.73

Stop Loss: n/a
Target(s): --
Option Straddle Gain/Loss: + 0.0%
Option Strangle Gain/Loss: + 0.0%
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
We will apply the same market neutral strategies to the SPY. I'm suggesting an option straddle or an option strangle. We'll use the August options, which expire in less than four weeks. Readers may want to consider using September options instead.

If the SPY gaps open more than $1.00 from current levels then we'll adjust our strikes by the same $1.00 move.

Trade #1. Option Straddle

BUY the AUG $130 call (SPY1120H130) current ask $3.05
- and also buy -
BUY the AUG $130 put (SPY1120T130) current ask $2.63

- or -

Trade #2. Option Strangle.

BUY the AUG $134 call (SPY1120H134) current ask $1.10
- and also buy -
BUY the AUG $127 PUT (SPY1120T127) current ask $1.68

Annotated Chart:

Entry on July 28 at $ xx.xx
Earnings Date --/--/--
Average Daily Volume = xxx million
Listed on July 27, 2011



In Play Updates and Reviews

Are You Worried Yet?

by James Brown

Click here to email James Brown

Editor's Note:

The U.S. markets are growing increasingly worried over the debt ceiling fiasco. The bearish economic data today only compounded the problem.

We had NUS and POT both get stopped out.

I am removing all of our entry points for ADS, OTEX and QQQ. We'll wait and see what happens tomorrow before we consider any new bullish positions. Don't open new bullish positions in these equities.

-James

Current Portfolio:


CALL Play Updates

Alliance Data Systems - ADS - close: 99.18 change: -1.23

Stop Loss: 96.00
Target(s): 104.50. 107.00
Current Option Gain/Loss: Unopened
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
07/27 update: ADS erased yesterday's gains with a -1.2% decline today. The stock fared better than most of the market's major indices. Our trade is not open yet. The plan was to buy calls if both ADS and the S&P 500 opened higher this morning. That did not happen. Given the market's accelerated weakness today I'm thinking we may want to wait and buy calls on ADS near $97.50 instead. For tomorrow I am suggesting no action. We'll remove any entry point strategy and just sit back and wait to see what happens. Thursday night we'll re-evaluate and plan an entry point strategy for Friday if appropriate.

No Entry Point Today. We will re-evaluate our strategy on Thursday night.


07/27 Our trade was not opened. I am removing our entry point (no trade) until Thursday night and we'll re-evaluate.

Entry on July xx at $ xx.xx
Earnings Date 07/21/11
Average Daily Volume = 825 thousand
Listed on July 26, 2011


Agrium Inc. - AGU - close: 88.93 change: -2.11

Stop Loss: 87.75
Target(s): 94.00, 98.00
Current Option Gain/Loss: -18.5% & -30.8%
Time Frame: 4 to 5 weeks
New Positions: see below

Comments:
07/27 update: It was an ugly day for the markets. AGU was already correcting lower and appeared like it was headed for the $90 level. Yet today's market-wide sell-off pushed AGU to a -2.3% decline. The stock has broken down under what should have been support at $90.00. Now we could see AGU dip toward its simple 200-dma. If the sell-off continues tomorrow there is a good chance that we will get stopped out at $87.75. More conservative traders may want to abandon ship immediately. I am not suggesting new bullish positions at this time.

- Suggested Positions -

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

- or -

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

07/21 New stop @ 87.75
07/19 Breakout past $90.00 is a new entry point.
07/19 new stop @ 86.90

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


Helmerich & Payne Inc. - HP - close: 70.39 change: -2.18

Stop Loss: 69.75
Target(s): 76.50
Current Option Gain/Loss: -28.0%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
07/27 update: HP was not immune to the market's sell-off. Shares plunged toward $70. The stock managed an intraday rebound this morning but it failed under $72. Shares faded back toward its lows for the session. The $70.00 level should be support but if the market continues to drop tomorrow I would expect a breakdown. Cautious traders will want to exit immediately. Our plan is to close this trade tomorrow at the closing bell to avoid holding over earnings on Friday morning.

- Suggested Positions -

Long AUG $75 call (HP1120H75) Entry @ $1.25

07/26 new stop loss @ 69.75
07/23 new stop loss @ 68.45
07/23 Plan to exit on July 28th at the close

Entry on July 20 at $71.49
Earnings Date 07/29/11 (confirmed)
Average Daily Volume = 1.3 million
Listed on July 19, 2011


Open Text Corp. - OTEX - close: 68.03 change: -1.37

Stop Loss: 67.45
Target(s): 74.50
Current Option Gain/Loss: Unopened
Time Frame: 2 to 3 weeks
New Positions: see below

Comments:
07/27 update: We are still unopened with this OTEX trade. Shares opened lower so the conditions to buy calls were not met. The stock is now testing support at the bottom of its two-week trading range near $68.00. A breakdown here would be bearish. I am not suggesting new positions tonight. We'll wait and see what happens tomorrow and then re-evaluate our entry point strategy. So tomorrow we're just spectators with no plans for an entry.

Earlier Comments:
A breakout over $70.00 could produce another short squeeze. The most recent data listed short interest at more than 10% of the 55.9 million-share float. We do not want to hold over the August earnings report.

No Entry Point Today. We will re-evaluate our strategy on Thursday night.

- Suggested Positions -


07/27 trade is still not open. We are temporarily removing our entry point for tomorrow. We will re-evaluate this play on Thursday night.

Entry on July xx at $ xx.xx
Earnings Date 08/10/11 (unconfirmed)
Average Daily Volume = 300 thousand
Listed on July 23, 2011


PowerShares QQQ - QQQ - close: 58.09 change: -1.54

Stop Loss: 57.75
Target(s): 62.50, 64.75
Current Option Gain/Loss: Unopened
Time Frame: 3 to 6 weeks
New Positions: see below

Comments:
07/27 update: We can't get an entry point in this ETF. The plan was to buy calls if the Qs opened positive. Instead the Qs gapped open lower. The NASDAQ was an underperformer today. The QQQ fell -2.5%. If this sell-off continues we might see the QQQ dip toward its 50-dma near $57.

I am temporarily removing our entry point. Tomorrow I am suggesting we just sit back and watch. We will re-evaluate our strategy on Thursday night.

No Entry Point Strategy for Thursday

07/27 We are removing our entry point for Thursday. We'll re-evaluate our strategy on Thursday night.

Entry on July xx at $ xx.xx
Earnings Date --/--/--
Average Daily Volume = 61.7 million
Listed on July 23, 2011


PUT Play Updates

FactSet Research - FDS - close: 92.03 change: -2.73

Stop Loss: 97.05
Target(s): 90.50, 86.00
Current Option Gain/Loss: + 5.7% & + 2.0%
2nd Position Gain/Loss: +27.5% Time Frame: 4 to 6 weeks
New Positions: see below

Comments:
07/27 update: FDS plunged toward the $92.00 level and closed with a -2.88% decline. I was surprised that volume wasn't higher on the decline. This is a new low for the year. We will lower our stop loss down to $97.05. I am not suggesting new positions at this time.

Earlier Comments:
Our targets are $90.50 and $86.00 but the $90.00 level is support and FDS will probably see a bounce from this level. The Point & Figure chart for FDS is bearish with a $64 target.

- Suggested (SMALL) Positions -

Long AUG $95 PUT (FDS1120T95) Entry @ $3.50

- or -

Long SEP $90 PUT (FDS1117U90) Entry @ $2.40

- 2nd Position, listed 7/26 -

Long Aug $95 PUT (FDS1120T95) Entry @ $2.90*

07/27 new stop loss @ 97.05
07/27 entry on the 2nd position (Aug.95 put) is an estimate
07/26 New stop loss @ 98.25, Adding positions

Entry on July 18 at $94.48
Earnings Date 09/21/11 (unconfirmed)
Average Daily Volume = 363 thousand
Listed on July 16, 2011


Toro Co. - TTC - close: 55.07 change: -2.15

Stop Loss: 58.55
Target(s): 55.25, 52.50
Current Option Gain/Loss: + 5.0%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
07/27 update: Our new TTC put play is off to a strong start. Shares opened at $56.82 and then plunged to a -3.7% loss and closed at new lows for the year. Our first target was hit at $55.25.

I would not launch new positions here. Look for a failed rally type of move near $57.00 before considering new positions.

FYI: I will confess that I'm surprised the puts did not see bigger gains today!

- Suggested Positions -

Long SEP $55 PUT (TTC1117U55) Entry @ $1.90*

07/27 1st Target Hit @ 55.25, Option @ $2.00 (+5%)
07/27 entry price is an estimate. Option did not trade today

chart:

Entry on July 27 at $56.82
Earnings Date 08/18/11 (unconfirmed)
Average Daily Volume = 167 thousand
Listed on July 26, 2011


CLOSED BULLISH PLAYS

Nu Skin Enterprises - NUS - close: 38.77 change: -1.01

Stop Loss: 39.40
Target(s): 44.00
Current Option Gain/Loss: -47.6%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
07/27 update: NUS followed the market lower. Shares opened at $39.59 and soon thereafter hit our stop loss at $39.40. NUS eventually closed with a -2.5% decline. The next level of support is $38.00 and its 50-dma.

- Suggested Positions -

AUG $40 call (NUS1120H40) Entry @ $2.10, exit $1.10 (-47.6%)
07/27 stopped out @ 39.40
07/26 new stop loss @ 39.40, readers may want to exit early now!
07/23 new stop loss @ 38.90
07/20 Entered at $40.80
07/19 buy calls tomorrow if NUS and S&P 500 are both up at the open.
07/19 new stop loss @ 38.40
07/18 Our play has not been opened yet. We're going to wait 24 hours and reconsider.

chart:

Entry on July 20 at $40.80
Earnings Date 08/02/11 (confirmed)
Average Daily Volume = 700 thousand
Listed on July 16, 2011


Potash Corp. - POT - close: 59.18 change: -1.93

Stop Loss: 59.90
Target(s): 63.75, 68.00
Current Option Gain/Loss: - 6.2%
Time Frame: exit prior to July 28th
New Positions: see below

Comments:
07/27 update: The stock market's widespread sell-off pushed POT to a -3.1% decline. Shares hit our new stop loss at $59.90 before lunchtime today. We were planning to exit today anyway to avoid holding over earnings.

- Suggested Positions -

AUG $60 call (POT1120H60) entry @ $2.40, exit $2.25 (-6.2%)
07/27 stopped out @ 59.90
07/26 new stop loss @ 59.90, prepare to exit tomorrow at the close
07/25 new stop loss @ 59.60
07/23 New stop loss @ 58.95
07/23 Time is running out. Prepare to exit on Wednesday
07/19 Play is opened. POT gapped open at $59.98
07/18 We are still unopened. Try again. Both POT and S&P 500 need to open higher on July 19th to buy calls.
07/18 new stop @ 56.70

chart:

Entry on July 19 at $59.98
Earnings Date 07/28/11 (confirmed)
Average Daily Volume = 7.4 million
Listed on July 16, 2011