Option Investor
Newsletter

Daily Newsletter, Monday, 9/12/2011

Table of Contents

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

Market Wrap

China Wants To Eat Italian...Maybe

by Todd Shriber

Click here to email Todd Shriber
What started looking like another down day at the hands of Europe's sovereign debt catastrophe turned positive late in the trading session on news that China may purchase large amounts of Italian sovereign debt. Those late-breaking headlines sparked the S&P 500 and the Dow Jones Industrial Average to respectable gains of just under 1% while the Nasdaq popped 1.1%.

Market Stats

China, with trillions of dollars in foreign currency reserves, is looking to spend some of that cash and has previously shown no fear about gobbling up sovereign debt from some of the world's largest, but most fiscally-challenged economies. Already one of the largest holders of U.S. and Japanese bonds, China may make for a strange bedfellow for Italy, but then again, not really. Remember, yields on Italian sovereign debt surging in the past month, finding buyers has become a challenge.

The Financial Times reports that Italian officials traveled to Beijing a couple of weeks to ago to meet with their counterparts from China Investment Corp. and China's State Administration of Foreign Exchange. Last week, officials from China Investment traveled to Rome. With a debt-to-GDP ratio approaching 120%, the second-worst in the Eurozone behind Greece, Italy may also be shopping stakes in state-run companies to China.

Not surprisingly, that would include Eni SpA, Italy's largest oil company, according to the FT. Still, these talks appear to be in the nascent stages and China is not believed to currently be a major holder of Italian debt, but the news was enough to send stocks rallying into the close. Stocks are one things. The spreads on Italian bonds versus German bunds are another and very wide I might ad.

Italian Bond Spreads

Even there is good news on the horizon for Italy, and that is a ''big'' maybe, investors still have to deal with Greece. The Mediterranean country has done little to assuage investors that it can skirt default and the chance of a Greek default sometime in the next five years have surged, according to Bloomberg News. Credit default swaps to protect Greek debt have blown out. On Friday, the upfront cost of insuring $10 million Greek debt for five years was $5.5 million. Today it was $5.8 million, according to CMA.

A Greek default could and probably should happen much sooner than five years. Over on Intrade, the financial predictions market, you can buy contracts that wager on Standard & Poor's to rate Greece as in default before midnight Dec. 31. Trading at $6.50 per contract, that implies a 65% chance Greece will default before year-end.

Greek Default Odds

In one Bloomberg story I came across today regarding the European mess, an analyst astutely compared the situation in Europe to a firing line where things will go from Greece to Italy to Spain and so forth. Unfortunately, France is in that firing line.

Allow me to preface what follows by saying that I got an email from a reader a while back that stated I am anti-French. I am not. If I were anti-French then the amount of time I have spent in France is downright odd, but I digress. The fact is France's three largest banks, BNP Paribas, Societe Generale and Credit Agricole, could see their credit ratings pared by Moody's as soon as this week.

All three banks currently have investment-grade ratings. BNP Paribas and Credit Agricole would probably see their ratings taken down one level while SocGen would probably go down two notches. Bloomberg reported on Sunday. If these downgrades do materialize, that is very bad news for the iShares MSCI France Index Fund (EWQ). On an intraday basis, the ETF touched prices not seen in over two years. Financials account for over 15% of this ETF's sector allocation. Draw your own conclusions from there.

France ETF Chart

Here in the U.S., there was some M&A activity in the tech sector worth noting. California-based Broadcom (BRCM), the maker of chips for cable boxes and mobile phones, among other gadgets, will dole out $3.7 billion in cash for NetLogic Microsystems (NETL). NetLogic surged 51% on volume of 46.8 million shares. That compares with average daily turnover of 1.5 million shares.

Broadcom is paying $50 a share for NetLogic, a 57% premium to where the acquired company's shares closed on Friday. That $50 also represents a substantial to premium to NetLogic's all-time high, which was just over $43 before today.

That is arguably a rich premium, but Broadcom did say the deal, which is expected to close in the first half of next year, will add to 2012 earnings by 10 cents a share. Plus, it's pretty obvious to see why Broadcom wanted to bring NetLogic into its fold. Not only does NetLogic make chips for smartphones, it is also a supplier of chips to Apple (AAPL) for the iPad, the world's most popular tablet device.

NetLogic Chart

Shares of Bank of America (BAC) closed higher by 1% on the day on volume that was better than twice the daily average and that is saying something because that means more than 286 million in the downtrodden Dow component changed hands today. BofA CEO Brian Moynihan said the bank plans to reduce its workforce by 30,000 jobs to trim expenses by $5 billion 2014. That amounts to about 10% of BofA's current workforce, but the 30,000 number is also well below the 40,000 job cuts many media outlets reported on last week.

A Reuters story on the news said there are 50 senior level workers parsing through 150,000 ideas on how to save costs. Here is one from me and it comes free of charge. I will even admit BofA is on to it in a way, but it probably took them too long. Branch closures. Just as an anecdote, I go to four different BofA branches in Southern California depending on where I am at the time and all those branches are big enough to the point where I would not mind living in them and they all have multiple fancy TVs in there. The TVs remain on all day and night, even when the branch is closed.

I know it is not an asset sale or some other more sophisticated way of raising cash, but why not start by cutting the power bill when you need as much cash as BofA is believed to need? For his part, Moynihan said today that the bank has not been required by regulators to look for outside capital, but he also did not rule out a bankruptcy filing for Countrywide.

Bank of America Chart

Looking at the charts, the S&P 500 did not test support around 1120 today, but the index did spend a good part of the day languishing below support at 1155. The late-day bounce took the S&P back above that level, but there is still a lot of work to be to done to retest resistance around 1225.

How much upside is left from here is not all that encouraging if you are a believe in targets from various banks. Wells Fargo cut its year-end price forecast on the S&P 500 10% to 1250 today while Barclays lowered its year-end target to 1325 from 1450. Bank of America said a retest of the 1020-1100 area is possible and from the S&P 500 could fall to 910-985.

S&P 500 Chart

The Dow's chart is even worse off than the S&P 500's, but if there is a glimmer of up it is that the blue-chip index flirted with critical support at 10,800 today and buyers stepped in there. A violation of 10,800 would probably send the Dow back to 10,000. For now, the Dow faces resistance just ahead at 11,100 and then again just over 11,300.

Dow Chart

Give the Nasdaq some credit for looking good by comparison today. The index made its way to within spitting distance of resistance at 2500 and is now a fair bit removed from support at 2400 and 2335. Above 2500, next resistance for the Nasdaq is 2550 and then 2600.

Nasdaq Chart

On a closing basis, at least the Russell 2000 continues to honor support at 675. If that area does not hold, it is back to 650 and probably lower. The 700 area is more psychological support and I think it takes a move back above 725-728 to get fund managers and new buyers involved with the small-cap Index again.

Russell 2000 Chart

Color me skeptical, but even if China does come to Italy's rescue, that is not enough ammunition to fuel anything more than a day or two of gains. Look at it this way: Just because China may buy Italian debt, does not mean it will want buy the Greek, Portuguese, Spanish and, gasp, French equivalents. I remain convinced the EU should allow Greece to default sooner than later. The sooner the bloodletting starts, the sooner it will end.

Even without Europe dominating the headlines, this week is fraught with risk as there are several key economic reports due out here in the U.S. Those will either exacerbate or ameliorate (albeit temporarily) the challenges being endured thanks to Europe.


New Option Plays

Near All-Time Highs

by James Brown

Click here to email James Brown

Editor's Note:

In addition to tonight's new trading candidate, check these out:

GMCR - this high-flying coffee stock has rebounded back toward its all-time highs. A breakout past the early August high of $111.42 can be used as an entry point. The move could spark another short squeeze. My concerns are the option prices. GMCR is so volatile that options are expensive to trade. (FYI: A failure here would look like a potential bearish double top)

UA - Shares produced their second rebound from the simple 200-dma for the second day in a row. Aggressive traders could buy this bounce with a stop under today's low. As an alternative, wait for a move past recent resistance near $73.30.

- James


NEW DIRECTIONAL CALL PLAYS

PriceSmart Inc. - PSMT - close: 67.81 change: +0.81

Stop Loss: 64.65
Target(s): 74.00
Current Option Gain/Loss: Unopened
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
PriceSmart is a rival to the Costco and Sam's Club warehouse outlets. PSMT has locations in the U.S., the Caribbean, and Latin America. You'll notice that the stock has been pretty resistant to any of the market's most recent declines. This stock is actually trading at new all-time highs.

On a short-term basis PSMT is consolidating under resistance at $68.00. I am suggesting we use a trigger to buy calls at $68.25 with a stop loss at $64.65. It's possible the $70.00 level could be resistance but I'm setting our target at $74.00. The Point & Figure chart for PSMT is bullish with a $77 target.

Trigger @ 68.25

- Suggested Positions -

buy the OCT $70 call (PSMT1122J70) current ask $3.60

Annotated Chart:

Entry on September xx at $ xx.xx
Earnings Date 11/10/11 (unconfirmed)
Average Daily Volume = 307 thousand
Listed on September 12, 2011


In Play Updates and Reviews

Stocks Reversed Into Positive Territory

by James Brown

Click here to email James Brown

Editor's Note:

Monday morning saw another drop on growing concerns about Greece. Yet the market managed to shrug it off and reverse higher into the closing bell.

Our EXXI trade was stopped out this morning.

-James

Current Portfolio:


CALL Play Updates

Dollar Tree, Inc. - DLTR - close: 71.79 change: +1.48

Stop Loss: 68.95
Target(s): 76.00, 79.00
Current Option Gain/Loss: Sep$75: -80.0% & Oct$75: -21.2%
Time Frame: 2 to 4 weeks
New Positions: see below

Comments:
09/12 update: DLTR saw a dip toward last week's low and then rallied sharply. The stock outperformed the wider market averages with a +2.1% gain by Monday's closing bell. This bounce could be used as a new entry point but consider inching your stop loss higher.

- Suggested Positions -

Long SEP $75 call (DLTR1117I75) Entry $0.50

- or -

Long OCT $75 call (DLTR1122J75) Entry $2.35

09/07 trade is open. DLTR gapped open at $72.97
09/06 trade not open. Adjusted entry point strategy, stop loss, and targets.

Entry on September 7 at $72.97
Earnings Date 11/17/11 (unconfirmed)
Average Daily Volume = 2.2 million
Listed on September 3, 2011


Ingersoll-Rand Plc. - IR - close: 32.68 change: +0.41

Stop Loss: 31.25
Target(s): 34.75, 36.75
Current Option Gain/Loss: Sep$33: -51.8% & Oct$35: -32.4%
Time Frame: 2 to 4 weeks
New Positions: see below

Comments:
09/12 update: IR briefly traded under support near $31.40 this afternoon before sharply reversing higher. It looks like a bounce from its 30-dma and 20-dma. The intraday low was $31.33. Our stop is at $31.25. The late day rebound can be used as a new bullish entry point to buy calls (I would buy Octobers, not Septembers).

- Suggested Positions -

Long SEP $33 call (IR1117I33) Entry $1.35*

- or -

Long OCT $35 call (IR1122J35) Entry $1.85

09/07 trade opened. IR gapped higher at $33.39
*price is an estimate. option did not trade today
09/06 play not open. try again. new stop loss $31.25

Entry on September 7 at $33.39
Earnings Date 10/20/11 (unconfirmed)
Average Daily Volume = 8.0 million
Listed on September 3, 2011


Range Resources Corp. - RRC - close: 62.80 change: -0.00

Stop Loss: 59.90
Target(s): 69.75, 72.50
Current Option Gain/Loss: Unopened
Time Frame: 4 to 6 weeks
New Positions: see below

Comments:
09/12 update: RRC saw a dip toward last week's low and its 50-dma before bouncing back to the unchanged level this afternoon. The conditions to launch new positions this morning was not met. I am suggesting we try again.

Buy calls on RRC now but only if RRC and the S&P 500 index both open positive tomorrow morning. Conservative traders may want to take profits near $66.50 instead.

*See play details for entry strategy*

- Suggested Positions -

buy the OCT $65 call (RRC1122J65)

- or -

buy the OCT $70 call (RRC1122J70)

Entry on September xx at $ xx.xx
Earnings Date 10/27/11 (unconfirmed)
Average Daily Volume = 2.3 million
Listed on September 8, 2011


Sina Corp. - SINA - close: 106.73 change: +2.06

Target(s): 124.00
Entry #1) Current Option Gain/Loss: Unopened
Stop Loss: 104.75
Entry #2) Current Option Gain/Loss: Unopened
Stop Loss: 99.75
Time Frame: 4 to 6 weeks
New Positions: see trigger

Comments:
09/12 update: SINA displayed some relative strength and ended the day with a +1.9% gain. Shares did open lower so our aggressive entry point to buy calls this morning was not met. I am suggesting we try again.

I am listing two different entry points to choose from. Entry #1) is to wait for a breakout past the trend of lower highs and buy calls when SINA hits $112.55 with a stop loss at $104.75 (new). Entry #2) is to buy calls right now but only if SINA and the S&P 500 index both open positive tomorrow morning with a stop loss at $99.75.

Be sure to keep position size small.

Earlier Comments:
We do want to keep our position size small because SINA can be a volatile stock and we have a wide stop loss. I am setting our target at $124.00. More aggressive traders could aim higher. The inverse H&S pattern would suggest a target in the $150 area.

FYI: The Point & Figure chart for SINA has just broken through resistance and is bullish with a $146 target.

Entry #1) Trigger @ 112.55 (SMALL positions!)

- Suggested Positions -

buy the OCT $125 call (SINA1122J125)

Entry #2) buy calls now if SINA and S&P500 index open positive tomorrow. (SMALL positions!)

- Suggested Positions -

buy the OCT $120 call (SINA1122J120)

Entry #1) Entry on September xx at $ xx.xx
Entry #2) Entry on September xx at $ xx.xx
Earnings Date 11/15/11 (unconfirmed)
Average Daily Volume = 6.0 million
Listed on September 8, 2011


SPDR S&P500 ETF - SPY - close: 116.67 change: +0.75

Stop Loss: 109.90
Target(s): 119.00, 122.00
Current Option Gain/Loss: Unopened
Time Frame: 4 weeks
New Positions: see below

Comments:
09/12 update: The U.S. market was pretty resilient today. European stocks were sinking sharply on growing expectation that Greece will default. The SPY managed to hold near support in the $114 area.

Aggressive traders could buy calls on today's afternoon bounce and use a stop loss under today's low (114.05). The newsletter will stick to our original plan and wait for a drip toward Augusts' closing lows. Currently our trigger to buy calls is at $112.50.

Earlier Comments:
This trade is a bet that investors are willing to buy the dip near the August lows (ignoring the bearish H&S pattern) instead of selling stocks toward the August 2010 lows. We are suggesting readers use a trigger to buy calls on the SPY at $112.50 (just above the 1120 lows on the S&P500 index). More conservative traders could wait for a dip closer to the 1100 level on the index, which is $111.00 on the SPY.

If we are triggered at $112.50 on the SPY we'll use a stop loss at $109.90. Our upside targets are $119.00 and $122.00.

Buy-The-Dip Trigger @ $112.50

- Suggested Positions -

buy the OCT $118 call (SPY1122J118)

Entry on September xx at $ xx.xx
Earnings Date --/--/--
Average Daily Volume = 293 million
Listed on September 10, 2011


U.S. Oil Fund - USO - close: 34.42 change: +0.57

Stop Loss: 32.49
Target(s): $34.75,
Current Option Gain/Loss: +35.1%
Time Frame: 2 to 3 months
New Positions: see below

Comments:
09/12 update: USO is bouncing back toward resistance at $35.00. Our plan is to exit positions at $34.75 to lock in a gain. Please note our new stop loss at $32.49.

No new positions at this time.

Earlier Comments:
Keep your position size small! This is a lottery-ticket style of play.

- Suggested Positions -

Long NOV $34 call (USO1119K34) Entry $2.05

09/12 new stop loss @ 32.49
09/10 New exit target at $34.75
08/27 new stop loss @ $31.90
08/27 removing 2nd trigger to add another position.
08/20 Adding a new buy-the-dip entry at $30.50, stop @ 29.00

Entry on August 9 at $31.97
Earnings Date --/--/--
Average Daily Volume = 10.7 million
Listed on August 8, 2011


PUT Play Updates

Credit Suisse Group - CS - close: 22.95 change: +0.09

Stop Loss: n/a
Target(s): 19.00, 16.00
Current Option Gain/Loss: -10.0%
Time Frame: 4 to 10 weeks
New Positions: see below

Comments:
09/12 update: European stocks were weak today. Comments from one German leader suggested the only solution to the Greece debt problem might be bankruptcy or expulsion from the EU. There was a mad rush to refute and disagree with this suggestion. Yet the German DAX fell -2.2% and the French CAC40 index lost -4.0%.

Shares of CS opened at $22.48 (our entry) and dipped to $22.23 before bouncing. Volume on CS was very high at 3.8 million shares. Remember, this is a lottery ticket style of trade. European banks could see a lot of volatility on back and forth headlines regarding the fate of the PIIGS countries and their debt woes.

Earlier Comments:
The credit markets are telling investors that a Greek default is almost guaranteed but no one knows the actual date. It could be this month or it could be six months from now. Therefore, we need to label this CS put play as a speculative, aggressive bet. Greece and the EU do not want the country to default so CS could see a lot of volatility with sharp rebounds on positive headlines but these will be temporary.

With so much potential for volatility I am not listing a stop loss on this trade. Limit your risk by using small positions.

*Small Positions*

- Suggested Positions -

Long DEC $20 PUT (CS1117X20) Entry $2.00*

*09/12 option did not trade today but the $ASK did not move and remained at $2.00 (bid is $1.80)

Entry on September 12 at $22.48
Earnings Date --/--/-- (unconfirmed)
Average Daily Volume = 2.3 million
Listed on September 10, 2011


Moody's Corp. - MCO - close: 29.50 change: +0.53

Stop Loss: 30.85
Target(s): 26.50 , 25.25
Current Option Gain/Loss: Sep$30: -52.0% & Oct$27: -35.0%
Time Frame: 2 to 4 weeks
New Positions: see below

Comments:
09/12 update: Monday was a rocky session for MCO. The first two hours and the last two hours were volatile, sandwiching a quiet middle of the day. The sharp afternoon rebound left MCO with a +1.8% gain on the session. Shares look poised to retest overhead resistance near $30.00 and its trendline of lower highs. I am not suggesting new positions at this time. More conservative traders may want to consider an early exit now if you're holding the September puts.

Earlier Comments:
FYI: There are plenty of investors who are bearish on MCO. The most recent data listed short interest at almost 15% of the 183 million-share float. That does raise the risk of a short squeeze. We want to keep our position size small.

The Point & Figure chart for MCO is bearish with a $19 target.

* Small Positions * - Suggested Positions -

Long SEP $30 PUT (MCO1117U30) Entry $2.00*

- or -

Long OCT $27 PUT (MCO1122V27) Entry $1.80*

09/10 new stop loss @ 30.85
09/06 *Entry price on these options are estimates. Options did not trade today.

Entry on September 06 at $28.06
Earnings Date 10/27/11 (unconfirmed)
Average Daily Volume = 4.5 million
Listed on September 3, 2011


Stanley Black & Decker - SWK - close: 54.02 change: -0.89

Stop Loss: 58.05
Target(s): 50.25, 46.00
Current Option Gain/Loss: Oct$50: + 2.6%, & Oct$55: +0.0%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
09/12 update: SWK continues to underperform. Shares opened at $54.78 and dropped to a new 2011 low at $52.73 before trimming its losses. SWK ended the session down -1.6%. Readers might want to wait and see if shares bounce to or roll over under $56.00 before initiating new positions.

Earlier Comments:
Conservative traders could use a stop closer to $56.50-56.00. Our first target is $50.25. The $50-49 area might be support. Yet I'm setting a secondary target at $46.00. FYI: SWK recently produced a new quadruple bottom breakdown sell signal on its Point & Figure chart, which currently points to a $46 target.

- Suggested Positions -

Long OCT $50 put (SWK1122V50) Entry $1.90

- or -

Long OCT $55 put (SWK1122V55) Entry $3.90

Entry on September 12 at $54.78
Earnings Date 10/18/11 (unconfirmed)
Average Daily Volume = 1.8 million
Listed on September 10, 2011


CBOE Volatility Index - VIX - close: 38.52 change: + 0.07

Stop Loss: n/a
Target(s): 26.00, 22.50
Current Option Gain/Loss: -100.0%
Second Position Gain/Loss: -100.0%
Third Position Gain/Loss: -98.2%
Time Frame: 2 to 3 weeks
New Positions: see below

Comments:
09/12 update: Another terrible day in European stock markets helped spark a morning sell-off and the VIX opened higher above 42.50. The initial spike higher failed but the VIX managed to crawl higher and hit 43.18 before plunging as stocks rebounded off their lows.

We have less than two weeks left before September VIX options expire on Wednesday, Sep. 21. We are not suggesting new positions at this time.

Earlier Comments:
I am not listing a stop loss on this trade. We should consider this a higher-risk, speculative trade. I'm setting our targets at 26.00 and 22.50.

NOTE: These VIX options expire on Wednesday, September 21st.

- Suggested Positions -

Long SEP $25.00 PUT (VIX1121U25) Entry $4.00

- Second Position, entered at the open on Monday, Aug. 8th -
(very small positions)

Long SEP $25.00 PUT (VIX1121U25) Entry $2.50

- 3rd Position, listed Aug. 8th, Open Aug. 9th @ open. -

Long SEP $30.00 PUT (VXI1121U30) Entry $5.70

08/17 August VIX options expire
1st position Aug. $25 put @ $0.00 (-100%)
2nd position Aug. $25 put @ $0.00 (-100%)
08/08 3rd position listed to buy at the open on Aug. 9th
08/08 2nd position was filled the open.

Entry on August 5 at $28.48
Earnings Date --/--/--
Average Daily Volume = ---
Listed on August 4, 2011


CLOSED BULLISH PLAYS

Energy XXI Ltd. - EXXI - close: 23.18 change: -0.70

Stop Loss: 23.49
Target(s): 27.90, 29.75
Current Option Gain/Loss: Oct$27: -59.4% & Dec$30: -45.9%
Time Frame: 6 to 12 weeks
New Positions: see below

Comments:
09/12 update: The market's morning decline was enough to stop us out. EXXI gapped open lower at $23.42. Our stop loss was at $23.49. EXXI underperformed the market and instead of bouncing with the major indices the stock lost -2.9%.

Earlier Comments:
Readers may want to keep their position size small because EXXI can be a volatile stock! Plus, I want to point out that technically EXXI is in a neutral trading pattern of higher lows and lower highs (pennant formation).

- Suggested Positions -

OCT $27 call (EXXI1122J27) Entry $1.85*, Exit $0.75* (-59.4%)

- or -

DEC $30 call (EXXI1117L30) Entry $1.85*, Exit $1.00* (-45.9%)

09/12 stopped out on gap down at $23.42
*option values are an estimate. options did not trade today
09/09 EXXI almost hit our stop loss at $23.49
09/07 trade open. EXXI opened at $25.67
*prices are estimates. options did not trade today
09/06 original trade stopped out. Try again tomorrow with new stop and targets

chart:

Entry on September 7 at $25.67
Earnings Date 10/25/11 (unconfirmed)
Average Daily Volume = 1.4 million
Listed on September 6, 2011