Option Investor
Newsletter

Daily Newsletter, Monday, 10/3/2011

Table of Contents

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

Market Wrap

Ugly Start To Q4

by Todd Shriber

Click here to email Todd Shriber
It was noted across dozens of outlets over the weekend that the third quarter of 2011 was the worst for U.S. stocks since the fourth quarter of 2008. Well, the fourth quarter of 2011 is off to a savage start as the Dow Jones Industrial Average looked on Monday with 2.4% loss. That is good by comparison to the loss of nearly 3% for the S&P 500 and the loss of more than 3% for the Nasdaq. The Russell 2000 plunged 5.4%.

Stats Table #1

A combination of recession and Greek default fears gripped the market today, but there were actually a couple of decent economic reports out here in the U.S. The Commerce Department said construction spending climbed 1.4% in August following a 1.4% drop in July. Private construction increased 0.4% in August while residential building jumped 0.7%.

The banner report, sort of, was the September reading on the Institute for Supply Management's factory index, rose to 51.6 last month from 50.6 in August. Economists expected a September reading of 50.5. New orders were flat, but employment inched higher, so this was arguably a good news/bad news report. Still, readings above 50 signal expansion, but stocks acted as if the ISM number was zero.

ISM Table

About the only thing that worked from the long side today was gold. Silver followed suit as well. Gold futures climbed for a second straight session as Greece's woes once again spurred demand. September was the worst month for gold since October 2008, but if any asset class can be counted on to bounce higher from an oversold condition these days, it would be gold.

On Sept. 30, holdings in gold-backed exchange-traded products rose 0.2 percent, the first increase in a week, to 2,213.6 metric tons, according to data compiled by Bloomberg. That is a relevant anecdote, but what should accompany that is the fact that ETFs backed by physical gold saw little in the way of outflows during the yellow metal's September correction. Translation: It was hedge funds and other speculators selling gold futures contracts to cover bad bets elsewhere that drove gold prices, not a fundamental change in the gold story. Gold Chart

Talk about not flying the friendly skies. Shares of AMR Corp. (AMR), the parent company of American Airlines, the third-largest U.S. carrier, plunged 33.1% on volume that was more than six times the daily average on speculation the company is burning through cash at alarming rate and may need to seek bankruptcy protection. AMR expected to end the third quarter with a cash and short-term investment balance of about $4.7 billion, including $475 million in restricted cash, Bloomberg News reported, citing an AMR filing.

The decline in AMR shares is made even more stunning by the fact that the stock was already down 62% for the year before the opening bell today. This is also the lowest the stock has been since May 2003 when it touched $2.10, the post-Sept. 11th low. American's stock is the worst-performer among the major U.S. airlines this year, not surprising given the company lost $286 million in the second quarter while most airlines were profitable.

Much is made of fuel costs as they pertain to airlines and there is no getting around the fact that fuel is number one operating cost for any airline. Logically, airlines benefit when oil prices fall, which they have been doing recently. This scenario underscores some major problems in American's business model because the U.S. Oil Fund (USO) was down 20% in the past three months before the start of trading today. Over the same time, AMR shares were down 45%.

Labor is still a major problem for airlines and as Barron's reported, American pilots are departing quickly because they want to lock in their pensions, which would be vulnerable in the event of a bankruptcy. The reality is compensation is another 800-pound gorilla for American and if the U.S. really is a free market economy, Uncle Sam would do well to stay out of this mess and let AMR rise or fall on its own merits.

AMR Chart

For one day at least, shares of Internet search provider Yahoo (YHOO) looked better compared to the broader market after Jack Ma, founder and CEO of Chinese e-commerce giant Alibaba, said his company would be interested in buying Yahoo. All of Yahoo, Ma said, not just the 40% stake in Alibaba currently owns.

Yahoo and Alibaba have a relationship that goes back to 2005, but what was normally a cordial affair became strained under former Yahoo CEO Carol Bartz. Bartz refused to oblige Ma when he wanted to repurchase some of the Alibaba shares owned by Yahoo. Bartz is no long a problem for Ma and the latter may be smelling blood in the water. Still, Yahoo founder Jerry Yang reportedly said last month the company is not for sale. After Yang blew the deal with Microsoft (MSFT) several years ago, he may not have the luxury or the board's support in eschewing another takeover offer.

Yahoo Chart

Not surprisingly, Monday's action was a bloodbath for commodities as recession fears sent crude oil tumbling to its lowest closing price in a year. Coal is another commodity that has not been immune to the ''risk off'' trade. In fact, coal, which I admit I was bullish on a few months ago, has been infected with a commodities flu.

Last Friday after the close, Arch Coal (ACI) sneaked in a profit warning that did not go unnoticed today. The company said it will post a full-year adjusted profit of no more than $1.40 a share. That is well below the $1.75 the company previously forecast and the $2.01 Wall Street was expecting.

Missouri-based Arch lost 9.3% on volume that was better than double the daily average. The glum news from Arch sent the Market Vectors Coal ETF (KOL) down 5.5% on above average turnover. In the past couple of weeks, Alpha Natural Resources (ANR), Walter Energy (WLT) and Arch have issued production or profit warnings. Those three stocks stocks combine for roughly 14% of KOL's weight. No wonder the chart is so ugly.

Coal ETF Chart

Looking at the charts, I am afraid I do not have good news. The S&P 500 failed to hold support at 1120 and round number support at 1100 was also violated. The close below 1100 sets the S&P 500 up for a return to the 1050-1060 area. From there, 1025 is the next off ramp. Should that area not hold, and perish the thought, but a return to 860 is not out of the question.

S&P 500 Chart

Selling pressure was intense on the Dow today with 29 of 30 components finishing the day in the red. Wal-Mart was the lone Dow stock to close high. Support at 10,600 was not tested today, though this seems to be a formality. XOM and CVX were a mess today while CAT lost nearly 4.5% and Bank of America (BAC) shed nearly 10%. Assuming 10,600 does not hold, and I do not think it will, the Dow is probably headed back to 10,000.

Dow Chart

Things are not much better concerning the Nasdaq. After Friday's big loss, 2340 should have been next support, but the next closed about five points below there today. More closes below 2340 probably send the Nasdaq to 2210 and then to 2100. And yes, I say that knowing that the fourth quarter is supposed to be good for tech stocks. AAPL, AMZN and BIDU were all down a tad less than 2% today while GOOG was whacked to the tune of nearly 5%.

Nasdaq Chart

The decline on the Russell 2000 was breathtaking today. With a plunge of almost 5.4%, the small-cap index seems destined to retest critical support at 590. I want to say that an ETF like the ProShares UltraShort Russell 2000 (SRTY) makes sense here, but this decline has been so hard and fast that I am a little worried about messing with an ETF as volatile as this one. With the Russell 2000 just 19 points from critical support, SRTY offers $3-$4 of upside assuming the declines stop at 590.


This is clearly a fear-driven market as evidenced by the fact that we are sitting at the lows for the year. Economic numbers have not been bad over the past few days and it would appear that the U.S. and China will dodge another significant recession next year, but until the jobs number, which comes up Friday, starts showing real signs of life, buyers have plenty of reasons to stay on the sidelines. Earnings season is fast-approaching, but I would not be betting on enough positive surprises there to get the S&P 500 back to 1350 before year-end. At this point, even 1300 looks very tricky.

Todd Shriber


New Option Plays

Gold, Coal, and more!

by James Brown

Click here to email James Brown


NEW DIRECTIONAL CALL PLAYS

Gold ETF - GLD - close: 160.96 change: +2.90

Stop Loss: 155.90
Target(s): 169.00
Current Option Gain/Loss: + 0.0%
Time Frame: 2 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
Gold seems have finished its recent correction. Now after a week of consolidating sideways in very volatile trading, gold is on the rebound. The GLD's breakout back above the $160 level and its 100-dma looks like a short-term bullish entry point.

There are two main issues we need to focus on with this trade and that is the problems in Europe and the U.S. dollar. Normally when the dollar rises, gold goes down. That did not happen today because investors are so worried about Europe. When Greece eventually defaults there is going to be a huge surge into the perceived safety of gold. Every negative headline from Europe should help buoy the precious metal. On the other hand if Europe somehow solves their debt issue then the U.S. dollar should drop and normally that would be bullish for gold. It seems like a win/win for gold. However, all we have to do is look at the sell-off two weeks ago to see that this factors don't always apply. Gold can see corrections in spite of the bullish environment for this commodity.

I am suggesting small bullish positions on the GLD now. We'll use a stop loss at $155.90. Our first target is $169.00.

*Small Positions*

- Suggested Positions -

buy the OCT $165 call (GLD1122J165) current ask $3.25

Annotated Chart:

Entry on October 4 at $ xx.xx
Earnings Date --/--/--
Average Daily Volume = 24.3 million
Listed on October 03, 2011


Ultra S&P500 ETF - SSO - close: 35.82 change: -2.15

Stop Loss: 30.95
Target(s): 36.75, 39.00
Current Option Gain/Loss: Unopened
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
The stock market appears to be breaking down. While the trend is down, stocks don't always fall in a straight line. We are going to try and catch a bounce in the S&P 500 but we'll use the SSO to try and maximize any returns.

This is a very speculative, higher-risk trade. I am suggesting small bullish call positions on the SSO if the ETF hits $34.00. We'll start the trade with a stop loss at $30.95 but more conservative traders may want to consider a stop loss closer to $32.50 instead.

buy-the-dip Trigger @ $34.00

- Suggested Positions -

buy the OCT $37 call (SSO1122J37) current ask $2.22

Annotated Chart:

Entry on October xx at $ xx.xx
Earnings Date --/--/--
Average Daily Volume = 25.1 million
Listed on October 03, 2011


NEW DIRECTIONAL PUT PLAYS

Walter Energy Inc. - WLT - close: 56.90 change: -3.11

Stop Loss: 62.05
Target(s): 50.50
Current Option Gain/Loss: +0.0%
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
WLT is a major coal producer. You could certainly argue that the stock is oversold but shares continue to break down. Today's drop leaves the stock under its 2010 low of $57.62. The next level of potential support looks like $50.00.

I am suggesting small bearish positions now, and I do mean small. WLT can be a very, very volatile stock. Aggressive traders may want to put their stop loss above the 10-dma near $64.50. I am suggesting a stop loss at $62.05, just above today's high. Our first target is $50.50.

*Small Positions*

- Suggested Positions -

buy the OCT $50 PUT (WLT1122V50) current ask $2.67

Annotated Chart:

Entry on October 04 at $ xx.xx
Earnings Date 10/26/11 (unconfirmed)
Average Daily Volume = 4.2 million
Listed on October 03, 2011



In Play Updates and Reviews

Multiple Targets Hit

by James Brown

Click here to email James Brown

Editor's Note:

It was a great day if you're a stock market bear, or long some puts. The morning rebound attempt failed and the stock market accelerated to new lows for the year.

CAT and FLS hit our final targets. RBC hit our first target.

-James

Current Portfolio:


CALL Play Updates

Check Point Software - CHKP - close: 51.70 change: -1.06

Stop Loss: 50.80
Target(s): 55.75 , 57.75
Current Option Gain/Loss: -47.2%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
10/03 update: CHKP held support near $51.00 and its exponential 200-dma this afternoon. While this is encouraging there is no guarantee it will hold if the market accelerates lower tomorrow. Readers will want to seriously consider an early exit immediately. I am not suggesting new positions at this time.

- Suggested Positions -

Long OCT $55 call (CHKP1122J55) Entry $1.80

10/03 testing support near $51.00, consider an early exit
10/01 readers may want to consider an early exit now.
09/26 trade opened.

Entry on September 26 at $53.00
Earnings Date 10/20/11 (unconfirmed)
Average Daily Volume = 1.6 million
Listed on September 20, 2011


Hewlett Packard - HPQ - close: 22.20 change: -0.25

Stop Loss: 21.45
Target(s): 29.50
Current Option Gain/Loss: - 5.1%
Time Frame: 8 to 12 weeks
New Positions: see below

Comments:
10/03 update: The morning bounce in HPQ failed and shares closed on their lows. Yet HPQ only lost -1.1% versus -2.8% in the S&P500. HPQ is now testing support near $22.00. More conservative traders might want to raise their stop loss closer to the $22.00 mark. I am not suggesting new positions at this time.

- Suggested Positions -

Long 2012 Jan. $24 call (HPQ1221A24) Entry $2.14

09/27 new stop loss @ 21.45

Entry on September 23 at $22.52
Earnings Date 11/21/11 (unconfirmed)
Average Daily Volume = 26.6 million
Listed on September 22, 2011


PUT Play Updates

iShares Russell 2000 ETF - IWM - close: 60.99 change: -3.31

Stop Loss: 65.25
Target(s): 60.50, 57.00
Current Option Gain/Loss: Oct$60: +55.9% & Nov$60: +36.6%
Time Frame: 3 to 6 weeks
New Positions: see below

Comments:
10/03 update: Our new IWM put play is off to a fast start. Shares gapped open lower at $63.81, bounced back to almost hit $65.00, and then plunged to $61.00 and a new 52-week low. This ETF ended the session down -5.1%. I am not suggesting new positions at this time. We will lower our stop loss to $65.25.

Our first target to take profits is at $60.50. Our final target is $57.00.

- Suggested Positions - (Small Positions)

Long OCT $60 PUT (IWM1122V60) Entry $1.84

- or -

Long NOV $60 put (IWM1119W60) Entry $3.19

10/03 new stop loss @ 65.25

Entry on October 03 at $63.81
Earnings Date --/--/--
Average Daily Volume = 83.2 million
Listed on October 01, 2011


Panera Bread Co. - PNRA - close: 101.17 change: -2.77

Stop Loss: 108.55
Target(s): 98.00, 92.50
Current Option Gain/Loss: Oct$100: +22.8% & NOV$95: +13.0%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
10/03 update: PNRA gapped open lower at $103.01 but traders were in a buy the dip mood. The stock rallied back to $106.76 before reversing again as the market rolled over. PNRA ended the day off -2.6% and poised to test the $100 level. More conservative traders may want to adjust their stop loss toward today's high.

Earlier Comments:
The Point & Figure chart for PNRA is bearish with am $88 target. FYI: I do need to caution readers that the most recent data listed short interest at about 10% of PNRA's small float of approximately 28 million shares. That's above average short interest and a widespread market bounce could spark some short covering.

- Suggested Positions -

Long OCT $100 PUT (PNRA1122V100) Entry $3.50

- or -

Long NOV $95 PUT (PNRA1119W95) Entry $4.60

Entry on October 03 at $103.01
Earnings Date 10/25/11 (unconfirmed)
Average Daily Volume = 574 thousand
Listed on October 01, 2011


Pioneer Natural Res. - PXD - close: 61.82 change: -3.95

Stop Loss: 68.05
Target(s): 60.50, 56.00
Current Option Gain/Loss: Oct$60: +24.0% & Nov$60: +15.9%
Time Frame: 3 to 6 weeks
New Positions: see below

Comments:
10/03 update: Our PXD put play is off to a strong start. Shares gapped open lower at $64.87. Nimble traders got a chance to buy puts on the bounce when PXD rebounded to $65.64 but then the market accelerated lower and PXD plunged to a -6.0% drop.

Please note our new stop loss at $68.05. Our first target to take profits is at $60.50. Our final target is $56.00.

- Suggested Positions - (Small Positions)

Long OCT $60 PUT (PXD1122V60) Entry $2.50*

- or -

Long NOV $60 PUT (PXD1119W60) Entry $4.40

10/03 new stop loss @ 68.05
*Oct. $60 put entry price is an estimate. Option did not trade at the open that morning.

Entry on October 03 at $64.87
Earnings Date 11/01/11 (confirmed)
Average Daily Volume = 1.8 million
Listed on October 01, 2011


Regal-Beloit - RBC - close: 42.97 change: -2.41

Stop Loss: 48.25
Target(s): 43.50, 40.50
Option Gain/Loss: (wide spreads) Oct$45: +190.0% & Nov$45: +86.9%
Time Frame: 3 to 6 weeks
New Positions: see below

Comments:
10/03 update: Target achieved. RBC underperformed the market again. Shares lost -5.3% and closed on its lows for the session. I want to warn readers that RBC is really starting to look short-term oversold here. I'm not suggesting new positions.

The stock hit our first target at $43.50 this afternoon. Our final target is $40.50. Please note I am lowering our stop loss down to $48.25.

Warning! The option spreads are a little wide. We want to keep our position size small to limit our capital at risk.

- Suggested Positions - (small positions)

Long OCT $45 PUT (RBC1122V45) Entry $1.00

- or -

Long NOV $45 PUT (RBC1119W45) Entry $2.30

10/03 new stop loss @ 48.25
10/03 1st target hit @ 43.50
bid Oct $45 put @ $2.50 (+150%)
bid Nov $45 put @ $3.90 (+69.5%)
10/01 new stop loss @ 49.25

chart:

Entry on September 29 at $49.01
Earnings Date 11/02/11 (unconfirmed)
Average Daily Volume = 456 thousand
Listed on September 28, 2011


CLOSED BEARISH PLAYS

Caterpillar Inc. - CAT - close: 70.55 change: -3.29

Stop Loss: 77.25
Target(s): 73.50, 70.50
Current Option Gain/Loss: +135.4%
Time Frame: 2 to 3 weeks
New Positions: see below

Comments:
10/03 update: Target achieved. CAT broke down to new lows and hit $70.50 late this afternoon. Our second and final target was $70.50. I suggested that more aggressive traders could aim for the $66-64 zone instead.

- Suggested Positions -

OCT $75 PUT (CAT1122V75) Entry $2.93, exit $6.90 (+135.4%)

10/03 final target hit at $70.50
10/01 new stop loss @ 77.25
09/29 1st target hit at $73.50. option bid $5.00 (+70.6%)

chart:

Entry on September 28 at $78.13
Earnings Date 10/24/11 (unconfirmed)
Average Daily Volume = 11.2 million
Listed on September 27, 2011


Flowserve Corp. - FLS - close: 70.00 change: -4.00

Stop Loss: 78.25
Target(s): take profits now, and exit at $70.25
Current Option Gain/Loss: Oct$75: +180% & Nov$70: +135.7%
Time Frame: 3 to 6 weeks
New Positions: see below

Comments:
10/03 update: Target achieved. FLS underperformed the market today with a -5.4% plunge to the $70.00 level. Our final target to exit was hit at $70.25 this afternoon. I suggested that more aggressive traders could aim for a drop toward the $65 area.

- Suggested Positions -

Long OCT $75 PUT (FLS1122V75) Entry $2.50, exit $7.00 (+180%)

- or -

Long NOV $70 PUT (FLS1119W70) Entry $2.80, exit $6.60 (+135.7%)

10/03 Final target hit @ 70.25
option bids at $7.00 and $6.60.
10/03 sell half at the open
bid Oct $75 put @ $4.90 (+96.0%)
bid Nov $70 put @ $5.40 (+92.8%)
10/01 Prepare to take profits ASAP, at the open on Monday
10/01 new stop loss @ 78.25

chart:

Entry on September 29 at $80.23
Earnings Date 10/26/11 (unconfirmed)
Average Daily Volume = 721 thousand
Listed on September 28, 2011