Option Investor
Newsletter

Daily Newsletter, Tuesday, 10/11/2011

Table of Contents

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

Market Wrap

Bulls Resisting

by Jim Brown

Click here to email Jim Brown
Despite a strongly overbought market the bulls are resisting profit taking and the bears can't overcome this bullish sentiment.

Market Statistics

The rally continued for yet another day on hopes of a resolution in Europe. The Dow and S&P may have been flat but after a +330 point gain on Monday a flat day is bullish. It really shows how tired traders are of letting the European credit crisis control the markets.

When you consider the rally is based on a yet undefined plan to recapitalize banks that has yet to be approved, yet to be implemented and may or may not be effective, you have to be amazed. This is a hopium infused rally that is running on wishful thinking.

Since when is Slovakia the center of the investing universe? The market were on pins and needles all day long waiting for Slovakia to vote on the EFSF bailout fund. They are the last of the eurogroup countries to vote and the lawmakers in Slovakia are playing their 15 minutes of fame for all its worth. One person abstained from voting to remove the majority and force the administration to offer concessions to the opposing party to secure additional votes. It is the equivalent of the U.S. Senate being tied on a vote and having one senator withhold his vote until the president agreed to put a bridge to nowhere or a solar panel factory in his district. So now the world awaits the final approval of the entire 440 billion European Financial Stability Fund (EFSF) while Slovakia, $87 billion annual GDP and 60th in the world and the eurozone's second poorest member, plays politics with a global audience. Why should they bother to vote at all this week? You can't buy this kind of world attention. Why not drag it out another week? Slovakia will be liable for 7.7 billion euros for the revamped EFSF.

Late after the close Slovakia voted to reject the EFSF changes. Only 55 of the 124 lawmakers present in the chamber voted for the motion with nine voting against it. There are 150 members in the group. The rest abstained in order to block the approval. The vote toppled the government of Prime Minister Iveta Radicova who had staked her party's future on the vote. The opposition now says it will vote to approve the motion in exchange for a snap election. The opposition party said a new vote could take place within 48 hours if they get the proper guarantees. The vote to replace the government could come in the days that follow.

I am sure all the traders along for the ride don't care about the reasons only the results. The results have been amazing. The S&P has rallied +11% from last Tuesday's lows. Nearly every major analyst is now saying the bottom is behind us. I sure hope they are right because a return to lower lows would be very ugly and would probably ruin sentiment for the rest of the year.

There were no economic reports of note today. The FOMC minutes on Wednesday will be the big report for the week.

Economic Calendar

The news is shifting focus to earnings and Alcoa (AA), the first Dow component to report, started the earnings cycle off with a thud. Alcoa reported earnings of 15-cents that missed estimates of 22-cents. However, revenue of $6.42 billion was higher than estimates of $6.24 billion. The company said spot aluminum prices had fallen about 20% since the highs back in April. The lower prices for aluminum were due to heavy speculation and shorting in anticipation of a global economic slowdown, according to CEO Klaus Kleinfield.

The CEO said commercial transportation and aerospace remained strong but the auto sector, industrial products and packaging were lagging. Kleinfield said Europe was weak because of the uncertainty over the sovereign debt crisis but other geographies were strong. He said capital worries in Europe caused vendors to cut orders dramatically. When you don't know if your bank is going to going to have credit available or even still be in business months from now it makes European buyers cautious about the future. He said fear is taking its toll.

Other than Europe Kleinfield said growth was increasing in all its end markets although somewhat slower than in the first half of the year. He said the main reason for the earnings miss was the 20% drop in aluminum prices. Kleinfield raised the growth estimates for China from 15% to 17% because of rising demand. That suggests the worries over China's economy slowing could be in error.

Alcoa shares declined about 5% after the close.

Alcoa Chart

Levi Straus reported earning that rose +14% on a +9% increase in sales. Sales rose +7% in the Americas, +6% in Europe and +20% in Asia. Profit margins declined slightly from 49% to 47% due to increases in cotton prices. Levi Straus is private and not publically trades but I am reporting it because of the rise in sales in every region but spectacularly in China.

Audiovox (VOXX) reported earnings of $9.8 million compared to $3.6 million in the year ago quarter. Earnings per share increased from 3-cents to 15-cents. Sales rose +22.5% to $158.3 million and gross margins rose +650 basis points.

VOXX Chart

The earnings calendar was slim today but the starter's gun has sounded. Events will begin to intensify starting on Thursday with JP Morgan and Google. Next week will see the flood gates open and by Thursday we should know how the third quarter earnings and guidance is going to play out.

99-Cent Only Stores (NDN) agreed to be acquired for $22 per share in cash or $1.6 billion. The buyers are Ares Management LLC and the Canada Pension Plan Investment Board. The price is +7% higher than Monday's close but +32% above the March 10th close and the day before NDN disclosed it had received an acquisition offer from a different private equity firm and the company's founder.

The recession and the weak economy has made dollar stores a thriving business. NDN operates 289 stores in the USA. In February Trian Fund Management LP made a $7 billion offer for Family Dollar Stores. The bid was rejected. Dollar General was acquired by KKR in 2009.

99-Cent Stores Chart

Dollar Thrifty Automotive Group took itself off the market after failing to get any acceptable acquisition proposals. Back in the summer Dollar Thrifty said it was being pursued by Avis and Hertz but Avis backed out of the bidding in September. Dollar Thrifty gave everyone a "submit your best and final" offer by Monday warning but Hertz was the only bidder. Dollar Thrifty said the proposal was not acceptable and took itself off the market. The company says it will continue to run as a standalone business. Shares of DTG declined to $59 and well below the $84 level it saw when it was being pursued back in May. I guess once the bidder looked under the hood they were not excited about what they saw.

Dollar Thrifty Chart

Crude prices rose to more than $86 intraday despite news that OPEC had lowered growth estimates again. The change in demand estimates occurs once a month and provides a trading opportunity. WTI crude has rallied from $75 last Tuesday to $86 today and that is a monster move right to downtrend resistance at the 50-day average. The rally in crude is directly related to the decline in the dollar and should not be seen as a sudden upgrade in demand estimates. If Europe does resolve its problems we will see demand pickup in 2012. However, resolving the problems will strengthen the euro and push the dollar lower and crude prices will rise regardless of any increase in demand. When demand does kick in next year that will be a bonus.

OPEC said demand growth in 2011 would be 1.0 mbpd and about -180,000 bpd less than their prior forecast. It is still growth of a million barrels per day. For 2012 they expect increased demand of 1.2 mbpd. That is -100,000 bpd lower than their prior forecast. The headlines tried to capitalize on the decline by saying "OPEC says oil demand in 2012 will decline." That is not what OPEC said but this is a common ploy by the print reporters trying to produce a headline that will be read. What they could have said was "OPEC predicts oil demand will rise by 1.2 mbpd in 2012 to a record of more than 88 mbpd." That is the correct headline.

WTI Chart

Also keeping oil prices higher was news of a foiled assassination plot by Iran to kill the Saudi Ambassador in the USA and to blow up Israeli embassies in the U.S. and Argentina. The plot included members of Iran's Qods Force, the most secret of Iran's numerous military organizations. The Qods Force is a special operations unit of the Iranian Revolutionary Guard Corp that promotes terrorist activities abroad.

Also supporting prices was news Saudi King Abdullah will be undergoing surgery in the coming days in Riyadh. The king is thought to be 88 and should something happen to him there is considerable confusion on exactly what would happen to the power structure. His brother Crown Prince Sultan, who is slightly younger and also has health issues, would be expected to take control. Following Sultan the Interior Minister Prince Nayef would be the next inline.

However, to date only sons of the kingdom's founder, Abdul-Aziz Ibn Saud, have ascended to the throne. Eventually it will have to pass to a new generation and exactly how that will work is unknown and there are quite a few in that generation. Having a sudden change in leadership at the top could allow various factions to rise up again. The king has ruled with an iron fist so you can bet that any new ruler will be quickly tested. Having Iran actively plotting assassinations is just one more warning the conflict between the two countries could quickly escalate if Iran thought there was an opportunity.

The market rebound has entered a new phase where we will probably need a different news event to push it higher. The "Europe is going to recap banks" news has grown old and earnings are rapidly going to become the motive power for the markets. When the Merkozy bank plan is actually announced later this month, it has been delayed, we could see a significant market event if the plan is perceived as just another kick the can down the road event. Until then it will be earnings that grabs the spotlight.

The S&P rallied to just under round number resistance at 1200 and actually did a very credible job of holding that level this afternoon. However, the toughest part of the rally is still ahead once that 1200 level is crossed. Strong resistance awaits at 1220 and without some much better than expected earnings from the big guys it could be a tough march higher.

However, with various analysts tossing their fur coats into the closet and donning a set of bullish horns the slightest break above 1220 could trigger a monster rally. The main reason will be funds scrambling to grab some performance before year end. With the average fund down -7% for the year and many down much more than that, they will want to chase stocks higher in hopes of keeping the rally going until year end. I will be standing on the sidelines cheering but we first have to get past 1220.

S&P Chart

The Dow traded in a very narrow 82 point range on Tuesday and considering the +1000 point rebound with no profit taking that was amazing. We could have easily seen a 300 point range but there appears to be no sellers. The real test will be the JPM earnings on Thursday. The minor drop in Alcoa after the close should not impact the Dow's open on Wednesday. The news from Slovakia is much more important and the S&P futures are down about -6 points late Tuesday.

Intraday support was 11,390 and a real bout of profit taking could easily retest 11,200. Volume the last two days has been light with 6.9 billion shares each day. That means there is no conviction we are going higher but no sellers either. Traders are waiting for a dip to buy or in the case of the bears for a dip to sell. Selling the rallies has been painful for the last week.

Dow Chart

The Nasdaq rally has come with the help of Apple's +30 point gain over the last two days. The record breaking preorders for the iPhone 4S has pushed Apple back to $400 and Steve Jobs is no longer a factor in the stock price.

Current resistance is 2600-2625 and getting through that level could be dependent on Google on Thursday. Google typically moves 30-50 points on earnings and that could be the determining factor. A decline of 50 points could take the Nasdaq out of contention and put it back in the middle of the recent congestion range. A spike of 50 points could push it well over 2600 and the positive sentiment from a strong Google earnings beat could help push it higher. If we do break over 2625 the short covering would be strong as would the price chasing. Reluctant investors would throw caution to the wind and it could be a rocket ride higher.

Nasdaq Chart

I remain in buy the dip mode until proven wrong. I should probably add buy the breakout mode as the second strategy because we are not seeing any selling. If the Slovakia vote manages to blunt some enthusiasm then we could get a dip.

We should be looking for a decent dip on profit taking but Q4 rallies sometimes fail to be logical and that means we have to be ready for anything. I would not be shorting this market. I think sentiment has changed and without some new crisis in Europe or a total breakdown in earnings the market should move higher but hopefully in an orderly manner and not with 300 point intraday swings.

Jim Brown

Send Jim an email


New Option Plays

Look At Different Time Frames

by James Brown

Click here to email James Brown


NEW DIRECTIONAL CALL PLAYS

Sina Corp. - SINA - close: 81.78 change: +4.65

Stop Loss: 70.85
Target(s): 94.50
Current Option Gain/Loss: Unopened
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
Big picture I am worried about SINA and its September breakdown. Looking at the weekly chart the larger trend might be construed as bearish. If you change your time frame then SINA looks a lot more bullish on the daily chart. Today's breakout over resistance near $80 is positive. Plus the P&F chart is bullish.

SINA can be a very volatile stock. We want to keep our position size very small. I suspect that SINA can bounce back toward resistance near $100 and its simple 200-dma before rolling over again. We are suggesting small bullish positions now but only if both SINA and the S&P 500 index both open positive tomorrow morning. We'll use a wide stop at $70.85. Our target is $94.50. Aggressive traders could aim for $99.00 while conservative traders may want to exit early near $90.00.

It is worth noting that the most recent data listed short interest at 10% of SINA's 65.4 million-share float. Plus, the Point & Figure chart for SINA has turned bullish with a $110 target.

*See Entry Point Details Above*

- Suggested Positions - (Very Small Positions, SINA is volatile)

(more aggressive traders, less than 2 weeks left)
Buy the OCT $85 call (SINA1122J85) current ask $3.40

- or -

buy the NOV $90 call (SINA1119K90) current ask $6.40

Annotated Chart:

Entry on October xx at $ xx.xx
Earnings Date 11/15/11 (unconfirmed)
Average Daily Volume = 8.0 million
Listed on October 11, 2011



In Play Updates and Reviews

Out of Gas or Catching Its Breath?

by James Brown

Click here to email James Brown

Editor's Note:

Is the stock market rally out of gas and about to roll over? Or is it merely pausing to catch its breath before making another run higher? That's the question traders are asking. Stocks are definitely short-term overbought. Readers may want to think about taking profits early now.

-James

Current Portfolio:


CALL Play Updates

Green Mountain Coffee Roasters - GMCR - cls: 93.62 chg: +0.58

Stop Loss: 89.90
Target(s): 99.75
Current Option Gain/Loss: -20.4%
Time Frame: less than 2 weeks
New Positions: see below

Comments:
10/11 update: GMCR managed to outperform the market today with a +0.6% gain. You could argue that shares are building a short-term bullish trend of higher lows and higher highs over the last several days. I'm still concerned that the action in GMCR is not more convincing. I am not suggesting new positions at this time but an intraday bounce near $90.00 would change my mind.

(Small positions) - Suggested Positions -

Long OCT $95 call (GMCR1122J95) Entry $4.65

10/10 trade opened. GMCR gapped higher at $93.71.

Entry on October 10 at $93.71
Earnings Date 12/07/11 (unconfirmed)
Average Daily Volume = 3.4 million
Listed on October 08, 2011


Hewlett Packard - HPQ - close: 25.92 change: +0.18

Stop Loss: 22.90
Target(s): 29.50
Current Option Gain/Loss: +77.5%
Time Frame: 8 to 12 weeks
New Positions: see below

Comments:
10/11 update: Our plan was to take some money off the table and sell half of our position this morning at the open. HPQ opened lower at $25.59 but traders bought the dip. Shares bounced back toward resistance near $26.00 and its 50-dma to close near its highs for the session.

We will also try and reduce our risk by raising our stop loss to $22.90. More conservative traders may want to consider a stop loss closer to $24.00 instead.

No new positions at this time.

Earlier Comments:
I am not suggesting new positions at this time. The next level of resistance for HPQ is the $26.25-26.50 zone.

- Suggested Positions -

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

10/11 new stop loss @ 22.90
10/11 planned to sell half at the open
bid 2012 Jan. $24 call @ $3.60 (+68.2%)
10/10 Take some $$ off the table. Sell 1/2 at the open tomorrow
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


Sears Holding - SHLD - close: 66.96 change: +2.06

Stop Loss: 59.45
Target(s): 69.75
Current Option Gain/Loss: Oct$65 +30.7% & Nov $67.50: +13.4%
Time Frame: 2 to 4 weeks
New Positions: see below

Comments:
10/11 update: SHLD displayed relative strength with a +3.1% gain and a breakout past its 100-dma and the $66 level. Volume was a little below average but I'm not complaining. The next hurdle is potential technical resistance at the exponential 200-dma near $68.85 and more conservative traders will want to seriously consider an early exit near the 200-ema. Our target is $69.75. I am not suggesting new positions tonight.

Earlier Comments:
It's worth noting that the Point & Figure chart on SHLD has reversed higher and is now pointing to an $83 target. FYI: The most recent data listed short interest at 47% of the float.

- Suggested Positions -

Long OCT $65 call (SHLD1122J65) Entry $2.41

- or -

Long NOV $67.50 call (SHLD1119K67.5) Entry $3.35

10/08 new stop loss @ 59.45, new target 69.75

Entry on October 7 at $64.13
Earnings Date 11/17/11 (unconfirmed)
Average Daily Volume = 644 thousand
Listed on October 06, 2011


United Technologies - UTX - close: 73.74 change: -0.01

Stop Loss: 69.75
Target(s): 74.50
Current Option Gain/Loss: +88.8%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
10/11 update: UTX took its cues from the major averages and drifted sideways in a narrow range today. I am still suggesting that more conservative traders consider taking profits now. I am not suggesting new positions at this time. Our target to exit is $74.50.

NOTE: We do not want to hold over UTX's earnings report on Oct. 19th.

- Suggested Positions -

Long OCT $70 call (UTX1122J70) Entry $2.24

10/10 new stop loss at $69.75

Entry on October 05 at $69.61
Earnings Date 10/19/11 (confirmed)
Average Daily Volume = 6.3 million
Listed on October 04, 2011


PUT Play Updates

None. Currently there are no active put plays.