Option Investor
Newsletter

Daily Newsletter, Tuesday, 8/7/2012

Table of Contents

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

Market Wrap

WOW Rally

by Jim Brown

Click here to email Jim Brown

The market appears to be in Wall of Worry mode and the higher we go the more investors are willing to ignore the problems.

Market Statistics

The markets gapped up again at the open on news from Europe and then sold off at the close for the third consecutive day. However, they still posted gains despite expectations by almost everyone to the contrary. I am officially calling it the Wall of Worry rally. There are so many worries that expectations for central bank easing in Europe, Japan, China and the U.S. are preventing a market decline. The central banks are successfully talking up the market without having to actually do anything. Eventually this tactic will fail but if we breakout to new highs we will see new money begin to chase performance. New highs are the best form of Viagra a market can have.

Most of the problems in today's wall of worry came from Europe. U.K. industrial production declined -4.3%. Sounds bad but analysts were expecting a -5% drop so the news was "less bad" and a rally began.

Comments from officials in Germany late last night appeared to approve of the ECB plan to buy sovereign bonds in an effort to keep interest rates low in Italy and Spain. The European markets and the S&P futures soared over night. The apparent about face by German officials was misinterpreted to badly that the German Bundesbank had to publish a clarification around 4:AM ET saying "Our stance on bond purchases has not changed." The Bundesbank is not the government and the German officials did not change their comments. The Bundesbank sees bond purchases as a redistribution of wealth from financially sound countries to those with serious spending problems and excess debt. Basically the sound countries would be funding the lavish spending by the countries in trouble. Despite the war of words in Germany the markets continued their overnight rally.

German factory orders declined -1.7% in June compared to May and economists had only expected only an -0.8% decline. Orders declined -7.8% year over year. Orders from the eurozone declined -4.9% after rising +7.8% in May. Domestic orders declined -2.1%. Call me crazy but I don't see any reason for a rally in those numbers.

Italy announced that its GDP contracted by -0.7% in Q2 and slightly better than the -0.8% in Q1. Again, this less bad number generated a rally. This is a continuation of a recession that has lasted more than a year and her pushed GDP down -2.5% over the last year and analysts predict that will continue through year end. The Italian government believes the economy will decline only -1.4% for the year despite continued declines. A Reuters survey predicts the budget deficit will be -2.3% of GDP compared to government estimates at 1.7% and 1.3% in 2013. Why anyone would believe any "less bad" government number out of Italy, Spain or Greece is beyond me.

That was how the market rally started overnight. Apparently those weak numbers calmed fears of any even worse decline AND increased expectations for ECB easing in the weeks ahead. It is no longer the Bernanke put holding up the market but now the ECB put.

That is not to say the U.S. did not have its own Fed speak pushing markets higher. Federal Reserve Bank of Boston president Eric Rosengren said the Fed should pursue an "open ended" QE program of "substantial magnitude" to boost growth and hiring amid the global economic slowdown. He said the Fed should set its guidance on the economic outcome it wants to see and then continue buying until that outcome arrives. He said without new stimulus the unemployment rate would rise to 8.4% by year-end and economic growth would not exceed 1.75%. A new easing program "needs to be substantial enough that is offsets the shocks we are getting from Europe and concerns about weak growth." He said even if you are a good swimmer you can't tread water forever. Eventually you will sink. He also said he disagrees with the idea that the Fed should remain on hold until after the election to avoid appearing political. Unfortunately Rosengren is not a voting member of the FOMC this year. The market ignored that fact and proceeded higher as though Bernanke had uttered those words.

On the economic calendar today the Job Openings Labor Turnover Survey (JOLTS) saw openings rise +105,000 to 3.76 million. That was the most new openings since July 2008 and the most job openings in total for 2012. More than 2.11 million people quit their jobs and that was down from 2.18 million in the prior month. For the period covered in this report 4.4 million people were hired, down slightly from the 4.5 million in the prior period. This report spans June-July payroll periods. The number of openings ticked slightly higher and hires slightly lower making the report market neutral.

JOLTS Chart

The economic calendar for the rest of the week remains light and the markets will be dominated by headlines from Europe and the possibility for ECB action. We are hostage to the headlines and to any remaining earnings news.

Economic Calendar

The news from Europe lifted the Euro to 124.0 overnight but once the competing headlines crossed during the U.S. session the Euro returned to 123.25 and flat for the day. The dollar declined to six week lows on comments from Rosengren and expectations for QE in the USA. That dollar decline helped push equities and commodities higher.

Dollar Chart

WTI Crude Oil Chart

Brent crude rallied more than WTI because of expectations for ECB easing soon. It also rallied on expectations for increased impact of the Iranian sanctions after Standard Chartered Bank was caught hiding more than 60,000 transactions with Iran worth more than $250 billion. The bank will probably lose their license to operate in the USA as a result. What is pushing oil higher is the potential for other banks that may have been cheating to immediately cease and desist in hopes of escaping notice of regulators. The number of banks and companies still dealing with Iran will probably decline sharply on the news the U.S. is going to exact stiff penalties for violations. The allegations against Standard still have to be proved but the NY regulators fired a shot across the bow of anyone else in doing the same thing.

Brent Crude Chart

Even though the earnings cycle has slowed there are still some big names reporting. In terms of reaction there was one tonight that should convince even the hard core traders not to hold over earnings reports. Priceline (PCLN) reported earnings of $7.85 compared to estimates of $7.35. Revenue was a little light at $1.33 billion compared to estimates of $1.36 billion. So far so good but the worst was still ahead. Priceline pulled out the "Europe ate my earnings" excuse and guided lower for the rest of 2012.

PCLN forecasted Q3 earnings would be around $11.60 and analysts were expecting $12.82. Revenue is expected to rise 9% to 15% to $1.62 billion and analysts were expecting $1.8 billion. That compares to revenue that rose +40% in Q2.

After the warning you would expect shares of Priceline to decline in reaction to the news. Priceline shares declined more than $105 on the news. Talk about a dramatic hit to your trading account this was it. Even Apple only declined about $35 when they missed earnings.

Priceline Chart

Disney (DIS) reported earnings after the bell that failed to impress. The company saw a surge in revenue as a result of the Avengers movie with net income that rose +24% to $1.01. Analysts were expecting 93 cents. Revenue at $11.09 billion fell slightly short of the expectations of $11.32 billion. Even with the Avengers movie the studio division still posted a revenue miss at $1.63 billion and well under the $1.77 billion expected. Parks and resort revenue rose +9% to $3.44 billion. Shares fell slightly after the report.

Disney Chart

The market continues to exceed expectations to the upside but on very low volume. Monday's volume of 5.3 billion shares was the lowest non-holiday volume since last August. Today's volume at 6.3 billion was slightly better but still anemic. Despite hitting new three month highs the advancers only beat decliners by less than a 2:1 margin. That is not even slightly bullish.

What we do know is that shorts were near the high for the year just a week ago and that has powered the rally to this point. Now that the indexes are hitting new highs there is new money returning to the market. Nobody wants to miss a breakout.

The S&P rallied to 1407 intraday and closed right on 1401. That magic 1400 closing print should attract even more of the herd back into the market but the next 20 points is going to be VERY tough. The April high was 1422 and the high close was 1419. The May high was 1415 and the high close was 1405. The next higher resistance is the May 2008 high close at 1426. All of those numbers between 1405-1426 are going to be very hard to overcome.

However, at the point we are at in the rally ANY continued creep higher is going to be important and self propagating. You know every bear in the market is shorting these intraday highs once the intraday spike begins to fade. There is no conviction. Shorts from the prior close are squeezed on the open as a result of European headlines and then they try to short it again at the next close.

This can continue until the shorts finally run out of money but every tick to a new high in that very well defined resistance band is going to attract more sellers as well.

S&P Intraday Chart - 10 Min

S&P Chart - Daily

The Dow is the leader of the charge to higher levels but it has monster resistance at 13,279 and the high close from May. Today's intraday high was only 65 points below that high close but the -50 point sell off into the close left us more than 100 points under that key resistance.

These new intraday highs are great for improving investor sentiment but the sell on close orders on the NYSE indicate funds are cutting their positions at these levels.

Until the market rallies into the close there is no conviction and we are only one headline away from disaster.

Dow Chart - 5 Min

Dow Chart - Daily

The Nasdaq broke though a key resistance level at 3,000 and held the breakout despite the selling at the close. Wednesday's open could be tough with the -100 point decline on Priceline but the futures are not showing there is a problem. The Nasdaq futures are only down -1 point, which is amazing, and the S&P futures are flat.

The 3,000 level should be initial support but that remains to be seen. The Nasdaq has rallied +100 points in the last three days so any bout of profit taking could be ugly.

Nasdaq Chart - Daily

The Russell 2000 is NOT confirming the rally. It did move higher today but remains well under strong resistance at 810 and also well under the highs for the year at 840. This has been a blue chip rally. Those are the stocks that funds can exit quickly without losing a lot of money if the market suddenly turns against them.

Until the Russell sentiment improves the rally remains in doubt.

Russell 2000 Chart

The Dow Transports are also NOT confirming the rally. The transports are very weak relative to the Dow and S&P. Dow theory followers will not get overly excited until the transports begin to improve.

Dow Transport Chart

The main problem facing traders is lack of a typical August decline. You can bet that more than a few fund managers are going to be quick on the trigger to sell if it appears the S&P has tagged 1422 on the upside and then heads lower. It is completely conceivable that we could still retrace a lot of our gains since the June lows and if it happens it could come very quickly and without warning. We are only one headline away from a breakout to new highs or a breakdown to lower lows. Without any conviction in the market as evidenced by low volume and weak internals the possibility of a decent dip is very real.

S&P 500 Chart - Daily

I wrote in the weekend commentary: I do NOT think the market is going to go straight up. I believe it will remain volatile and hostage to the headlines but as long as we keep making higher lows we should just plan on buying those lows. If we move higher on Monday then I would expect a temporary failure at 1406 on the S&P and eventually another dip to buy.

I would not be a buyer above 1406 for anything but an intraday trade. I would jump on the train over 1426 but I view that 1406-1426 resistance band as dangerous territory. I am looking for a dip to buy.

Enter passively, exit aggressively!

Jim Brown

Send Jim an email


New Option Plays

Biotech & Healthcare

by James Brown

Click here to email James Brown


NEW DIRECTIONAL CALL PLAYS

Celgene Corp. - CELG - close: 71.44 change: +0.37

Stop Loss: 69.90
Target(s): 75.75
Current Option Gain/Loss: Unopened
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
CELG is a popular biotech stock. The company's recent earnings report was bullish. Management beat Wall Street's estimates and raised their 2012 guidance. The stock has rallied to new multi-week highs and is above all of its key moving averages. There appears to be potential resistance near $72.00. Therefore I am suggesting a trigger to buy calls at $72.25. Our target is $75.75.

FYI: The Point & Figure chart for CELG is bullish with an $81 target.

Trigger @ 72.25

- Suggested Positions -

buy the Sep $75 call (CELG1222I75) current ask $1.01

Annotated Chart:

Entry on August xx at $ xx.xx
Average Daily Volume = 3.4 million
Listed on August 7, 2012


WellPoint Inc. - WLP - close: 56.26 change: +1.62

Stop Loss: 54.40
Target(s): 59.75
Current Option Gain/Loss: Unopened
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
WLP is a healthcare stock. Shares crashed with a big gap down in late July after the company lowered their earnings guidance. The surprise is the lack of follow through lower. WLP has spent two weeks consolidating sideways and building a new base in the $52.50-56.00 zone. Now it's breaking out and there is a chance WLP will try and "fill the gap".

Today's high was $56.34. I am suggesting a trigger to buy calls at $56.50 and we'll aim for $59.75.

Trigger @ 56.50

- Suggested Positions -

buy the Sep $57.50 call (WLP1222I57.5) current ask $1.57

Annotated Chart:

Entry on August xx at $ xx.xx
Average Daily Volume = 4.4 million
Listed on August 7, 2012



In Play Updates and Reviews

Tuesday's Triggered Trades

by James Brown

Click here to email James Brown

Editor's Note:

The market's third day of gains helped trigger several trades.

Our BRCM, CAT, QCOM, and FB trades have all been opened.

Current Portfolio:


CALL Play Updates

BRCM - Broadcom - close: 34.23 change: +0.33

Stop Loss: 32.45
Target(s): 38.50
Time Frame: 4-6 weeks
New Positions: see below

Comments:
08/07/12 update: Our BRCM trade is open. The stock rallied to a new six-week high and hit $34.83. Our trigger to buy calls was $34.75. Unfortunately, BRCM did give back most of its intraday gains. I would be cautious here. Readers may want to look for a new rally past $34.75 before initiating positions again.

- Suggested Positions -

Position: Nov $36.00 Call (BRCM1217K36) entry $1.80

08/07/12 triggered @ $34.75
08/06/12 adjust stop loss to $32.45

Entry on August 07 at $34.75
Average Daily Volume = 10 million
Earnings Oct-23rd
Listed on Aug 4, 2012


Caterpillar - CAT - close: 87.22 change: +0.87

Stop Loss: 84.90
Target(s): 91.50
Current Option Gain/Loss: - 2.1%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
08/07/12 update: Our brand new CAT trade has been opened.

Shares rallied to $88.32 intraday. Our trigger to buy calls was $87.25. I would still consider new positions now or nimble traders could try and buy a bounce in the $86.50-86.00 zone instead.

Earlier Comments:
I do consider this somewhat aggressive. CAT's recent earnings were strong and the company raised guidance but its stock price is probably still vulnerable to negative economic headlines. Furthermore the $90.00 level might be round-number resistance.

- Suggested (SMALL) Positions -

Long Sep $90 call (CAT1222I90) Entry $1.90

08/07/12 triggered @ $87.25

Entry on August 07 at $87.25
Average Daily Volume = 8.6 million
Listed on August 6, 2012


Dollar Tree - DLTR - close: 51.97 change: +0.98

Stop Loss: 49.45
Target(s): 54.50
Time Frame: exit prior to earnings on Aug. 16th
New Positions: see below

Comments:
08/07/12 update: Good news! DLTR displayed relative strength with a +1.9% gain and the stock appears to have broken the six-week trend of lower highs. Today's move looks like a new entry point but more conservative traders may want to wait for a rally past the 30-dma instead.

We do not want to hold over the earnings report on August 16th.

- Suggested Positions -

Position: Long Sept $52.50 Call (DLTR1222I52.5) @ $1.90

08/06/12 new stop loss @ 49.45, adjust time frame to exit prior to Aug. 16th earnings report

Entry on Aug 3rd at $ 51.42 (gap open)
Average Daily Volume = 1.5 million
Listed on Aug 2, 2012


Hess Corp. - HES - close: 49.42 change: +1.14

Stop Loss: 45.35
Target(s): 49.85
Current Option Gain/Loss: Aug47.5c:+121.9% & Sep47.5c: +63.3%
Time Frame: 3 to 6 weeks
New Positions: see below

Comments:
08/07/12 update: HES also displayed relative strength today with a +2.3% gain and a breakout above its 100-dma. Now shares are knocking on potential round-number resistance at the $50.00 mark.

Cautious traders may want to take profits in the August call now since it's up +121%.

- Suggested Positions -

Long AUG $47.50 call (HES1218H47.5) Entry $1.05

- or -

Long SEP $47.50 call (HES1222I47.5) Entry $2.02

07/26/12 triggered on gap open higher at $46.65

Entry on July 26 at $46.65
Earnings Date 07/25/12
Average Daily Volume = 4.3 million
Listed on July 25, 2012


Qualcomm - QCOM - close: 61.34 change: +1.21

Stop Loss: 57.75
Target(s): 64.50
Time Frame: 4-6 weeks
New Positions: see below

Comments:
08/07/12 update: Our QCOM trade is now open. Shares hovered under the 100 and 150-dma this morning before finally pushing higher midday. The stock hit our trigger to buy calls at $60.51. If you missed it then consider waiting for a dip near $60.50 as your entry point.

- Suggested Positions -

Position: Oct $62.50 Call (QCOM1222J62.5) entry $1.70

08/07/12 triggered @ 60.51

Entry on August 07 at $60.51
Average Daily Volume = 1.5 million
Listed on Aug 4, 2012


PUT Play Updates

Akamai Technologies - AKAM - close: 36.34 change: +0.52

Stop Loss: 36.75
Target(s): 32.00
Time Frame: 2-4 weeks
New Positions: see below

Comments:
08/07/12 update: The U.S. stock market has produced a widespread three-day rally. I am not surprised that AKAM is not cooperating with us. Shares are slowly inching higher and displayed some relative strength today with a +1.4% gain. If there is any follow through tomorrow then odds are good we'll see AKAM hit our stop loss at $36.75. More conservative traders may want to exit early now.

- Suggested Positions -

Position: Long Sept $34 PUT (AKAM1222U34) @ $1.53

08/02/12 triggered @ $34.85

Entry on Aug 2nd at $ 34.85
Average Daily Volume = 3.0 million
Listed on July 30, 2012


FB - Facebook - close: 20.72 change: -1.20

Stop Loss: 23.25
Target(s): 17.00
Time Frame: 2-4 weeks
Current Option Gain/Loss: + 3.4%
New Positions: see below

Comments:
08/07/12 update: Our Facebook trade is now open.

The initial push higher this morning failed and the stock appears to have created a one-day bearish reversal pattern. Our trigger to buy puts was hit at $20.95. I would still consider new positions now or if you're feeling cautious then wait for a new low under $19.80. We have a stop loss at $23.25. More conservative traders could tighten their stop closer to today's high instead (22.45).

Earlier Comments:
Facebook has turned into the stock everyone loves to hate. Facebook has 674 million shares outstanding as of Friday. On August 15th another 268 million shares will see their lockup expire and become available for trading. That is 40% additional shares. If you were an investor or employee and you watched your shares decline from $35 to $20 ahead of your lockup expiration you are probably just waiting for an opportunity to sell. Another factor is that taxes are due on the awarded shares regardless of whether they are sold. That means employees have a big tax bill and they have not been able to sell those shares to pay the taxes. That is an additional incentive to pull the trigger on at least part of their position on August 15th.

Facebook has hundreds of detractors and they seem to be racing each other trying to put a lower price target on the stock. Mark Hulbert was on CNBC on Friday with a $13.80 price target based on a bunch of different metrics.

Facebook also has the various lawsuits over the IPO including the valuation and the various claims made about users and revenue in the days leading up to the IPO. There are plenty of clouds and no real catalysts to pump up the stock.

Facebook said expenses grew by 60% in Q2 and they would grow faster in Q3/Q4. That means earnings will decline.

I am recommending a September option with plans to exit (some time) after the August 15th share lock up expiration.

Suggested Positions

current position: Sept $20 PUT (FB1220U20) entry $1.45

08/07/12 triggered @ 20.95
08/06/12 adjust entry trigger to $20.95

Entry on August 07 at $20.95
Average Daily Volume = 80.0 million
Listed on August 5, 2012


iShares Russell 2000 ETF - IWM - close: 79.94 change: +0.72

Stop Loss: 81.25
Target(s): 75.75
Time Frame: 2-4 weeks
New Positions: Yes, see below

Comments:
08/07/12 update: Hmm... what should we do with the IWM here? Today's gain outperformed the big cap indices. Plus, today's rally looks like a bullish breakout above the five-week trend of lower highs. Yet we still don't trust the move here.

Aggressive traders may want to consider buying calls on a rally past today's high ($80.57). We are actually expecting this rally to fail. Tonight we're adjusting our trigger to buy puts up to $78.90.

Earlier Comments:
We are reinitiating the IWM put because I think the short squeeze gains are unsustainable. The Russell has the worst chart of the major indexes and has rebounded the least on a relative basis.

Entry Trigger: buy puts at $78.90

- Suggested Positions -

Buy Oct $78 PUT (IWM1220V78)

08/07/12 adjust trigger to buy puts up to $78.90

Entry on Unopened XX at $ XX.XX
Average Daily Volume = 60.0 million
Listed on August 5, 2012