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Daily Newsletter, Saturday, 10/20/2012

Table of Contents

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

Market Wrap

Week Finishes Positive But Opex Friday Provided a Little Worry

by Keene Little

Click here to email Keene Little
Normally opex Fridays are boring why-turn-your-broker-screen-on kind of days. This one caught a lot of traders flat footed thinking they could rest into opex. The selloff had many scrambling to protect positions.

Market Stats for Friday

Market Stats for Past Four Weeks and Year-to-Date

I'll be filling in for Jim this weekend (and next). If I say something you don't like, blame it on him (wink). This weekend's report is a little long, which I apologize for since time is a precious commodity, but I wanted to cover a few more things than I get time for during the week.

As bearish as Friday was, the week ended positive for most sectors and broad indexes. The major exceptions were the tech indexes, with NDX down -1.5% for the week, thanks to Friday's -2.4% drubbing. YTD though you can see the tech indexes have been the leaders to the upside. The S&P 500 is up +14% and one factor helping the rally this fall is the fact that many fund managers are not up the same amount. Since their performance is generally measured against this index there's been a lot of scrambling to buy dips in hopes of at least matching the overall performance. Bonuses, if not jobs, rest on their ability to get at least on par with the market.

Keep in mind though that this performance anxiety can work both ways. If I as a fund manager am showing only an +8% gain for my portfolio, which is probably a good average of what most funds are currently showing, I can hope for some good buy entries and beat out the S&P's gains or I can be sure to get out of positions before the market declines and thereby protect the gains that I have. For the latter case I would be hoping the S&P will decline closer to the gains I've locked in. Friday's selling might have been this latter scenario where fund managers are quick on the sell button in hopes of keeping the gains they have. And when thousands of fund managers find themselves in the same boat and thinking the same way we could find that it will cause more volatility than normal in the remaining weeks of this month and into the end of the year.

In the table above I highlighted the numbers for the Transport and SOX (semiconductor) indexes, which are both a bit worrisome for the bulls. These two sectors are good reflections of the economy (shipments of inventory/raw materials/finished products is indicative of economic health and semiconductors are found in a wide variety of products today) and their relative weakness is another sign that the economy is not doing as well as the stock market's performance would have us believe. Oil's decline of -9% fits into the same category -- a slowing economy demands less oil and the price decline reflects that.

Highlighted in green is the Housing sector (HGX is the index) to note the huge outperformance of this sector this year. Even Friday's decline in the broader market barely touched this sector, which was down only -0.6% on Friday. Its price pattern argues for higher prices before the year ends. Of course it was one of the most beaten-down sectors in previous years and it's not unusual to see a strong bounce off a very oversold low. But is the rally real or is it an oversold bounce? We'll look a little more closely at the sector in this weekend's wrap.

The big news for the week, at least after Thursday, was GOOG's big earnings miss and the inadvertent early release of its report in the middle of the day on Thursday (GOOG blamed its publisher for the mistake). The Thursday smackdown led to further selling on Friday, especially in the tech indexes. Friday's decline was led by computers, telecom and biotech, which are three of the higher-beta (more speculative) sectors. Going back to my previous thoughts on fund managers, those managers trying to play catch-up might be using the higher-beta sectors but are especially cautious with them and ready to hit the sell button at a moment's notice to ensure they avoid the downdrafts in the more volatile sectors.

There was some volatility surrounding Spain's bailout. By the end of the week the EU leaders confirmed that Spain would get some help but there were no specifics on timing. Spain is dancing around the issue of needing a bailout but not wanting to commit to the ECB's requirements for it. They also want Italy to join them in the request. It's possible we're going to find out that Mario Draghi's bailout plan sounds great on paper but is going to be very hard to implement. Making money available is one thing but the countries will need to agree to the requirements for the money. It might not be much different than the many other programs that the Fed has tried -- you can lead the horse to water but you can't make him drink.

One of the pieces of good economic news in the past week was the data on housing starts, which exceeded all expectations, showing an increase to an annual rate of 872K. That was the fastest clip since July 2008 and certainly much better than the median forecast of 770K. Building permits, at 894K, were also up much better than the expected 815K and August's 803K. Existing sales were not as robust and had declined to 4.75M from August's 4.82M but roughly in line with estimates. There was also good news about the inventory, which was down 20% from a year ago. This helped median prices climb by 11%. An improving housing market is certainly good news for our economy. The big question of course is whether it can continue or if instead it's somewhat of a dead cat bounce. To help answer that question we of course go to the charts and I'll be looking at the housing index, HGX.

Looking over the HGX charts, I'll start up high (monthly) and work lower (daily) to show what I'm watching. If you're interested in trading this sector a good ETF to use is XHB since it has good daily option volume and OI and therefore tight spreads. It's also relatively cheap, around $26, to trade it instead of its options.

If you talk to market analysts I think you'll get almost unanimous agreement that the health of the housing sector will drive our economy. So much is wrapped around the housing sector that even the Fed has made it their priority and one of the primary reasons for keeping interest rates so low. Whether it's the construction industry, and the hundreds of thousands of jobs related to the housing market or the associated sectors such as furniture, appliances and the multitude of purchases made for homes (and all the jobs associated with those sectors) housing drives our economy. And therefore measuring the health of this sector is important to measuring the potential health of our overall economy.

The housing sector has had a very good year and in fact 4 years since the bottom in March 2009 (although not so great in the middle years in 2010-2011). If you had bought this sector at the March 2009 low you would have tripled your investment at the current high. Unfortunately for those who were in this sector at its 2005 high you have not yet seen even a 50% recovery of your loss, which is shown on the monthly chart below. But it's getting close to the 50% retracement near 174 with last Thursday's high at 169.56, which was a minor new high above September's, one of the first sectors to accomplish that.

PHLX Housing sector, HGX, Monthly chart

The bulls are very happy to see HGX break its downtrend line from the 2005, 2006 and 2007 highs, currently near 155.50. As is more readily visible on the weekly and daily charts below, not only was the downtrend line broken in September but it was back tested twice and held. Thursday's new high is a bullish sign from this perspective, plus the fact that the sector held up well while the broader market sold off. But as I'm depicting, I'm thinking the break of the downtrend line could turn into a head fake break (not that this market has ever done anything like that before).

The impulsive decline from 2005 has been followed by a 3-wave correction from the 2009 low. While it's always difficult trying to figure out how high a correction might go in this case, the larger pattern calls for another leg down, which fits in the bigger secular bear market picture. The 50% retracement near 174 makes for a possible upside target, which has some shorter-term price objectives correlating with it.

Looking at the bounce off the 2009 low, the weekly chart below shows the corrective pattern for the bounce, which is what keeps me thinking bearish longer term. I'm bearish the market not because I'm a perma-bear (my nature is exactly the opposite) but because price patterns like these tell me it's too early to be thinking longer-term bullish. When I turn bullish for the next bull market (I had turned bullish in late February 2009) I suspect I will again be a lone voice. At any rate, the leg up from October 2011 would have two equal legs up at 173, only a point away from the 50% retracement. Slightly higher, near 180, is the top of a parallel up-channel for the bounce off the 2009 low.

PHLX Housing sector, HGX, Weekly chart

Once the current rally leg from October 12th finishes it should be the completion of the leg up from October 2011 which should finish the bounce correction off the March 2009 low. The key level for the downside is therefore the October 12th low near 155 -- a break below that should lead to a much stronger decline over the coming year. In the meantime, the shorter-term pattern, shown on the daily chart below, shows a parallel up-channel for the rally from June, the top of which is currently near 180, the same as the larger up-channel on the weekly chart. For the 5-wave move up from June (for wave-c) the 5th wave would equal 62% of the 1st wave near 173, the same projection for two equal legs up from October 2011. The 5th wave would equal the 1st wave near 184. Based on the monthly, weekly and daily charts, retracements, projections and trend lines/channels, I think a good upside target zone is 173-184 before the end of the month. But a drop below 155 would tell us the top is already in place.

PHLX Housing sector, HGX, Daily chart

If I'm correct on the longer-term picture for the housing sector it's confirming the idea that we're not finished with the secular bear market yet. Considering the secular trends tend to run 16-18 years, and if we consider the end of the last secular bull as 1999 (about a year before the broader averages topped), we should be looking for 2015-2017 for the end of the bear. Many time studies point to mid-2016, which means another four years of potentially volatile price action before we can start looking for generational opportunities on the long side.

As Todd Harrison often reminds his readers on Minyanville, it won't be a pleasant journey but we've got to get through it to get to the other side and for traders who can see and trade both sides, there's some good money to be made in trading vs. buy-and-hold. If you're comfortable long only then at least getting into cash instead of riding a bear market down will put you ahead of millions of investors.

For long-only traders it's not time to exit the market yet. We have no confirmation yet that the uptrends are at risk. We've got longer-term and shorter-term up-channels still intact and moving averages supporting the bulls. What I try to do with my charts is show where I think the market could reverse and what the key levels are. Breaking a key downside level, depending on your trading time frame and what chart you're looking at, will tell you when to exit long positions and possibly look to trade the short side. Traders who want to trade both directions are always looking for reversals -- it's a way to constantly challenge ourselves as to where the trade could go wrong and just as importantly, where to switch the direction of our trading (trying to stay with the direction of least resistance). Knowing what kind of trader you are will help you decipher my charts to help you in your trading. With that let's move to the broader averages and some other sectors.

After an a-b-c pullback pattern from the September 14th high it was looking like a good setup for a breakout once we got this past week's rally. That was until Friday's selloff. So far price remains inside a bull flag pattern (or a slightly expanding triangle), shown on the daily chart below. But Friday's sharp decline was not "normal." I know, define normal in this whacky market. What the bulls must do here is immediately rally the market on Monday. As depicted with the green lines, there is still the potential for a higher 5-wave move up from the October 12th low but that potential would be negated with a drop below 1425. I show the key level at 1421, the bottom of the consolidation pattern because there's the possibility it will complete a larger corrective pullback pattern with one more touch of the bottom. But below 1421 I would have a very difficult time justifying why I would want to be long the market and every reason to be out or short.

S&P 500, SPX, Daily chart

Key Levels for SPX:
- bullish above 1471
- bearish below 1421

Thursday's high may have been a truncated finish (no new high above September's), which is common in a weak market that has been held up too long without strong support underneath. Sound familiar? A minor new low on Monday around 1426 would complete an impulsive wave count to the downside and that would suggest we'll be looking for a bounce in the early part of the week and then get ready to get short. A high bounce on Monday would have me thinking long. Needless to say, it's a bit tricky in the middle with these reversals of reversals (also a common topping pattern in this market -- each major top has finished similarly, leaving what looks like a bullish continuation pattern and then breaking down instead, catching too many traders leaning the wrong way).

S&P 500, SPX, 60-min chart

Do you remember the Gann Square of Nine chart that I showed two weeks ago? Here's the link to the larger version of the chart below: Square of Nine chart. I had made reference to the blue vector at the top of the chart, crossing through the March 2009 low at 666/667, and pointing out that 1429/1430 was an important "vibration" off the March 2009 low (6 squares up from that low). Friday's low stopped at 1429.85, which might have been purely coincidental (wink). The bulls want to see that act as strong support to launch the next rally leg. Price has already achieved the level 90 degrees to that vector, at 1467, and the next level of importance is 180 degrees, which can't be seen at the bottom of the chart but it's at 1505/1506. That happens to be only slightly above the top of a parallel down-channel for price action since the 2002 low and 2007 high that I've shown previously on the weekly charts. If the bulls can do their thing next week and carry it into the end of the month that's the upside target we'll be looking for.

Gann Square of Nine chart

The DOW's bull flag pattern is shown on its daily chart below and similar to SPX it could tolerate another test of the bottom of the flag, near 13250 but any lower than that and I'll believe much more strongly in the bearish wave count calling for a 3rd wave down that started from Thursday's high. That would have the DOW dropping quickly to the 13K area to test its 200-dma and uptrend line from October 2011. Following the test of its May 1st high, at 13338, as well as its 50-dma and uptrend line from June, Friday's test is worrisome for bulls -- repeated tests typically lead to failure, especially when support like this is retested so soon after the first test. Whereas SPX was closed on its 50-dma (almost to the penny), the DOW closed a few points below its 50-dma and uptrend line.

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- bullish above 13,670
- bearish below 13,250

With the new low for NDX it has a 5-wave move down from September's high and it's possible we'll be looking for a bounce correction to start soon. But with the small overlap between the 4th and 1st waves there is the potential for it to be a 1-2, 1-2 count to the downside (as labeled on the chart below) and Friday's decline is the start of the 3rd of the 3rd wave down. Since this move typically has a big gap in the middle of it we need to remain aware of the potential for a very strong decline in the coming week. That's not a prediction but is a warning since it won't be a good time to be long. If price slices through the H&S price projection and its 200-dma at 2647 it would be a strong signal that we could get a little mini crash before it finds a bottom (such as the June low before the end of the month). Again, not a prediction, just a warning. The break of its uptrend lines, from June and more importantly from March 2009, needs to be reversed quickly by the bulls.

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- bullish above 2785
- bearish below 2647

AAPL has been one of the leaders to the downside, following its leadership role to the upside into September's high, and has certainly had an outsized influence on NDX. Its H&S topping pattern, the break of the neckline and then last week's failed back test of the neckline were the signs that bulls needed to heed. AAPL was shouting from the mountain top (the one with bearish divergence against the August high) that it was ready to take a rest and descend. It's now approaching potential support near 600 and considering its earnings announcement is scheduled for this coming Thursday (after the market closes), it could find that level to be either support, or perhaps resistance if it's first broken early in the coming week.

The price objective out of AAPL's H&S topping pattern is to about 600. Slightly lower on Monday, near 596, is its 62% retracement of the May-September rally as well as its uptrend line from March 2009 through the November 2011 low. This is a very important trend line for the bulls to defend and I'd be very surprised if it broke on the first test. Even the wave count supports a bounce soon -- it has a 5-wave move down from September and should therefore be ready for a larger bounce to correct the move down. But, if the move down from September is a 1-2, 1-2 wave count, as discussed with NDX, then its uptrend line will be sliced like a hot knife through warm butter, as well as its 200-dma near 584 on Monday. I would not want to bet on that kind of downside move but remain aware of the potential if you try to catch a falling knife and buy support at 596-600.

Apple Inc., AAPL, Daily chart

With the bottom of the RUT's bull flag pattern and its uptrend line from June coinciding near 815 on Monday, that's the level for bulls to defend. Otherwise a break below 815 would elevate the bearish wave count that's similar to that discussed for NDX -- a 1-2, 1-2 count to the downside that calls for a screamer of a selloff in the coming week. But the bulls are not dead here and in fact it's a good buying opportunity (assuming it doesn't gap below support on Monday morning) for at least a bounce off support. At least your risk is small -- just be sure to honor your stop if it's hit.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- bullish above 854
- bearish below 815

Bonds and stocks continue to have an inverse relationship and with money running out of stocks Friday it ran into the perceived safety of Treasuries. The Fed would of course like to see Treasury bonds held up so that rates stay low. There's a lot of government debt yet to be funded and as long as rates stay as low as they are it will seem like almost free money. When yields start climbing higher, and they will likely do so next year at the latest, it's going to get a lot more expensive for the government to fund its debt. It's exactly the same problem Greece, Spain and others are finding. It doesn't matter how the debt problem occurred (Spain for example didn't spend wildly but their housing crash has caused a much larger problem than it did in the U.S.), it only matters how it's going to be paid and how expensive it will be.

The day of reckoning will come for the U.S. when the market will insist on higher yields to compensate for the added risk but as long as Treasuries are perceived as a safe place to park money we'll see money flow into them and the price pattern, as I interpret it currently, has the bond rally continuing through the rest of this year.

The weekly chart of the 30-year bond yield (TYX), which is of course inverse to price, shows a descending wedge pattern for the decline from early 2011. The rally into last Thursday's high stopped at the downtrend line from April 2011 and Friday's sharp decline (although that can't be seen on the weekly chart) may be the start of the next leg down. A drop below 2.66% would confirm the downside pattern whereas a break above the September 14th high at 3.108% would be a bullish breakout (which would be a sign that the Fed is losing control of the bond market because inflation is moving higher than they want).

30-year Yield, TYX, Weekly chart

If bond yields head higher (bond prices lower) it could be helpful to the stock market initially. Money rotating out of bonds and into stocks would help a rally and the perception that we're going to have higher inflation would have many investors wanting to be in stocks (and gold) rather than bonds. But investors would have to be careful about what they wish for. Other than the pain of high inflation, data shows that stocks do best when inflation is running at about 2-3%. Below that, and just as significantly, above that range it has been shown that stocks underperform. If bonds start selling off and inflation gets out of control to the upside we could see bonds and stocks get back into synch to the downside.

One other reason why I don't believe bonds have much higher to go, except perhaps into the end of the year, is that we're at the end of an important long-term cycle for bonds. The cycle runs approximately 60 years peak to peak and the last high in yields was 1982. The trough is of course mid-cycle so 30 years takes us to where we are now. We should be ready to start a 30-year cycle where bond yields will head higher again. In other words, investments in bonds have run their course.

This is important for long-term investors who may have moved a lot of their money out of stocks and into bonds over the past several years, which a large majority of retail traders have done, especially in their retirement accounts. Based on the chart above we'll know when it's time to get out of bonds and I'll be sure to update this as the pattern develops. But be thinking about this and have a plan for getting out of bonds once they've confirmed a bottom is in. And if you're in anything other than U.S. Treasury bonds, especially if you're in high-yield (junk) bonds or municipal bonds that you don't know (such as in a municipal bond fund), it's not too early to start exiting them. They will be most at risk for a fast price decline.

If stocks are also declining it's going to be a very difficult investment environment where cash will be the safer bet (except that high inflation will obviously not be good for savings accounts). And no, I don't think gold will hold up in this kind of environment -- it will likely be a time when all asset classes decline. We'll have time to figure this out as it happens.

Considering the selloff in the broader market and some telltale sectors, the financials held up relatively well. I can look at the sideways consolidation for BKX since its September 14th high as a bullish consolidation inside a sideways triangle. That pattern suggests another leg up (and the final one since triangles point to the final move) and a price projection to 55.74 by mid-November looks very possible. But as with the other indexes, the bulls need to step back in now. Any further drop in the banks is going to mess up the bullish pattern and quickly turn it bearish. There are multiple support levels just below the current price but if they all fail and BXK drops below 48.80 it will be lights out for the bulls. The rally from June would then be complete and that would complete a longer-term bounce correction.

KBW Bank index, BKX, Daily chart

While bank stock prices are doing well we need to keep in mind that it's because of false propping by the Fed. With the aid of smoke and mirrors investors are led to believe banks are healthier than they've ever been and besides, the Fed is not going to let them fail. I suspect the next banking crisis (and we will have one in the next year or two) will be met with much less willingness to bail them out. Too big to fail for the four largest banks (JPMorgan Chase, Citigroup, Bank of America and Goldman Sachs) will become too big to bail when you consider the level of derivatives these banks are employing. In an era of abnormally low rates of returns the banks have been employing derivatives to boost their earnings. And the problem now is far worse than it was back in 2008.

The Office of the Comptroller of the Currency sends out quarterly reports that include derivative exposure by banks (and the difficulty in reporting this is one of transparency -- the problem is probably even worse than is being reported). The latest report, for the 2nd quarter, showed $222.5 trillion (that's a 'T' not a 'B') of notional derivatives held by insured U.S. banks and savings associations. This is up from "only" $203.5 trillion from the 2nd quarter of 2009. And this makes banks safer?

Sheila Blair, the former head of the FDIC and the only one who seemed to have a grasp on how to handle the problem with the banks (but was ignored by Bernanke, Paulson and Geithner at the time), is now the Chairperson of the System Risk Council and she recently sent an email stating she understands some derivatives are ordinary hedges but says the "sheer magnitude, complexity and opacity creates an almost impenetrable web of interconnections that makes our global financial system vulnerable to systemic shocks." She is strongly advising federally insured banks get rid of all risky derivatives. Anyone care to take bets how quickly that will happen or that it will even happen at all before the next crisis? My hope is that the four major banks are completely dismantled during the next crisis, including the firing of all top bank executives (without a golden parachute for them -- they've raped and pillaged the public enough). It's the only way the problem will truly get fixed but it's going to be a very painful and scary time for the markets when the next crisis develops.

Moving over to the Trannies, it's almost getting comical watching its pattern. Looking at the daily chart you could be forgiven for thinking you're looking at a tick chart in the middle of a choppy day. As I had mentioned Wednesday night, I thought the TRAN would make a stab up towards the 5200 area to tag its downtrend line from July 2011 and a price projection at 5198 where it would have two equal legs for an a-b-c bounce off the September 28th low. Thursday's high was just shy of 5193 and Friday it got slammed with the rest of the market. Now the overlap of the October 5th high means it's not an impulsive move higher from September 28th and the a-b-c bounce has a high likelihood of being retraced. For obvious reasons it's hard to get a bead on direction until price breaks out of this congestion zone but the overall pattern is not bullish. Of course the primary message from the transportation average is that it's not supporting the DOW and we remain on a Dow Theory sell signal. It's just a question of when the broader averages will let go of their perch.

Transportation Index, TRAN, Daily chart

On Wednesday I said the dollar bulls needed to see an immediate bounce on Thursday and it did. It then continued higher on Friday and is again attempting to break its downtrend line from July and got back above its short-term uptrend line from September. But it got stopped at its 20-dma and could go either way from here. We need to see a break above 80 or below 79 to have price showing the way. I believe the rally will continue but price is the final arbiter.

U.S. Dollar contract, DX, Daily chart

Gold has now dropped down to its 50-dma at 1720 and the price pattern looks good for a bounce in the coming week, perhaps back up to its 20-dma, currently near 1764, before heading lower. If 1720 doesn't hold then we'll probably see a drop down to the 1700 area. Keep in mind that the longer-term pattern calls for gold to drop below 1530.

Gold continuous contract, GC, Daily chart

Oil's choppy pattern in October leaves me wondering if we'll get another leg up for the bounce off the October 3rd low or if instead it will simply continue lower right from here. I think if the stock market heads lower from here oil will likely follow. If the stock market continues to rally into the end of the month I think oil will continue to hold up/push a little higher for its bounce.

Oil continuous contract, CL, Daily chart

It will be quiet on Monday and Tuesday as far as economic reports go. It will be Wednesday before we get some meaningful reports, including new home sales data and the next FOMC rate decision and words of wisdom from our fearless Buzz Bernanke. If the market declines further on Monday and Tuesday I suspect he'll arrive at the meeting in his fully loaded helicopter, ready to spread goodies to all his good little children in the banking industry.

Economic reports and Summary

Friday's decline looked more bearish than I would have expected if we're to get more highs into the end of the month. Following the impulsive rally from October 12th up to Thursday's high we should have gotten a smaller pullback to correct that rally before heading higher again. That's what the bullish pattern called for. The bearish pattern suggests a much more difficult time ahead for the bulls. If the market doesn't start a rally immediately on Monday but instead breaks down we could see a hard decline over the next few days before it finds some kind of support to consolidate before dropping lower again (stair-step pattern lower).

Buying the "dip" could work Monday but only if the bulls step back in quickly. Because of the downside risk I would keep stops tight on any long entry. If the market does break down you'll want to get short (scary entry) and hang on. I know I don't need to tell you how difficult it is to short a gap down but the bearish pattern suggests that will be the way to go. Or just sit tight and let the move happen and then look to set up for a short play later in the week. We're at an inflection point here and how Monday goes will likely point the way for the rest of the week.

Good luck and I'll be back with you on Wednesday, by which time we should be able to get a good sense for how the rest of month will play out.

Keene H. Little, CMT

In the end everything works out and if it doesn't work out, it is not the end. Old Indian Saying


Index Wrap

A Tale of Two Markets

by Leigh Stevens

Click here to email Leigh Stevens
THE BOTTOM LINE:

The Nasdaq is seeing a full-blown downside correction, whereas the S&P and Dow, not so much! It looks like some more to come all around but the tech-heavy Nasdaq should be weakest still. I will note however, that the Nas Composite (COMP) has already touched my prior week's forecasts for retreat objectives as COMP got to 3000.

Speaking of the Composite, Nasdaq indices reversed this past week in areas they should have sailed through. Especially so since the S&P and Dow had previously tested and held key technical supports implied by up trendlines and at the important 50-day moving average.

However, Nasdaq pointed to the downside reversal that it got socked with by failing to penetrate the key 21 and 50-day moving averages. You can compare the COMP daily chart here to the S&P which is shown next and starts my regular stock index commentaries.

COMP rebounded into mid-week, which was the short-term oversold rally that was due. Note the area that the Tues-Wed-Thurs highs could not penetrate: the two moving averages. This suggested that the S&P 500 (SPX) wasn't going to gain further traction either. SPX didn't fall as much as the two markets occasional divergence continued.

The Thursday Composite Close was a 'weak' two-day bearish reversal. Friday then brought COMP's decisive downside penetration of the up trendline and a fall all the way to the pivotal 3000 level. Thanks, Google!

My underlying perception of where things stood technically I summed up last week as the following:

"It's quite common for a market correction to have a down leg (part 'a'), a rebound ('b'), followed by a 'c' wave decline that carries further than the first down leg."

I also suggested (last week) that:

"Near-term the major indexes are oversold and it won't be surprising to see a rebound that develops in the early part of the coming week."

We got the rebound and another part of an expanded down leg but it remains to be seen if some of the other targets I was playing with are reached; e.g., 2950 in COMP, the 1400 area in SPX; back to the low-13000 area in the Dow. The Nas 100 (NDX) could fall to 2660-2650 or to the low-2600's. These are sort of 'maximum' pullback targets based on the current chart picture. The Market is still in a long-term or primary uptrend. But October is well-known for some gusts and gales, especially after a summer rally.

MAJOR STOCK INDEX TECHNICAL COMMENTARIES

S&P 500 (SPX); DAILY CHART:

The further dip below the S&P 500 (SPX) up trendline is bearish and suggests a loss of upside momentum that will continue to be felt ahead. The bulls best case forward would be for SPX to rebound quickly back above its up trendline and the 21-day moving average; a move above 1445 on Monday would do that.

The chart pattern suggests further weakness is in the cards. SPX would be doing its bullish best to hold above its 50-day moving average; a moving average that portfolio managers take note of.

Near support looks like 1420, extending to the 1400 area and an area where SPX might reach a 'fully' oversold extreme again. Such these low points have been few and far between with the 13-day RSI indicator. Oversold RSI readings have been associated with correction LOWS and subsequent upside reversals. Near resistance is at 1445-1450, then in the 1470 area.

Bullish sentiment has been falling; no surprise there. The level of bearishness that suggests the seeds of the apparent opposite hasn't yet been reached. Traders are cautious but still not overly bearish as the US economy continues to do better.

S&P 100 (OEX) INDEX; DAILY CHART

I thought last week that the S&P 100 (OEX) had turned near to intermediate-term bearish. The technical 'proof' of that came with OEX's fall to below its up trendline on Friday. Over time I think there will be some further weakness based on the possible topping pattern that's been traced out for a few weeks now as OEX has drifted sideways to lower, without enough buyers to push the Index above persistent resistance in the 670-676 zone.

Unless the big cap S&P 100 can get back above its up trendline intersecting currently in the 660 area, more weakness ahead is suggested. Technical support looks to begin at 650 and extend to 642-640.

Resistance at 660 extends to 665 on up to prior recent highs in the 672 area.

THE DOW 30 (INDU) AVERAGE; DAILY CHART:

The Dow 30 (INDU) turned bearish with its decline under its 21-day moving average (not shown) with the Average then falling below the pivotal 50-day moving average by week's end. If the Dow doesn’t' rebound soon and to above 13400, more weakness looks likely.

Initial resistance is seen around 13400, then next in the 13600 area.

Technical support, below recent INDU lows around 13330, is highlighted (green up arrow) in the 13200 area. Fairly major support begins in the 13050-13000 area.

12850, if reached, would represent a 50% retracement of the June-Sept advance. I'm not currently expecting that much of a pullback but a decline to this area still only represents a 'nominal' correction.

There are only around 7 Dow stocks that I'd still be comfortable owning based on still-strong long term uptrends; e.g., HD, JNJ, KFT (probably), MRK, PFE, TRV and WMT. That's a small number to power the Dow to more than a short-term rebound in the coming week.

NASDAQ COMPOSITE (COMP) INDEX; DAILY CHART:

The Nasdaq Composite (COMP) chart turned 'suspect' so to speak when the Index failed to get back above 3100 for more than a day. COMP's chart turned bearish on its downside penetration of its up trendline that intersected in the 3055 area. This break of technical support now suggests that 3055 has 'become' a first resistance hurtle. 3100 continues to look like the key level as a move above this pivotal level is needed to suggest the potential for a bullish turnaround in the next 1-2 weeks.

Near support is at the psychologically important 3000 level, then at 2962, extending to 2950.

We're seeing what I think is an intermediate-term correction only. It would take a decline to below the 2800-2740 lows of June to suggest that the long-term trend had turned bearish.

NASDAQ 100 (NDX); DAILY CHART:

The Nasdaq 100 (NDX) Index chart is bearish. A key technical development was NDX's decisive downside penetration of its up trendline. NDX would retrace 50% of its June-Sept advance at 2660. It took 15 weeks to take NDX up 420 points, but only about 4 weeks to give (approaching) half of that back. Old trader's saying: "they slide faster than they glide!".

I've calculated support in the 2660 area, extending to 2610-2590. If the Index got back to the 2600 area, I'd favor ATM calls on a risk to reward basis; thinking upside on a bounce back rally at 200 points versus a risk of 50 points, to 2550.

Near resistance is at 2736, back at the previously pierced up trendline, with next resistance suggested around 2780, up to 2800.

The NDX daily chart pattern looks like a pretty sizable top. I was seeing that with Google (GOOG) as its rally traced out a parabolic arc; when GOOG's monster rally put its price chart 'vertical' within a circular arc, it was look out below per the chart illustration in my Trader's Corner article posted 9/25/12

NASDAQ 100 TRACKING STOCK (QQQ); DAILY CHART:

The Nasdaq 100 tracking stock's (QQQ) recent low formed a 'final' up trendline so to speak as one with the lowest (upward) slope. If QQQ has perhaps bottomed, I'd anticipate that the stock has reached support already; i.e., at 65.6, with more significant technical support likely if QQQ got to 64.0

Near resistance is suggested in the 66.5 area, then at 68.

As is the pattern with a stock representing the 100 companies in the Nasdaq 100 Index, volume JUMPED on the recent weakness as holders of the proxy stock sold fast and furiously. Have we seen a so-called volume climax, suggesting QQQ has hit bottom for now? Hard to say. I'm watching as to whether there's a bounce from the 65.6 area. There 'should' be, but stay tuned on whether 64 is instead a further downside possibility.

RUSSELL 2000 (RUT); DAILY CHART:

The Russell 2000 (RUT) chart remains within its broad uptrend channel on the pullback to date. Very key support is at hand, in the 820 area. A move well under 820 suggests further weakness to come such as to 800 at a minimum. In the 800 area, RUT would complete a 50% retracement of its early June to mid-Sept advance.

RUT's intermediate-trend is up. A break down below the low end of its uptrend channel turns the chart bearish. A Close below 768 would turn all but the long-term trend bearish.

Near resistance is at 832, extending to 843.



GOOD TRADING SUCCESS!


New Option Plays

Cable & Specialty Chemicals

by James Brown

Click here to email James Brown


NEW DIRECTIONAL CALL PLAYS

Time Warner Cable - TWC - close: 99.70 change: -0.61

Stop Loss: 99.15
Target(s): 104.50
Current Option Gain/Loss: Unopened
Time Frame: Exit prior to the Oct 31st earnings report.
New Positions: Yes, see below

Company Description

Why We Like It:
TWC provides cable, voice and Internet services in the U.S. The stock has been trending higher with a bullish pattern of higher lows and higher highs. Shares are currently testing round-number, psychological resistance at the $100 mark. Nimble traders might consider trying to buy a dip near its rising 20-dma and use a very tight stop loss. I am suggesting we open small bullish positions on a breakout higher. We'll use a trigger at $100.60. Our target is $104.50. This is a short-term trade. We want to exit prior to the earnings report on October 31st.

Trigger @ 100.60 *Small Positions*

- Suggested Positions -

buy the Nov $100 call (TWC1217k100) current ask $2.40

Annotated Chart:

Entry on October xx at $ xx.xx
Average Daily Volume = 1.9 million
Listed on October 20, 2012


NEW DIRECTIONAL PUT PLAYS

The Mosaic Co. - MOS - close: 53.97 change: -0.72

Stop Loss: 55.05
Target(s): 48.00
Current Option Gain/Loss: Unopened
Time Frame: 3 to 6 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
MOS is probably best known for manufacturing phosphates and potash for agricultural chemicals and fertilizers. The fertilizer industry has seen its stock prices trend lower after rival Potash Corp. (POT) recently cut its earnings forecasts.

Aggressive traders may want to buy puts now with the close under $54.00 in MOS. The Oct. 15th low was $53.53. I am suggesting a trigger to buy puts at $53.45. If triggered our target is $48.00 but I will warn you that the $50.00 level might be temporary support. I also want to caution you that MOS' rival POT reports earnings on Oct. 25th and POT's results could definitely influence trading in MOS.

Trigger @ 53.45

- Suggested Positions -

buy the NOV $55 PUT (MOS1217w55) current ask $2.19

Annotated Chart:

Entry on October xx at $ xx.xx
Average Daily Volume = 3.9 million
Listed on October 20, 2012



In Play Updates and Reviews

Stocks Slide on Expiration Friday

by James Brown

Click here to email James Brown

Editor's Note:

The market produced a widespread decline thanks to some disappointing earnings results and guidance on Friday.

I am removing SPW as a candidate and I've updated a couple of stop losses and targets below.

Current Portfolio:


CALL Play Updates

Diageo Plc. - DEO - close: 112.87 change: +0.22

Stop Loss: 111.90
Target(s): 119.75
Current Option Gain/Loss: -44.7%
Time Frame: 3 to 6 weeks
New Positions: see below

Comments:
10/20/12: It was a down day for the market on Friday and DEO continued to slip lower but only lost 22 cents. Shares do look vulnerable here with the recent close under its 20-dma. DEO is approaching what should be support near $112 and the bottom of its rising bullish channel. I would be cautious on new positions. Wait for a rally back above $114.00 before launching new plays.

More aggressive traders may want to give their stop loss more room and place it under the 50-dma instead.

Earlier Comments:
The stock tends to gap open each morning as shares here in the U.S. react to trade that started in Europe. Thus we want to limit our position size due to the volatility.

- Suggested *Small* Positions -

Long NOV $115 call (DEO1217k115) Entry $1.90

chart:

Entry on October 17 at $114.24
Average Daily Volume = 529 thousand
Listed on October 16, 2012


Health Care REIT, Inc. - HCN - close: 59.77 change: -0.76

Stop Loss: 58.80
Target(s): 63.50
Current Option Gain/Loss: -41.6%
Time Frame: exit prior to earnings on Nov. 6th,
New Positions: see below

Comments:
10/20/12: The stock market did not cooperate with us on Friday and HCN succumbed to the market-wide sell-off. Shares of HCN opened at $60.68 and then retreated back toward the $60.00 level. Unfortunately the close under $60.00 is short-term bearish since broken resistance there was supposed to be new support.

I would wait for a new bounce above $60.25 before launching new positions. Our multi-week target is $63.50 but we'll exit prior to the Nov. 6th earnings report. FYI: The Point & Figure chart for HCN is bullish with a $70 target.

- Suggested Positions -

Long NOV $60 call (HCN1217k60) Entry $1.20

chart:

Entry on October 19 at $60.68
Average Daily Volume = 2.8 million
Listed on October 18, 2012


Medivation, Inc. - MDVN - close: 52.95 change: +1.84

Stop Loss: 49.95
Target(s): 57.00
Current Option Gain/Loss: - 8.5%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
10/20/12: Thank the trading gods that MDVN finally bounced. After a two-week decline and a breakdown under its 50-dma, shares finally rebounded. The close back above its 50-dma is a positive sign. We can use Friday's bounce as a new bullish entry point.

Earlier Comments:
We will plan to exit prior to the early November earnings report.

- Suggested Positions -

Long Nov $55 CALL (MDVN1217K55) Entry $2.00

10/20/12 Friday's bounce looks like a new entry point.
10/17/12 MDVN is not cooperating and closed under the 50-dma, readers may want to exit immediately.
10/15/12 triggered @ 52.50

chart:

Entry on October 15 at $52.50
Average Daily Volume = 780 thousand
Listed on October 12, 2012


Noble Energy, Inc. - NBL - close: 94.24 change: -2.26

Stop Loss: 92.75
Target(s): 99.75
Current Option Gain/Loss:(Oct95c: - 6.8%) & Nov95c: -27.4%
Time Frame: exit prior to earnings on Oct. 25th
New Positions: see below

Comments:
10/20/12: Ouch! What happened to NBL on Friday? I could not find any company-specific news that might account for the -2.3% decline. Looks like profit taking after a four-day bounce. It could also suggest a new lower high for NBL. I am not suggesting new positions at this time. Keep in mind that we do not want to hold over the late October earnings report (Oct. 25th). We only have THREE days left for this trade.

Traders may want to raise their stop loss.

- Suggested Positions -

(closed on Oct. 18th at the open)
Oct $95 call (NBL1220j95) Entry $1.45 exit $1.35 (- 6.8%)

- or -

Long Nov $95 call (NBL1217k95) Entry $3.10

10/18/12 closed the Oct. call at the open this morning
10/17/12 new stop loss @ 92.75
Prepare to exit the Oct. $95 call at the open tomorrow morning

chart:

Entry on October 08 at $94.25
Average Daily Volume = 1.0 million
Listed on October 2, 2012


PUT Play Updates

ITT Educational Services - ESI - close: 26.06 change: -1.22

Stop Loss: 30.05
Target(s): 25.25
Current Option Gain/Loss: +35.4%
Time Frame: exit prior to earnings on Oct. 25th
New Positions: see below

Comments:
10/20/12: ESI continues to underperform and gave up -4.4% on Friday to hit new multi-year lows. I am adjusting our exit target to $25.25. The low on Friday was $25.42. More conservative traders may want to go ahead and take profits right now since ESI looks short-term oversold here. I am lowering our stop loss to $30.05. I am not suggesting new positions at this time.

The bid on our 2013 Jan. $27.50 put has risen to $4.20.

NOTE: We only have THREE trading days left on this trade to avoid holding over earnings.

Earlier Comments:
I want to reiterate my caution about using small positions. ESI already has a high amount of short interest because so many investors think this stock is going lower.

- Suggested *SMALL* Positions -

Long 2013 Jan $27.50 PUT (ESI1319m27.5) Entry $3.10

10/20/12 new stop loss @ 30.05, readers may want to go ahead and take profits now (+35%). Adjust target to $25.25.
10/17/12 new stop loss @ 30.40

chart:

Entry on October 04 at $29.47
Average Daily Volume = 408 thousand
Listed on October 3, 2012


Garmin Ltd. - GRMN - close: 38.93 change: -0.82

Stop Loss: 40.60
Target(s): 36.00
Current Option Gain/Loss: +21.0%
Time Frame: exit prior to the Oct. 31st earnings report
New Positions: see below

Comments:
10/20/12: There was no follow through on Thursday's bounce and GRMN failed at the $40.00 level. The stock gave up -2.0% on Friday. Readers can use Friday's decline as a new entry point.

Earlier Comments:
We want to limit our position size since the most recent data listed short interest at 16% of the 123 million share float. We will plan to exit prior to the October 31st earnings report.

- Suggested *Small* Positions -

Long NOV $40 PUT (GRMN1217w40) Entry $1.85

chart:

Entry on October 18 at $39.51
Average Daily Volume = 787 thousand
Listed on October 17, 2012


Starbucks Corp. - SBUX - close: 45.69 change: -1.72

Stop Loss: 47.05
Target(s): 45.10
Current Option Gain/Loss: +70.3%
Time Frame: exit prior to the early November earnings report
New Positions: see below

Comments:
10/20/12: Some of the earnings reports and guidance in the food/restaurant industry on Friday were disappointing. Shares of SBUX gapped open lower and then plunged to $45.40 intraday. SBUX settled with a -3.6% decline. I am lowering our stop loss to $47.05 and moving our exit target higher to $45.10.

More aggressive traders could aim lower since SBUX appears to be in a new trend of lower highs and lower lows.

- Suggested Positions -

Long Nov $50 PUT (SBUX1211w50) Entry $2.73

10/20/12 new stop loss @ 47.05, adjust exit target to $45.10
10/18/12 new stop loss @ 49.51

chart:

Entry on October 08 at $48.40
Average Daily Volume = 8.1 million
Listed on October 6, 2012


CLOSED BULLISH PLAYS

SPX Corp. - SPW - close: 67.83 change: -1.11

Stop Loss: 68.40
Target(s): 74.00
Current Option Gain/Loss: Unopened
Time Frame: exit prior to earnings on Oct. 31st.
New Positions: see below

Comments:
10/20/12: We have been waiting for SPW to breakout past resistance near the 200-dma and the $70.00 level but it's not happening. The stock has struggled under this resistance all week.

I am removing SPW as a candidate.

Trigger @ 70.25

Our trade did not open.

10/20/12 removed from the newsletter. Did not open.

chart:

Entry on October xx at $ xx.xx
Average Daily Volume = 594 thousand
Listed on October 15, 2012