Option Investor
Newsletter

Daily Newsletter, Saturday, 6/22/2013

Table of Contents

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

Market Wrap

Bernanke's Tape Bomb

by Jim Brown

Click here to email Jim Brown

You have heard the phrase "Don't tug on Superman's cape." We can add "Don't p*ss off Bernanke" to the list.

Market Statistics

I reported on Tuesday that President Obama threw Bernanke under the bus last weekend when he essentially fired him in a televised interview with Charlie Rose. I won't recap those comments other than it was clear there was no love lost between Obama and Bernanke and the chairman would not be asked to serve another term.

Fast forward to the Wednesday press conference and Bernanke began working on his legacy by saying the FOMC would begin tapering later this year and end QE by the middle of 2014. When asked if that was the official policy position of the committee he said no but that is what would happen if the data continued improving. Basically, as chairman of the FOMC, he appeared to make policy on the spot and that is what took down the markets. This could be part of Bernanke assuring his legacy. He wants to make sure that QE is winding down before his term ends in January so he can't be blamed on leaving a big mess for his successor.

Bernanke actually said the FOMC committee "deputized" him to detail a more specific plan for the end of QE in his press conference. I would like to have been a fly on the wall in that conference room when that was being discussed. Did Bernanke instigate it as a result of the Obama comments or did the committee direct him to be the sacrificial lamb? Why didn't they just spell it out in the FOMC statement 30 minutes earlier? Enquiring minds want to know.

Once QE is in a downtrend it will be very hard for the FOMC to resurrect it. The committee would almost have to admit they made a mistake in ending it early in order to raise it again. This is not likely to happen without a sudden downturn in the economy. By telling the world that QE will slow later this year, consensus is for an announcement at the September meeting, he has locked the Fed into the process assuming there is no significant downward change in the data.

Here is where it starts to fall apart. China's HSBC flash PMI for June declined from 49.2 in May to 48.3 and well into contraction territory. That was a nine month low and there was a significant drop in orders and backorders. China is imploding. Several major analysts have suggested China could actually be growing at only a +4.5% GDP compared to their target at 7.5%. This would be a major hiccup for the global economy and could drag on the U.S. economy later this year.

The Fed said "downside risks to the economy have diminished since fall" but they did not say they had ended. This shows Bernanke took a risk in announcing the plans on QE. He knew it would impact the market and interest rates by going public with a stronger version of the expectations.

The Dow may have dropped -500 points over the last three days but the big move was in the treasury market. The yield on the ten-year rocketed to close at 2.51% on Friday. Yields rose +3.9% on Friday alone. It appears investors thinking QE would continue well into 2014 without any changes were caught flat footed and they are now running for the exits.

Yields on the five-year rose +37% for the week. That is the worst week for treasuries in more than 50 years according to Bloomberg.

This will have lasting ramifications. The housing market is going to slow as mortgage rates spike. Banks holding treasuries are going to take a big hit on their mark to market valuations for the end of the quarter. However, a sharp rise in interest rates will eventually help banks because they will begin collecting more interest from customers than what they paid for the money. The net interest margin (NIM) will rise in future quarters.

Ten-Year Treasury Yield Chart

Treasuries are being sold but corporate bonds are being sold harder. The high yield bond ETF (HYG) is crashing as investors race for the exits. The fear of rapidly rising rates is misplaced as far as Fed action is concerned but reaching extreme levels as far as investors are concerned. It is not a question of where are they going to put the money but only to go immediately to cash to avoid losing money in bonds.

Lipper said for the week that $4.6 billion flowed out of funds that track high yield corporate bonds. $1.5 billion came out of high yield ETFs.

High Yield ETF Chart

The potential for higher interest rates sent the dollar on a rocket ride higher. A strong dollar is good if you believe the propaganda but corporations will be losing money on international sales.

Dollar Index Chart

The decline in China's economics plus the sharply rising dollar combined to crush commodity prices. Bernanke's QE ending comments implied the economy was recovering faster than previously thought. That hastened the end of the Armageddon trade and pushed gold prices to a three year low. The actual Fed forecast continued to show a very slow growth economy but the verbal damage had already been done.

After hitting a nine month high of $99 on Middle East worries on Wednesday crude oil fell to close at $93.95 on Friday thanks to Bernanke.

Gold recovered +$11 on Friday but still closed under $1300 after hitting $1268 on Thursday with a single day decline of -$90. Silver collapsed -9% to $19.31 before rebounding slightly to $20 on Friday. Copper declined to strong support at $3.02 on the weak China news more than the rising dollar.

Do you remember when silver was rocketing higher back in April 2011? Do you remember what killed the rally? The CME raised the margin on futures contracts 3 times in 3 weeks. I don't remember exactly but at the time it was unheard of and it completely killed the rally. Silver fell from $49 to $33 in six days. They are back! The CME announced on Thursday they were raising the futures margin on gold contracts by 25% to $8,800 per contract. Take that you evil gold speculators! This will definitely slow speculation in gold for a few weeks until the shock wears off.

Crude Oil Chart

Gold Chart

Silver Chart

Copper Chart

I believe Bernanke wanted to burst the rally bubble. Did you happen to notice that the taper talk increased significantly beginning on May 23rd, the day after the market set new highs? Do you recall an uptick in "equity bubble" headlines in mid May? I believe the Obama interview probably cemented Bernanke's fate. Typically presidents keep important decisions secret until the last minute so they can always change their mind. Bernanke said he and Obama had talked briefly about his future but there was nothing to report from those talks. When Obama threw him under the bus in the Charlie Rose interview and basically talked about Bernanke in the past tense that was probably news to Bernanke. Therefore with only six months left to create his legacy he decided not to waste any more time. Let's end the QE and burst all the bubbles now while I still have time to manage the events and expectations. Waiting to announce a change in QE in Q4 would not give him time to manage the transition before the new Fed chairman takes over in January.

Bernanke has never shied away from blaming the administration and Congress for the fiscal drag on the economy. He repeated it again last week in the FOMC statement and in his personal comments. He wants to make sure that is a part of the overall picture when historians look back at his reign. I am sure he feels like he overcame some substantial obstacles in the financial crisis as well as a continuing weight on the economy from the government. The sequestration is expected to subtract 1.5 to 1.9 points from the GDP in Q2 and Q3. That is a stiff headwind when the economy is only growing at a 2% rate. It makes you wonder if ending QE is really the right move. That is where the "data dependent" conditions will come into play. Bernanke may want to close the door on QE as he exits but the data will have to cooperate.

Q2 GDP is expected to decline below +2% and inflation is heading for less than 1%. St Louis Fed president James Bullard dissented in the "no change" FOMC statement saying inflation was too low and suggesting the Fed should actually increase QE purchases. Bullard issued his own press release later saying Bernanke's tapering announcement was bad timing and contained flawed logic. Bullard said Bernanke should have waited for more tangible signs of economic growth before making such an announcement.

On Friday night I went back and read several commentaries on the FOMC announcement and what Bernanke was expected to say. Almost nobody expected him to be so specific in his taper comments. While the consensus opinion was for a change in the FOMC statement in September and the end of QE in mid 2014 NOBODY actually expected the Fed or Bernanke to spell it out. They expected the Fed to remain non committal in order to reduce the impact on interest rates and the equity market. You know Bernanke knew this is what the market expected but he dropped the bomb anyway and the rest as they say is history.

Economics

The economic calendar for Friday was light with Regional Employment and Mass Layoffs both of which were lagging reports for May. Regional employment was fractionally better at +0.1% for the nine regions. A total of 33 states saw employment increase. Forty states reported a decline in unemployment. This was for the May period so this hiring was already seen in the Nonfarm Payroll report.

Mass layoffs for May increased from 1,199 events in April to 1,301 events in May. The number of workers impacted rose from 116,849 to 127,821. Manufacturing accounted for 33,527 of the layoffs.

The Mass Layoff report is going to be a casualty of the Sequestration. The BLS has to cut its budget by -30% so this is one of the reports they will no longer be producing. I doubt it will be missed.

While on the topic of jobs I was reminded of a Gallup poll completed last week on Obamacare and hiring. The surveyed more than 600 businesses and more than 41% of those surveyed said they had frozen hiring because of Obamacare. More than 19% said they had reduced the number of employees as a result of Obamacare planning while another 18% had reduced hours to part time to avoid being forced to supply insurance. Another 38% said they had scaled back on plans to expand their business because of the regulations. Only 9% of business owners surveyed were positive about the new program and 48% said it would increase their costs. Under the healthcare program all companies with 50 or more employees will have to offer medical insurance or face a fine of $2,000 per year for every full time worker over 30. This is a huge drag on the economy and especially on small businesses where the majority of jobs are created.

The calendar for next week is pretty busy. Because of the focus on the Fed outlook I added all the speeches by Fed presidents and governors for next week. They may try to calm the markets after the Bernanke bombshell so it will be interesting to see if they are successful. Richard Fisher speaks twice and he is strongly in favor of halting QE so he will be the one most likely to make waves.

There are two major regional manufacturing reports from the Fed. The Chicago report on Monday covers the nation. Friday has the Chicago ISM report.

The final GDP revision for Q1 is on Wednesday and it is expected to come in around +2.5%. The Q1 report has an abnormally high inventory component that is holding it up. The Q2 number will not have that and we could see something closer to +1.0%. That Q2 number will not appear until July 31st.

New home sales and pending home sales could produce some market movement because traders will be worried the rise in interest rates will harm future sales. This makes the current sales patterns more important. Lennar reports earnings on Tuesday and KB Home on Thursday so their guidance will be critical.

Economic Calendar

Oracle (ORCL) was the big news in stocks on Friday. After reporting earnings and weak guidance after the close on Thursday it was the weakest S&P-500 stock and the weakest Nasdaq stock on Friday. Oracle also announced it was moving from the Nasdaq to the NYSE in July.

Oracle reported flat revenues at $10.9 billion and missed estimates by -$170 million. Oracle blamed weakness in overseas markets for the weak licensing revenue. Customers are also moving to the cloud for their applications and that hurts Oracle's per server license fees. Instead of having multiple servers in different locations companies are putting the database in the cloud and paying only one license fee. Oracle said it was going to make a "startling series of announcements" next week about new partnerships with Microsoft (MSFT), Salesforce.com (CRM) and Netsuite (N). Analysts believe it will be a cloud distribution agreement. Oracle already has its own cloud program and CEO Mark Hurd said they added 500 cloud computing customers last quarter. Several analysts thought Oracle was gaining speed in the cloud computing application business and the new partnerships could aid in that acceleration.

Oracle shares lost -9% to close at $30. You may remember my comments last weekend about Oracle. "The only person that makes any real money from Oracle shares is Larry Ellison. Everyone else just gets whipsawed around in the chop until they get tired and sell it." You just saw one more whipsaw where hopes were dashed. In Q1 the stock dropped from $36 to $31 after earnings. You would think investors would learn. Meanwhile mister ego, Larry Ellison, is thinking about buying another Hawaiian island and an airline. Maybe he should concentrate on actually producing a profit for his shareholders.

Oracle Chart

I mentioned China in passing in the discussion about the Fed. It deserves a little more coverage since it has the potential to be a game changer. When you think about it the world economy has relied on two things for the last four years. That was QE or easy money from the central banks in the range of about $12 trillion and the voracious economic appetite of China. It appears that appetite may be dwindling.

A slowdown in China from the +9% growth rates in recent years is a good thing long term. However, that is like saying "Hold still, this root canal will only hurt for a little while but long term you will be better off." Everybody wants the long term benefit but nobody wants the short term pain.

China's new leadership is squeezing credit by the most in a decade in an effort to slow the real estate market and reduce leverage by the banks. Some of the regional banks are rumored to be levered at more than 100:1 thanks to the roaring demand for credit. China's private debt spiked to 168% of GDP in Q3-2012. It was only 119% three years ago. They are facing what could be a record number of nonperforming loans. We don't really know because many banks hide them to avoid the regulatory repercussions.

Liquidity dried up to the extent last week that the overnight repo rate reached 13.1% That is the highest since Reuters began capturing this data decades ago. The interbank market close was delayed by 30 minutes on Thursday to allow all the banks sufficient time to complete their overnight borrowing so they could open on Friday. The SHIBOR rates, similar to LIBOR, spiked to levels similar to what happened in the U.S. when Lehman failed. If the Chinese government does not step in and handle the problem it could cause widespread bank failures. How many banks can afford to pay 13% for an overnight repo?

Credit rating agency Fitch said China's shadow banking system is out of control and the credit bubble is unprecedented in modern world history. "The credit-driven growth model is clearly falling apart. This could feed into the potential for a Japanese style deflation. There is no transparency in the system and systemic risk is rising." Bank Everbright defaulted on an interbank loan the prior week as overnight lending dried up. Chinese banks typically offload loans into trusts, wealth management funds and offshore vehicles to stay under regulatory limits even though they are still liable for the loans. Fitch said we have no idea who the borrowers are or who the lenders are because of the rapid offloading of the balance sheets into the shadow banking system. Fitch believes there is more than $2 trillion in off balance sheet loans, many of them non-performing. Fitch said this collapse could be as bad as Lehman when it comes. Investors are worried. The China Securities Journal said withdrawals from Chinese equity funds were the highest since 2008 and withdrawals from Hong Kong funds were the highest in a decade for the week ended June 5th. Hard landing anyone?

Shibor Chart

Apparently the new leadership is going to force a stronger than expected slowdown if that is what it takes to shift to long term growth. If China is going to slow significantly the countries that export to China are going to be hurt. Mostly that is commodities to fuel the manufacturing but there are other items as well. Countries that could be hurt by the slowdown are Brazil, Australia, South Africa and many others. Mining companies were crushed by the dual hit of falling commodity prices and the decline in China's PMI. Asian neighbors depend on China to buy about 25% of their exports. That means a slowdown in China is a slowdown for all of Asia.

I have always said we should look to China as a barometer of global growth rather than the leader in global growth. China is not going to manufacture products to export overseas unless somebody ordered them. If China is not getting the orders they won't make the products. The HSBC flash PMI showed a sharp drop in orders and backorders. This would suggest the world economy is slowing and China's manufacturing decline is the proof of that slowing.

Either way the weakness in China is going to be a drag on the U.S., Europe, Latin America and Asia. Couple that with a decline in QE liquidity and we may have some growing pains of our own. Now be still, it will only hurt for a little while.

The U.S. markets declined about -2% for the week but that was only a blip compared to the emerging markets that depend on China. Brazil declined -7.7% and Thailand -6.4% to lead the list. China declined -4.9%. Turkey, which has problems other than China, fell -8.9%.

Markets

This was a quadruple witching option expiration as well as the quarterly rebalancing of the S&P-500, S&P-400 Midcap and the S&P 600 Small Cap indexes. This produced a mountain of volume with more than 10.6 billion shares traded. This exceeded the 9.28 billion on Thursday, which was a result of the massive market drop, margin selling, expiration and rebalance all rolled into one.

On Thursday more than 32 million option contract were traded. That was the fifth largest volume day ever. Heck, I can still remember when the CBOE broke one-million contracts in a day.

On Thursday there were 674 advancers compared to 6,135 decliners. There were 8.43 billion shares of down volume compared to 804 million shares of up volume. Thursday was what we call a 90% day where 90% of the volume is in a single direction. This is typically the sign of a washout or a capitulation day. Everybody throws in the towel and runs for the exits. Typically it is a turning point in the market where a rebound begins. Coming the day before the quadruple witching and index rebalance it is hard to know if Friday's rebound was real or just the result of short covering and expiration settlement.

Next week should see some positive influences. It is the last week of the month, quarter and half. This is the week when window dressing should be at its peak. Fund managers will want to dress up their portfolios with winners to show investors how smart they are. However, the last week of June does not have a very good record.

Art Cashin alerted me to the following scenario. Despite the quadruple witching and index rebalancing at the June expiration and the Russell index rebalancing at the end of June, the overall performance over the last 12 years has been dismal. The June FOMC meeting is typically around the 19th to the 22nd and in expiration week. In almost every one of the last 12 years the last week of June has been negative with the first week of July slightly positive on average. I told Arthur I would research it but I can't find an obvious common thread. The only two years when the last few days of June were positive is when the Fed announced the massive QE program in June 2009 and then when they announced another extension in June of 2011.

About the only realistic causation for the dip at the end of June is the FOMC curse. Over the last 15 years I have written numerous times about the post meeting dip. Typically, when there is a Fed meeting on the calendar the markets run up slightly ahead of the meeting unless there is a rate increase expected. Regardless of what the Fed says the market tends to sell off in the week after the meeting. Obviously announcing massive QE programs or rate cuts tends to kill the scenario for that one meeting but the post meeting decline in any month has been a common event for the last decade. I did not have the time to go back and do the chart analysis for every Fed meeting for the last ten years but I have written about it enough to know it to be true.

I believe the post June meeting dip is probably more pronounced because of the annual Russell index rebalancing the following week and the July 4th weekend. When an index is rebalanced with stocks removed and others added it typically produces a negative market bias. Traders know which stocks are going to be removed so they short them ahead of the rebalance in hopes of profiting from the index fund selling. They also buy the stocks being added for the same reason but since they are not currently in the index it has no impact on the index. However, the shorting of stocks that will be dropped does have a negative impact because they are still in that index at the time.

The July 4th weekend is typically a long holiday for traders and one that nobody misses. For instance this year July 4th is on a Thursday so volume on the half day of trading on July 3rd and the full day on July 5th will be extremely low. Traders will lighten up on positions ahead of July 4th and then start rebuilding positions for Q2 earnings when they return from the holiday on Monday July 8th. They will not want to be long over the nonfarm payrolls on July 5th while they are at the lake.

Obviously other macro factors would enter into the equation beginning in July so you can't simply blindly buy on July 5th in anticipation of a rally. If you look at the charts below the July rally is not as regular as the decline in the last week of June.

However, I did find it interesting that there was one constant in every year. That was a sharp increase in volatility between the FOMC meeting and the middle of July. As you can see in the chart slices below there was a lot of directionality as well as sharp reversals.

Dow Charts June-July 2001-2006

Dow Charts June-July 2007-2012

For the last six months analysts have been telling everyone to buy the dip, stocks are going higher. They moaned about the fact there had not been a decent correction since November but should one appear it would be a "buying opportunity." Ok, we got the dip but now they seem to be almost unanimous in warning there is more to come. It seems they are suddenly afraid of what they were telling you to buy.

Multiple analysts pointed to the lack of a rebound in the Dow Transports. The transports declined -3.1% for the week and closed at a six-week low below the 50 and 100 day averages.

The transports were weak because of China. FedEx and UPS fell hard on the China news. Both had previously warned on slower shipments out of Asia. Railroads crashed because of lower demand expectations for mine output and metals like steel and aluminum and building materials for homes.

The transport index closed at 6,100 but has risk to 5,900. Without the transports confirming any Dow gains the theory suggests the Dow will also slip.

Dow Transports Chart

Lipper said $38 billion flowed out of bond funds over the last month. That does not count the last two days so you can imagine how much higher that number is going to be given the spike in yields.

That money did not flow into stocks. The rebound in stocks was minimal at best. The S&P declined to 1,577.70 at the open on Friday. The 100-day average was 1,577.74. The rebound off that 100-day average added +14 points to close at 1,592. You would think that a textbook rebound off support would have garnered more buyers but the quadruple witching and S&P rebalance may have been too much volume to allow buyers to swim upstream.

Monday will be a critical market day. Many analysts believe we will retest that 1,577 level if not lower. If we do break the 100-day we could go a lot lower.

Carter Worth said of the last 205 corrections that declined more than 5% the average decline was between 8.2% and 12.3%. The 8.2% is the average decline while the 12.3% is the median decline. Whatever you call it the chance of a larger decline is fairly good. The S&P was -6.2% off its highs at the Friday low. He was projecting a decline to 1,540.

The support at the 50-day average failed and the longer term uptrend also failed. When major support levels fail it is rare that the first bounce holds. It is simply an oversold bounce where traders reload for the continuation of the decline. You buy a dip to primary support but you fade the first big drop below that support.

Nobody knows if that 100-day average is going to hold. It has not been tested since December so traders will want to see another successful test before they commit a lot of money to the market. This is the summer when markets are typically weak and they now have a new paradigm from the Fed and China. Everything has to be digested in context and people will want to see someone else buying the dip first.

S&P Chart - Daily

The Dow chart is similar to the S&P only the Dow did not reach the 100-day average at 14,646. The low was 14,688 and that was weak support from late April. The Dow has risk to 14,500 and possibly 14,400. Any further decline breaks the longer term uptrend and sets up the potential for an ugly summer.

With the dollar soaring the international companies in the Dow are losing money on currency conversions from overseas sales but it may not hit them too hard in Q2 since there is only a week left. However, the dollar was a lot higher in mid May so that skeleton is still lurking in the earnings closet.

Dow component Boeing typically sells off after the Paris air show currently in progress. IBM could also see weakness as a result of the weak guidance from Oracle. Alcoa and Caterpillar should also see weakness as a result of the slowing economy in China and the impact on the rest of Asia. Microsoft should get a bump from the Oracle announcement next week.

Dow Chart

The Nasdaq had not been reactive to the 50-day average so the violation of that line was not that big of a deal except that is corresponded with the round number support at 3400. The Nasdaq Composite declined to 3326 at the open on Friday and rebounded +30 points at the close. This was more than likely short covering after the S&P broke key support by 4 cents and then rebounded. There are a lot of tech stocks in the S&P so that helped produce an uptick in the Nasdaq and trigger follow on buying.

The Nasdaq has not been reactive to any averages in recent months so the 100-day at 3300 is only slightly less important than the uptrend support and round number support at that level. There are three levels of converging support at 3300 and I would expect that to hold on the first test.

Nasdaq Winners & Sinners

Nasdaq Chart - Daily

On Tuesday I noted the Russell 2000 closed at a historic high of 999.99. Round number resistance at 1,000 was too tough to crack. I said at the time that a new high close ahead of the FOMC meeting and the potential for a disruptive market event was somewhat bullish. It appeared fund managers were not concerned and I said "it was amazingly bullish. Foolish maybe, but still bullish." Obviously anyone that was buying small caps the day before the FOMC meeting is seriously rethinking that game plan today.

The Russell declined -49 points to the low on Friday of 951. That was a serious hit of roughly -5% in three days. The dip took the Russell down to uptrend support at 954 where it came to a screeching halt. The Russell did not break that support and despite the big decline is still a better chart than the large caps.

However, any future decline below 950 is sure to trigger a lot of sell stops so I would be very cautious about buying this dip even if it is the best chart in the crowd. The 100-day average at 946 would be my stop loss on any longs. I would probably put my stop at 945 to trigger on a break of that support. A breakdown below the 100-day average targets 900.

Russell 2000 Chart - Daily

Random Thoughts

Remember Cyprus? The country agreed to confiscate bank deposits in exchange for a 10 billion euro loan from the Troika. The "bail in" was a shock to the entire European banking system. Last week the president of Cyprus, Nicos Anastasiades, sent a letter to the Troika asking to completely reverse the program and return everything to the way it was before the event. Unfortunately that genie is not going back into the bottle.

He said the application of the bail-in was implemented without careful consideration and preparation. The structure of the bail-in amounted to a significant loss of working capital for businesses and now they are failing and unemployment is skyrocketing because they can't pay their employees.

Nicos said they underestimated the impact on the economy and the capital flight out of the country. Duh! Take people's life savings overnight and you think those with money left are simply going to leave it in the bank until you do it again?

The amount of capital leaving the country is accelerating despite restrictions on how much can be withdrawn at any given time. At the present rate there will be no deposits left in slightly more than a year. The entire banking system is collapsing. Cyprus is falling deeper into recession and Nicos warned they will not be able to meet the original rescue terms because of the spiraling economy. He is asking for another 10 billion euro loan, which will not happen since Cyprus is bankrupt.

Greece has not recovered despite being out of the headlines. They announced last week they found a previously undiscovered budget shortfall of 1.2 billion euros in the country's biggest healthcare provider, EOPYY. They have less than a month to plug the hole or that service is going to collapse. Hello, Troika, send more money.

Italy's recession is deepening. The retail association Confesercenti said 134 retail outlets close in Italy every day. More than 224,000 have closed since the start of the crisis. That is a lot of stores no longer buying imported goods from China.

The problems in Europe plus the Bernanke induced decline in the U.S. knocked the European markets for a -3.75% loss based on the Bloomberg Europe 500 index. That was the fifth consecutive week of losses. Italy and Spain both lost nearly -5%.

The economic damage and unrest is not confined to Europe or the Middle East. Brazil is in meltdown mode. The unrest has been growing for weeks and the stock market is down -22% year to date. Inflation is soaring but wages are not. Over the last ten years bus fares are up +180%, healthcare +175%, food +165%, education +145%, rents and taxes +125% and worst of all soccer tickets +245%. Raise my bus fare but not my sports tickets! The riots started out complaining about the higher bus fares but have now moved into complaints about inflation in general. The bus fares are higher because of crowded busses due to higher fuel costs. More people are giving up on the rising costs of private transportation and riding the bus.

The yield on the one-year bond has risen to more than 10%. This is Brazil, not Greece, but this shows how wide spread the global unrest and contagion has become. The growth rate in Brazil has declined from the +7.5% in 2010 to +2.7% today.

Brazilian one year bond yield chart - Source SoberLook

Summary

Don't try to apply too much logic to the big market drop. First, it was not big. Thursday's decline of -2.34% was the 675th worst day in the market according to Ritholtz.com. Markets go up and when they have gone up too far they come down. When investors are ready to take profits they will always find an excuse. After a seven month rally of +16% any excuse would have worked and the Bernanke comments were simply the tipping point. Markets take the stairs up, one step at a time and the elevator down.

In theory the massive outflow of cash from bonds would be headed for the equity market. That may not happen until the market shows some signs of stability. We could just as easily see a new leg down next week or some dip buying from the window dressers. The outlook is definitely cloudy. If you don't have to be in the market it might be worthwhile to take the week off, let the post FOMC curse evaporate and come back after the July 4th holiday. With nonfarm payrolls on Friday July 5th the following week should be a lot easier to predict.

Enter passively and exit aggressively!

Jim Brown

Send Jim an email

"A bore is a fellow who opens his mouth and puts his feats in it."
Henry Ford


Index Wrap

Volatility Goes Up, Up, Up as Prices Go Down, Down, Down

by Leigh Stevens

Click here to email Leigh Stevens
THE BOTTOM LINE:

New lows were made after all for the current correction but some of the key indexes are nearing technical support at recent lows. The Market had a fit when the Fed said they might stop pump priming by 2014 and probably overreacted as it's prone to do.

I thought last week that the further downside looked "limited" (along with the upside) but the S&P 500 (SPX) fell to one Closing low of 1588, 10 points below its prior intraday low. I guess that's 'limited', at least so far. Up trendlines were decisively pierced in SPX and the big cap S&P 100 (OEX), just barely in the Dow and not yet in the Nasdaq Composite and Nas 100(COMP and NDX) and the Russell 2000 (RUT). My COMP and NDX support (up) trendlines haven't been successfully 'tested' yet; an initial rebound from its up trendline did occur in RUT.

All in all, a bit of a surprise from the Fed but you would think that the sky was falling by the reaction. This tendency to sharply react is nearly the case when the Market must adjust to a changing key influence. Something I emphasize over and over is that the Market is more prone to sharp reactions when the market is either overbought or oversold. The major indexes are no longer in overbought territory on a 13-day basis but its another story on a 13-week basis. A sideways to lower trend in the coming 4-6 weeks should pull weekly chart overbought readings to a neutral to even an 'oversold' area.

I don't usually show a representative weekly index chart each time I write but my first chart here is the weekly SPX.

A key aspect of the chart is that SPX is still trending nearer the high end of its bullish uptrend channel than the low end. A second technical aspect is seen with the 13-week Relative Strength Index (RSI). It wouldn't take a huge further pullback, such as closer to 1500, to pull the RSI into a neutral mid-range reading (e.g., around 45) or even to an 'oversold' reading in the 35-30 zone. A sideways to even slightly lower decline over time will continue to 'throw off' the prior high 'overbought' extreme seen in late-May.

The foregoing aspect of the weekly chart as no longer 'overbought' and heading toward a possible neutral to oversold reading is important in that a neutral to oversold RSI would give added confidence in buying into a next rally, assuming the chart pattern again turns bullish.

Last week, I did not that "To apply some contrary thinking to mine currently, if we took the Dow chart as the key index, its up trendline support doesn't come in until 250-300 points lower from the Friday Close (15070). The Nasdaq Composite would have daily trendline support 120-125 points lower than its Friday Close (3423)."

My more bearish scenario of last week wasn't far off the mark (15070 - 300 = 14770) as the Dow fell to 14688 at its intraday low and 14758 at its lowest Close to date. The Nasdaq Composite dropped to 3326 as an intraday low versus the projection that COMP could fall to 3323-3298. It can pay to be more bearish than not when the Market is correcting a very strong prior advance!

I'll just point you to my various index-specific comments below as to how price action might play out ahead.

MAJOR STOCK INDEX TECHNICAL COMMENTARIES

S&P 500 (SPX); DAILY CHART:

The S&P 500 (SPX) failed, for a third time, to hold above its up trendline, contrary to my expectations. SPX did hold what I noted last week as a next lower support at 1580. My SPX daily chart seen next has the same notations as to key support and key resistance carried over from last week.

A note on key resistance I indicated previously as coming in at the 21-day moving average. This relates to my 2-day reversal 'rule of thumb', namely that at any key resistance or support, a 1-day Close above or below resistance or support tends to be 'confirmed' as a trend change only if/when there's a second such Close. Absent that, it may only be a last gasp of the bulls (or bears). In this case the bulls pushed SPX once above its 21-day moving average but couldn't manage the same trick twice; hence, a 'one-trick' pony!

I believe that 1580 could hold up as support and might be the low for the current decline. 1540 looks to be an even more solid support if 1580 gives way and there's a next down leg. If there were two back to back Closes below 1540 I'd take that as quite bearish, although on a weekly chart basis a (weekly) Close below 1360 would be more definitive for a shift in the intermediate-trend from up to down.

S&P 100 (OEX) INDEX; DAILY CHART

The S&P 100 (OEX) has fallen to below what had been its long-standing broad uptrend channel. While this is bearish certainly on at least a short-term basis, OEX's intermediate-term trend wouldn't turn down/bearish unless or until there was a daily Close below 700, at the last downswing bottom. Even then I'd want to see a second consecutive Close below 700 to 'confirm' a reversal in the intermediate trend. For comparison purposes, the major or long-term trend would reverse on a weekly Close below 619.

710 is next support, extending to 700. Near technical resistance in OEX comes in at what was the support up trendline, at 728. Just as a prior support, once penetrated, tends to 'become' subsequent resistance, so it is with support trendlines; once pierced, they also tend to become subsequent resistance. Next resistance is at 735, extending to the 743 area.

I anticipate OEX holding above 710-700. How soon the index might launch any prolonged rally is quite another thing and I don't think it would be anytime soon.

THE DOW 30 (INDU) AVERAGE; DAILY CHART:

I wrote last week that "Enough of the 30 Dow stocks (INDU) are in a corrective mode to suggest that the Dow would be holding up well if prices drifted sideways a while longer and 15000 support remained 'intact'."

YES, it would have been more bullish than the 30 individual charts together suggested for INDU to 'hold' 15000. The Dow is the only key index where perusing just 30 stock charts gives a pretty fair assessment of the Market's upside or downside potential. 30 stocks may seem like a lot to follow and they would be to actively follow, but 6 weekly charts per charting 'page' can be viewed fairly quickly to assess the big picture.

I'd say again this week that a key bullish chart aspect of pivotal importance is whether the Dow holds above its up trendline which suggests support at 14700 currently. Major support begins at 14500-14400.

Resistance is seen at 15000; what was prior support 'becoming' a subsequent resistance. Next resistance is seen at 15100, again at the 21-day moving average.

NASDAQ COMPOSITE (COMP) INDEX; DAILY CHART:

The Nasdaq Composite (COMP) Index is bearish near-term but on an intermediate term basis hasn't fallen below its up trendline support at 3310. Fairly major support then begins in the 3250 area, extending to 3200-3160.

Last week I wrote of strong technical support "...if COMP were to break under 3400-3375 and start a move that carried back to its up trendline at 3300." COMP got to 3326 and could still reach 3310-3300 but I don't see a sizable added down leg below 3300. Stay tuned on that! Same thing I said last week when I thought that the downside was 'limited'. Opps!

The lower readings this past week in the RSI and my bullish 'sentiment' indicator suggests at least that the index is no longer as vulnerable to further panic selling.

NASDAQ 100 (NDX); DAILY CHART:

The Nasdaq 100 (NDX) as I wrote last week, would have a 'breakout' move down if there was a decisive downside penetration of the 50-day moving average, which last week was at 2920. I noted that "if NDX were to break 2920-2900 support, next support was suggested in the 2875 area..." This bearish scenario was mostly the way it went as NDX fell to an intraday low of 2853 and a low Close at 2877; NDX only slightly overshot my projected downside target on an intraday basis but not on a Closing basis. Once any cluster of sell stops are run, there's often a tendency for some bounce back.

Where to from here? If my up trendline is accurately drawn or 'artfully' drawn I could say, technical support is not much lower than the NDX low of this past week, in the 2845 area. While 2800 is probably a next lower support, pivotal support looks to be closer to 2750. I'll call next key downside support as 2800-2750.

To get much going on the upside, NDX should climb back above 2915, then to above 2950. There's a minor down trendline that's been traced out subsequent to the 3050 high, suggesting resistance coming in around 2990, but the main focus I'd have for a full blown bullish trading stance would be NDX's ability to get back above 3000 and hold this area as subsequent 'support'.

NASDAQ 100 TRACKING STOCK (QQQ); DAILY CHART:

The Nasdaq 100 (QQQ) continued to trend sideways to lower within its broad uptrend channel. QQQ has now extended its slide to the 70 area which I see as a near-term support. I've noted next lower technical support at QQQ's up trendline at 69.3. My 'worst case' bearish outlook is for the current up trendline to mark an area of future support/buying interest and don't currently envision QQQ falling below 69. Major support comes in at 67.

Near resistance is at 71.2, extending to 72 even. Further resistance is likely to come in at the top end of the recent downside price gap at 72.7.

I wrote last week that "I'm anticipating that the Nas 100 ETF stock will maintain its longer-range uptrend and stay within its uptrend channel...my 'worst case' downside target is to 70." I adjusted my trendline slightly and support implied by the current trendline intersection at 69.3 could also be relevant ahead.

Daily trading volume spiked on the sharp declines of Thursday-Friday as seen above and suggests that QQQ might be at or near a 'volume climax' end to its current decline.

RUSSELL 2000 (RUT); DAILY CHART:

The Russell 2000 (RUT) chart has been in a near-term bearish trend but to date has traded WITHIN its broad uptrend price channel. Remaining within its trend channel may or may not continue, depending on whether the Index continues to 'hold' (stay at or above) its up trendline.

Unlike the other major indexes, RUT did manage two recent consecutive Closes above resistance implied by the its 21-day moving average. RUT however again failed to advance above significant resistance at 1000 and after this rally failure R RUT again broke below its 21-day average.

I see fair to good potential for RUT to work higher from recen lows. I've noted resistance up at 986-1000, but I consider the 50-day moving average as a key immediate resistance overhang. A close or better two back to back closes above 965 would suggest that RUT could work still higher or at least has arrested its downward slide.

Pivotal technical support is at 950, extending to 940. I anticipate major support will be found at 900.

I did indicate last week that "If there is another bearish shoe to drop RUT could test support at its 50-day average (currently at 960), extending to trendline support around 950. This is my 'worst case' bearish outlook, for one more dip to, but mostly not below, the aforementioned two technical supports." My prior more bearish scenario is the way it played out so far and 950-951 can continue to hold up as support as an area of buying interest.



GOOD TRADING SUCCESS!


New Option Plays

Options & Soft Drinks

by James Brown

Click here to email James Brown

Editor's Note:

In addition to tonight's new candidate(s), consider these stocks as possible trading ideas and watch list candidates. Some of these stocks may need to see a break past key support or resistance:

(bullish ideas) WLP, TWC, HUM, CI

(bearish ideas) CERN, ALXN, PANW, TMO, ACT, NOC, JBHT, VMW, VIAB, STZ, CF



NEW DIRECTIONAL CALL PLAYS

CME Group Inc. - CME - close: 76.79 change: -0.30

Stop Loss: 73.85
Target(s): 84.00
Current Option Gain/Loss: Unopened
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
The CME started out as the Chicago Mercantile Exchange. The CME Group is the combined company of the CME and the Chicago Board of Trade (CBOT). Today CME operates the CME, CBOT, NYMEX, COMEX, and KCBT futures exchanges. The world's demand for options, futures and other derivatives continues to climb, which should mean business is good for the CME. The stock has definitely been performing well with gains in six out of the last seven weeks. This past week saw the CME hit 4 1/2 year highs.

Bears can argue that CME shares are overbought and due for a correction. Bulls can argue that the CME managed to shrug off the market's sell-off this past week and continues to show relative strength. Tonight we're going with the trend, which is up.

I am suggesting small bullish positions if CME can trade at $77.85. If triggered we'll use a stop loss at $73.85. More cautious traders may want to use a stop closer to $75.00, which looks like short-term support. I do expect some resistance at $80.00 but our target is $84.00.

Trigger @ 77.85 *small positions*

- Suggested Positions -

Buy the Jul $80 call (CME1320G80) current ask $1.05

Annotated Chart:

Entry on June -- at $---.--
Average Daily Volume = 3.0 million
Listed on June 22, 2013


SodaStream Intl. - SODA - close: 71.01 change: +0.73

Stop Loss: 68.65
Target(s): 79.00
Current Option Gain/Loss: Unopened
Time Frame: 3 to 4 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
SODA sells in home beverage carbonation systems that allows consumers to make their own soft drinks. Investors seem happy to pay for growth in this momentum stock. The company's earnings are soaring at +20% while it's P/E has hit 31. Yet not everyone believes in the story, or at least the valuation. The most recent data listed short interest at 38% of the small 18.2 million-share float. As the stock keeps climbing SODA keeps seeing more short covering. I would be worried if I was short given the rumors surrounding SODA that it could be an acquisition target.

The stock did see a correction from its mid-June high but traders bought the dip on Thursday near its 30-dma. Thursday's move actually produced a bullish engulfing candlestick reversal pattern. Friday's +1% gain was a show of relative strength and confirmed the reversal pattern. However, SODA does have a short-term trend of lower highs. We'd like to see a breakout.

I am suggesting a trigger to buy calls at $72.50. Friday's high was $72.35. If we are triggered at $72.50 our target is $79.00. The stock struggled with resistance at $80.00 back in 2011 so the $80 level could still be trouble. SODA can be a volatile stock so traders may want to limit their position size to reduce risk.

Trigger @ 72.50

- Suggested Positions -

Buy the Jul $75 call (SODA1320G75) current ask $2.55

Annotated Chart:

Entry on June -- at $---.--
Average Daily Volume = 1.5 million
Listed on June 22, 2013



In Play Updates and Reviews

Still Buying Dips?

by James Brown

Click here to email James Brown

Editor's Note:

After a painful midweek swoon it looks like traders were still buying the dips on Friday. The major indices all pared their Friday losses.

Our SBUX and SPY trades were triggered.


Current Portfolio:


CALL Play Updates

Automatic Data Processing - ADP - close: 68.68 change: +0.48

Stop Loss: 67.00
Target(s): 74.00
Current Option Gain/Loss: -30.3%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
06/22/13: ADP held support at the $68.00 level again on Friday. Shares managed to outpace the market with a +0.7% bounce and a close back above its 50-dma. I would be tempted to buy calls again on a rally past $69.25 but more conservative traders might want to wait for ADP to rise past its 30-dma or the $70.00 level as an alternative entry point.

- Suggested Positions -

Long Aug $70 call (ADP1317H70) entry $1.65

chart:

Entry on June 18 at $69.25
Average Daily Volume = 1.8 million
Listed on June 17, 2013


Cameron Intl. Corp. - CAM - close: 61.53 change: -0.34

Stop Loss: 59.75
Target(s): 69.75
Current Option Gain/Loss: Unopened
Time Frame: 3 to 5 weeks
New Positions: Yes, see below

Comments:
06/22/13: CAM seems to be finding support near its rising 150-dma, although it does tend to pierce this moving average and then rebound. That's what occurred on Friday.

Currently we are still on the sidelines but we're adjusting our strategy. We will move the entry trigger to buy calls from $65.60 down to $63.25 and move the stop loss from $63.75 to $59.75. Keep in mind that the $65.50 area is still overhead resistance so I am suggesting we keep our position size small to limit our risk.

FYI: The Point & Figure chart for CAM is bullish with a $76 target.

Trigger @ 63.25 *small positions*

- Suggested Positions -

Buy the Jul $65 call (CAM1320G65)

06/22/13 strategy adjustment: move the entry trigger from $65.60 down to $63.25. move the stop loss from $63.75 to $59.75.
Keep position size small.

chart:

Entry on June -- at $---.--
Average Daily Volume = 1.6 million
Listed on June 19, 2013


Green Mtn Coffee Roasters - GMCR - close: 74.42 change: -3.90

Stop Loss: 78.99
Target(s): 95.00
Current Option Gain/Loss: Unopened
Time Frame: 3 to 6 weeks
New Positions: Yes, see below

Comments:
06/22/13: GMCR has been hit hard by two days of steep profit taking (down almost -$8.00). The close below its 10, 20, and 30-dma is definitely short-term bearish. You could argue that shares have created a bearish double top with the peak in May and the peak this past week.

Currently we are on the sidelines. It's unlikely that GMCR is going to hit our suggested entry point at $83.05 any time soon. We are going to keep GMCR on the play list for another day or two and see how it performs. Then we'll either adjust our trade strategy or drop it. More aggressive traders may want to consider buying a dip or a bounce from the $70.00 level, which should be support.

Earlier Comments:
GMCR can be a volatile stock so we do want to keep our position size small to limit risk. Today's move is a bullish breakout to new 52-week highs. If the rally continues GMCR could see a short squeeze. The most recent data listed short interest at 33% of the 129 million share float.

If triggered our multi-week target is $95.00. FYI: The Point & Figure chart for GMCR is bullish with a $105 target.

Trigger @ $83.05 *Small Positions*

- Suggested Positions -

Buy the Jul $85 call (GMCR1320G85)

- or -

Buy the Aug $90 call (GMCR1317H90)

chart:

Entry on June -- at $---.--
Average Daily Volume = 3.3 million
Listed on June 19, 2013


Starbucks Corp. - SBUX - close: 64.69 change: -0.53

Stop Loss: 61.85
Target(s): 69.50
Current Option Gain/Loss: Jul$65c: + 7.4% & Aug65c: + 5.2%
Time Frame: 4 to 8 weeks
New Positions: see below

Comments:
06/22/13: Our new SBUX trade has been triggered. The Friday morning rally attempt failed and shares fell toward its 30-dam. Just as we suspected the stock found support near this moving average and SBUX hit our buy-the-dip trigger at $64.25.

In other news SBUX announced on Friday that they would be raising prices for some of their drinks in their U.S. stores. Starting on June 25th prices will rise, on average, by 1%. According to an SBUX spokesman, it's the first price rise for some areas in almost two years. Less than one third of their drinks will see the increase.

- Suggested Positions -

Long Jul $65 call (SBUX1320G65) entry $1.35

- or -

Long Aug $65 call (SBUX1317H65) entry $2.30

06/21/13 triggered at $64.25.

chart:

Entry on June 21 at $64.25
Average Daily Volume = 4.6 million
Listed on June 20, 2013


S&P500 SPDR ETF - SPY - close: 159.07 change: +0.51

Stop Loss: 152.90
Target(s): 168.00
Current Option Gain/Loss: + 5.4%
Time Frame: 6 to 9 weeks
New Positions: see below

Comments:
06/22/13: Our buy-the-dip trigger at $158.00 was hit on Friday. As expected the S&P 500 index dipped to its rising 100-dma. The SPY ETF actually dipped just below it and hit $157.47 before bouncing. I would still consider new positions now although more conservative traders may want to wait for a rebound back above $160.00 before initiating positions.

The market is likely to remain volatile for a few days. We are lowering our stop loss down to $152.90 to give the index more room to maneuver. Cautious traders may want to go the opposite direction and tighten stops closer to Friday's low instead.

- Suggested Positions -

Long Aug $162 call (SPY1317H162) entry $2.40

06/22/13 adjust stop loss to $152.90
06/21/13 triggered on dip at $158.00

chart:

Entry on June 21 at $158.00
Average Daily Volume = 162 million
Listed on June 20, 2013


PUT Play Updates

Agrium Inc. - AGU - close: 86.01 change: -0.35

Stop Loss: 87.60
Target(s): 81.00
Current Option Gain/Loss: + 64.0%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
06/22/13: The breakdown in AGU continued on Friday with an intraday drop to $84.36. Yet shares managed a pretty decent bounce closing at $86.00. The bounce may not be over yet.

We are going to try and limit our risk by moving the stop loss down to $87.60. Readers may want to consider adjusting their stop so it's just above $88.00 instead since prior support near $88.00 should be new resistance.

Earlier Comments:
I am suggesting we limit our position size and keep positions small to limit our risk.

FYI: AGU will begin trading ex-dividend on June 26th. The quarterly cash dividend should be 50 cents.

*Small Positions* - Suggested Positions -

Long Jul $85 PUT (AGU1320s85) entry $1.25

06/22/13 new stop loss @ 87.60
06/20/13 triggered on gap down at $87.71, trigger was $87.80
06/19/13 keep position size small.

chart:

Entry on June -- at $---.--
Average Daily Volume = 744 thousand
Listed on June 15, 2013


eBay Inc. - EBAY - close: 51.13 change: +0.39

Stop Loss: 52.05
Target(s): 45.50
Current Option Gain/Loss: Unopened
Time Frame: 3 to 6 weeks
New Positions: Yes, see below

Comments:
06/22/13: EBAY tagged a new three-month low on Friday but shares managed to pare its losses and close in positive territory. Big picture the up trend definitely looks like it's in trouble but shorter-term the stock is not seeing much follow through on the way down. I am adjusting our option from the July $50 put to the August $50 put.

Currently we are suggesting investors wait for a breakdown below $50.00 and use an entry trigger at $49.85.

FYI: The Point & Figure chart for EBAY is bearish with a $44 target.

Trigger @ 49.85

- Suggested Positions -

Buy the Aug $50 PUT (EBAY1317T50) current ask $1.97

06/22/13 adjust option strike from July $50 put to Aug. $50 put

chart:

Entry on June -- at $---.--
Average Daily Volume = 10.7 million
Listed on June 12, 2013


iShares Russell 2000 - IWM - close: 95.98 change: +0.29

Stop Loss: 97.50
Target(s): 94.20
Current Option Gain/Loss: +17.7%
Time Frame: 3 to 6 weeks
New Positions: see below

Comments:
06/22/13: The small cap Russell 2000 ETF (IWM) dipped to $94.63 on Friday before bouncing. That was almost a -5% correction from Tuesday's close at $99.50 so it's not surprising to see a little oversold bounce. The low on Friday also lines up with the short-term trend of lower lows.

We are not suggesting new positions at this time. I suspect the 100-dma could be support. The 100-dma has risen to $94.03. We will adjust our exit target to $94.20.

*Small Positions* - Suggested Positions -

Long Jul $95 PUT (IWM1320S95) entry $1.80

06/22/13 adjust exit target to $94.20
06/20/13 new stop loss @ 97.50, adjust exit target to $94.10
06/13/13 conservative traders may want to exit ASAP. The IWM has produced what appears to be a bullish reversal pattern but it needs confirmation.

chart:

Entry on June 11 at $97.45
Average Daily Volume = 43 million
Listed on June 08, 2013



Longer-Term Play Updates



Chicago Bridge & Iron - CBI - close: 59.13 change: -0.29

Stop Loss: 53.75
Target(s): 74.50
Current Option Gain/Loss: Unopened
Time Frame: 4 to 6 months
New Positions: Yes, see below

Comments:
06/22/13: CBI dipped to its simple 50-dma near $58.00 and bounced on Friday. We are expecting shares to test the 100-dma, currently at $56.71. Tonight we are adjusting our buy-the-dip entry point to $56.75.

Earlier Comments:
Last time we added CBI we successfully caught the bounce from mid April back toward its March highs. You can read the background details and bullish fundamentals for CBI in our original play description
here, since it still applies. Just scroll down to the "longer-term trades" section of the page.

Trigger @ 56.75 *Small Positions*

- Suggested Positions -

Buy the 2014 Jan $65 call (CBI1418A65)

06/22/13 adjust entry trigger to $56.75
06/15/13 entry strategy change: change the breakout trigger at $65.25 to a buy-the-dip trigger at $56.50. Adjust the stop loss to $53.75.
Adjust the option strike to the 2014 Jan. $65 call

chart:

Entry on June -- at $---.--
Average Daily Volume = 1.8 million
Listed on June 01, 2013