Option Investor
Newsletter

Daily Newsletter, Wednesday, 8/17/2016

Table of Contents

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

Market Wrap

Bulls On the Ropes

by Keene Little

Click here to email Keene Little
The stock market had been chugging higher this month but on much weaker volume and momentum. But it was looking like this opex week had the chance to be another bullish one, until the selling hit on Monday. Tuesday's selling continued today and some support levels were broken but the recovery off the morning low gives the bulls another chance to pull a rabbit out of the hat and save the week from being negative.

Today's Market Stats

The price pattern up until Tuesday's selloff was supporting the idea that we'd see the market hold up for at least a few more days before stronger selling might hit. But Tuesday's selling followed by the selling this morning had the bulls on the ropes and it wasn't looking good for them. Someone then stepped in to rescue the poor bulls and left Wednesday neutral, which in turn leaves the week looking like it could easily go either way. That's of course not very helpful for traders trying to pick a direction.

Until Tuesday's selloff we had the indexes in synch with rising wedge patterns for the leg up from August 2nd, which fit as the final leg for the rally from June 27th. But the rising wedge patterns did not finish and that leaves an unfinished pattern to the upside, which in turn leaves us guessing what kind of pullback we could get before proceeding higher. A more significant high could be in place but unfortunately that can only be guessed at this point without a supporting price pattern. The thing going for the bears, at least for the short term, is that short-term uptrend lines have broken and so far there's been no attempt to recover them.

Providing a little bit of volatility this afternoon was the release of the FOMC minutes from last month's meeting. In the minutes the Fed made reference to an improving economy but provided no hints or clues about when they might raise rates again. The market is left to wonder if September is still possible (highly unlikely) or if December will be the month (also not likely). The discussions that come out of the Jackson Hole meeting on August 26th might provide some more clues but probably not. I don't think the Fed has a clue about this economy and therefore when will be an appropriate time to raise rates. It's the lack of inflation that has the Fed flummoxed.

Making it more difficult for the Fed to even think about raising rates is that it would make the dollar stronger and hurt international trade. Most of the other central banks, including Japan, England and the ECB, are talking about further easing with more money, lower (negative) rates and more asset purchases. It's a little hard for the Fed to try to raise rates in that environment.

There's a big question about what there is left to drive this market higher. There's of course central bank money and government investments but with the European crisis hitting a lull (it will be back) and Brexit fears subsiding, the need to prop up the market has gone away (for now). Earning's expectations have helped some bullish sentiment but it turns out it wasn't a great earnings season.

With the earnings season winding down it could be difficult for the market to make more headway to the upside. Already it's been a slow grind higher on very low volume in the past week (lowest we've seen since 2007) and even though most companies "beat" earnings expectations, those expectations have been carefully managed by companies to ensure the stock analysts will provide numbers that the companies can beat. But those expectations have been consistently lowered and they're now struggling to keep them positive even while using all kinds of accounting tricks to do so. Companies are back to playing the games we saw at market tops in 2000 and 2007 (non-GAAP reporting).

Corporate buybacks have supported the stock market since 2009, adding well over $2T (that's a 'T') buying power to the market, which dwarfs anything the Fed has tried to do. Most of the corporate profits over the years have gone into stock buybacks, which prompts the question "what happens when corporate profits dry up?" Companies have also been on a debt binge, with rates so low, and then using the borrowed money to buy back more of their own stock. Investments in capital equipment and business expansion have been nil because the companies didn't see the demand out there. We've had a very slow recovery since 2009, the slowest since WWII.

At some point, especially with profits drying up, servicing all of the debt used to buy back stocks will become more difficult and lower profits, higher debt payments and fewer loans (bond issuance) will result in fewer stock buybacks. Lower profits also increases the P/E ratio since the 'E' is declining, which gives us a stock market that is becoming more overvalued that's been held up primarily through the support of corporate buybacks. When the music will stop is anyone's guess but with the profit decline now falling into negative territory I don't think the market has much more wiggle room higher.

The chart below shows corporate profits since 1965 (it's hard to read the top of the chart but the values include inventory and capital consumption adjustments). The main point of the chart is that whenever the corporate profits have dropped into negative territory, as it now has, it's been followed by a stock market correction (if not a crash). Will this time be different? That's a dangerous bet but obviously possible in this world of central bank money and government involvement.

Corporate Profits, 1965-2016, chart courtesy fred.stlouisfed.org

The larger point out of all of this is that there are fundamental reasons why the stock market should not be rallying. But the stock market has continued to rally in the face of all the weakness and that's an important message. Price is king and that's all that matters. It's like news -- it doesn't matter; the only thing that matters is how the market reacts to the news. Where is price going? And that's why we use charts and even though the charts have been showing us plenty of reasons to doubt the rally, and therefore not particularly helpful, it's the best tool we have. It's like Winston Churchill telling people that democracy is a lousy form of government, until you compare it to all the rest. So let's start with the SPX weekly chart and work down.


S&P 500, SPX, Weekly chart

The SPX weekly chart has the appearance of topping as MACD and RSI start to roll over. But on a weekly basis there's no bearish divergence to suggest this could be an important top and since MACD has not crossed down yet (even on my faster 8,13,5 setting) there remains the potential for the rally to continue higher as MACD and RSI flatten out in overbought. The price projection at 2223 is the 127% extension of the May 2015 - February 2016 pullback, a common Fib target/resistance level. It doesn't mean SPX will get there but it's a level of interest if reached. In the meantime it's looking vulnerable to at least a larger pullback and maybe something more bearish.


S&P 500, SPX, Daily chart

Monday's high for SPX was a test of the trend line along the highs from April-July and today's pullback was another test of its 20-dma, near 2175. I show another push higher to the trend line again, perhaps up to 2200 by mid-week next week. Above 2200 would be more bullish, in which case I'd look for 2223 mentioned on the weekly chart above. The big strike against the bulls is the significant bearish divergence on MACD. This can of course be negated with another rally but it's showing the weak momentum for the rally from August 2nd, which fits as the 5th wave of the rally from June 27th. If the 5th wave completed on Monday we'll get at least a larger pullback (test the May 2015 high near 2135?) and maybe something more bearish.

Key Levels for SPX:
- bullish above 2200
- bearish below 2147


S&P 500, SPX, 30-min chart

I'm trying to make sense of the shorter-term wave pattern since that's usually a good way to see a setup for a reversal. Unfortunately all we're getting are corrective moves in both directions. That typically means it's an ending pattern and the setup going into Tuesday was for a pullback and then one more leg up to finish a rising wedge pattern. The completion of a rising wedge would have been a great setup for a reversal to trade but that setup got blown out of the water with the Tuesday-Wednesday decline. But that decline turned into just another 3-wave move (labeled a-b-c on the chart), which means it could head higher from here or it could be part of a larger pullback before heading back up. The bottom line though is that without a clean ending pattern to the upside the odds are we'll get another push higher from here or after a larger pullback. Short-term trading in this corrective price environment is the best (and most difficult) way to trade -- get in and out quickly before the market reverses again.


Dow Industrials, INDU, Daily chart

The Dow's daily chart is similar to SPX with just a little more upside potential than SPX to reach its trend line along the highs from April July, which was not tested with Monday's high like SPX did. I have two price projections based on its pattern that correlate closely -- on at 18778 and the other at 18828, so basically a 50-point spread from about 18780 to 18830. The trend line along the highs crosses these projections on tomorrow and August 26th. It doesn't mean the Dow will get up to that target zone, or stop there, but watch closely for a possible high if reached (if a high is not already in place).

Key Levels for DOW:
- bullish above 18,830
- bearish below 18,247


Nasdaq-100, NDX, Daily chart

The biggest negative I see for the NDX is its breakout failure. Last week it struggled to get above its March 2000 high at 4816.35 but then did so with Monday morning's gap up and close at 4827. The problem for the bulls was Monday's volume was the lowest seen since 2007 so it was hardly a bullish breakout. And then on Tuesday it dropped back below 4816 and dropped further today before recovering back into the green, but still below 4816. This leaves a failed breakout attempt as traders take profits after having achieved the short-term victory with a new all-time high. Now there's the risk for profit taking to turn into a more significant decline as more trader stops are hit. Between its 20-dma, near 4750 on Thursday, and its December 2015 high, near 4740, there should be good support if reached. A drop below 4740 would signal something potentially a lot more bearish happening. However, like the blue chips, the pullback from Monday is a 3-wave pullback and it could lead to another push higher directly from here or possibly after a little larger corrective pullback.

Key Levels for NDX:
- bullish above 4820
- bearish below 4689


Russell-2000, RUT, Daily chart

The RUT is in the same pattern as the others and it's the 3-wave move up from August 3rd that has me wondering if maybe we're see a larger rising wedge pattern for the rally to hold up into the end of the month, which I depict in green on its chart. This would be a very frustrating pattern for traders on both sides but I think especially for bears who are already extremely frustrated in this market's ability to simply float higher (albeit slowly) in the face of deteriorating economics and earnings. To bears the question is what kind of catalyst is it going to take to knock this market down. If the RUT drops below price-level S/R near 1215 it's going to look more bearish and as with the others, a drop below the August lows would tell us the top is in place. Whether that top will be just temporary or something more significant would have to be figured out later but for now, the bulls maintain control as long as the pullbacks remain corrective.

Key Levels for RUT:
- bullish above 1244
- bearish below 1198

I mentioned the possibility for the RUT (and the broader market) to push higher into the end of the month and this is supported by relationships between important dates on the Gann Square of Nine chart. Projections from important dates, starting from the 1929 crash, are aligning in the first week of September. The March 2000 high was followed by a September 1, 2000 high and that led to a strong decline into September 2001. Looking at Fibonacci and Gann projections sees additional pointers to the 1st week of September this year so the price projection shown on the RUT's chart would meet both a time projection and price pattern for completion of the rally. For now it's just something I'm watching for while staying aware of the possibility the high is now already in place.


KBW Bank index, BKX, Daily chart

How the banks are doing is usually a good indicator for the broader stock market and at the moment BKX is threatening to break its downtrend line from July-December 2015, near 70 (today it closed at 70.05. Following its failed attempt to break its downtrend line on August 8th it will either be successful here or form a double top at an important downtrend line. A drop below last Friday's low at 68.57 would be a bearish heads up.


Transportation Index, TRAN, Daily chart

A downtrend line from August-November 2015 is where the TRAN was stopped in April and again in July. Currently near 7966, it's only a little higher than where it's currently trading (today's close was 7882). But short term, the TRAN broken its uptrend line from June 27th today and then bounced back up to it by the close. That leaves a potential back-test and bearish kiss goodbye if it sells off on Thursday. Otherwise watch for another test of its downtrend line.


U.S. Dollar contract, DX, Weekly chart

The US$ has pulled back from its July 25th high is what is so far a 3-wave correction to the rally from May. Two equal legs down for the pullback points to 93.82 (yesterday's low was 94.38) so there's a little more downside room for just a normal pullback but at the moment it's holding the bottom of a parallel up-channel from May, currently near 94.75. On the weekly chart you can see the top of its parallel up-channel from 2008 (bold blue line) and the top of the up-channel from May 2011, near 94.27 and 93.57, respectively. Yesterday's low nearly tagged the higher level while the projection for two equal legs down is closer to the lower level. Therefore I wouldn't consider the dollar more bearish until it drops below 93.50 but even then it should still stay range bound if it stays above the May 2nd high at 91.88.


Gold continuous contract, GC, Weekly chart

Gold is showing bearish divergence on its daily and weekly charts since March and a steeper divergence since July) so it's questionable whether or not we'll see another high for gold. But it still like the pattern that supports one more new high to a 1417.50 price projection or at least to its downtrend line from September 2011 - October 2012, currently near 1405. A drop below price support at 1308 and then its uptrend line from December 2015, near 1285 (which is also the 38% retracement of its 2001-2011 rally), would be an indication the top is in place. Whether that top will be just one of many in a new bull market or instead the top of a bounce correction that will lead to a lower price (the way I'm currently leaning) will have to be figured out after the pullback/decline gets started.


Oil continuous contract, CL, Daily chart

Last week oil broke out of its down-channel that it had been in since the June 8th high. It's been in a strong rally since the breakout and on Tuesday it broke back above its 50-dma at 45.70, which has it looking more bullish. There are only a couple more things the oil bulls need to do to prove we have more than just a bounce correction off the August 3rd low. First is to rally above the 62% retracement of its decline from June, which is at 46.90 (today's high was 46.95 but it closed at 46.84). The second thing oil needs to do is break its downtrend line from June 2014 - June 2016, currently near 47.90. And with those two things done it will have broken its downtrend line on MACD, which it's currently testing. But the bearish setup here is for the 3-wave bounce off the August 3rd low to lead to the next leg down so it's going to be important what oil does from here. A continued rally in oil could add support for the stock market.


Economic reports

Tomorrow we'll get the unemployment numbers, the Philly Fed index and Leading Indicators. Other than the Philly Fed index, if it surprises one way or the other, these won't be market moving. There are no major economic reports on Friday.


Conclusion

The pullback from Monday's high has the potential to lead to something stronger to the downside but with the decent bounce off today's low there is an equal chance the market will simply continue marching higher from here. The price pattern remains corrective and that keeps both sides guessing which way this market will head from here. We could get a larger pullback pattern before heading higher or of course it could continue to drop lower.

The recent buying has been on very weak volume and declining momentum so it's hard to bet on the upside. But this rally has defied both fundamental and technical reasons why the rally should have failed long ago and it could continue to defy those reasons. As mentioned earlier, there are some timing reasons why the rally could continue into the first week of September and while the rally might be a laboring choppy affair, it would still frustrate the hell out of the bears. Without seeing an impulsive decline I'm inclined to think the top of this rally is not in yet.

Having said that, I think downside risk dwarfs upside potential and because of that and the potential choppy move higher I'd be reluctant to trade big in either direction for now. Trade small and trade quick while we wait to see how the rest of the month plays out.

Good luck and I'll be back with you next Wednesday.

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


New Option Plays

Got Tools?

by Jim Brown

Click here to email Jim Brown

Editors Note:

Shares of Illinois Tool Works have been moving to new highs after beating earnings. Tuesday's dip from a new high may have provided a buying opportunity.



NEW DIRECTIONAL CALL PLAYS

ITW - Illinois Tool Works - Company Profile

Illinois Tool Works Inc. manufactures and sells industrial products and equipment worldwide. It operates through seven segments: Automotive OEM; Test & Measurement and Electronics; Food Equipment; Polymers & Fluids; Welding; Construction Products; and Specialty Products. The company distributes its products directly to industrial manufacturers, as well as through independent distributors. Illinois Tool Works Inc. was founded in 1912.

In late July, ITW reported earnings of $1.46 that rose 12.3% and beat estimates for $1.40. Revenue of $3.43 billion beat estimates for $3.40 billion. ITW guided for Q3 earnings of $1.42-$1.52 compared to analyst estimates for $1.46. The company raised full year guidance for earnings by 10 cents to the $5.50-$5.70 range. Analysts were expecting $5.51 per share.

The stock jumped from $111 to $115 on the news and then traded sideways for two weeks on post earnings consolidation. In early August the shares started a slow climb to hit $119 and a new high. Every day I thought about recommending ITW but I kept waiting for a pullback. We saw a minor decline on Tuesday to $118 and a positive gain on Wednesday. This may be our chance to buy a dip, even as small as it was.

Earnings Oct 19th.

With an ITW trade at $119.25

Buy Dec $125 call, currently $2.00. No initial stop loss.

If you want to buy the $120 strike you could turn it into a spread by buying the Dec $120 and selling the Dec $130. The net debit today would be $3.40. I still think that is expensive and why I recommended the $125 call.


NEW DIRECTIONAL PUT PLAYS

No New Bearish Plays



In Play Updates and Reviews

Fed Surprise

by Jim Brown

Click here to email Jim Brown

Editors Note:

The FOMC minutes actually lifted the market today when they normally depress equities. The minutes showed a deeply divided Fed that is not likely to hike rates in September even though they insist on leaving the door open and call that an open meeting. The minutes also painted a picture of a weaker economy even with the strong jobs report. They also warned that Brexit risks remained. The indexes sold off hard in the morning but rebounded after the minutes to close with minor gains.

After the bell tonight, Japan said July exports fell -14% and imports fell -24.7%. The Asian markets are poised to open lower on the news. In the U.S. the Russell 2000 did not make it back to positive territory unlike the other indexes. The index did find new support at 1,221,50 but could easily break lower if the markets remain directionally challenged.



Current Portfolio


Stop Loss Updates

Check the graphic below for any new stop losses in bright yellow. We need to always be prepared for an unexpected decline.


Profit Targets

Check the graphic below for any profit stops in green. We need to always be prepared for a profit exit at resistance.




Current Position Changes


No Changes



If you are looking for a different type of option strategy, try these newsletters:

Credit spreads and naked puts = OptionWriter

Long term option investments = LEAPS Investor

3-6 month Option Trades = Ultimate Investor

Iron Condors = Couch Potato Trader

Long and short equity trades = Premier Investor



BULLISH Play Updates


AAPL - Apple Inc - Company Profile

Comments:

Apple received some bad news from Target. The retailer said sales of Apple products declined -20% in the quarter. They also said they were working with Apple to rebuild those sales in Q3/Q4 with new marketing plans for the iPhone and MacBook Pro.

Original Trade Description: August 3rd.

Apple Inc. designs, manufactures, and markets mobile communication and media devices, personal computers, and portable digital music players to consumers, small and mid-sized businesses, education, and enterprise and government customers worldwide. The company offers iPhone, a line of smartphones; iPad, a line of multi-purpose tablets; and Mac, a line of desktop and portable personal computers. The company also provides iLife, a consumer-oriented digital lifestyle software application suite; iWork, an integrated productivity suite that helps users create, present, and publish documents, presentations, and spreadsheets; and other application software, such as Final Cut Pro, Logic Pro X, and FileMaker Pro. In addition, it offers Apple TV that connects to consumers' TV and enables them to access digital content directly for streaming high definition video, playing music and games, and viewing photos; Apple Watch, a personal electronic device; and iPod, a line of portable digital music and media players. Additionally, it offers iCloud, a cloud service; AppleCare that offers support options for its customers; and Apple Pay, a mobile payment service. The company sells and delivers digital content and applications through the iTunes Store, App Store, iBooks Store, Mac App Store, and Apple Music. It also sells its products through its retail and online stores, and direct sales force, as well as through third-party cellular network carriers, wholesalers, retailers, and value-added resellers.

Multiple leaks from vendors now point to an earlier release of the iPhone 7 on September 7th. That is a week earlier than normal and it stems from the iPhone 7 on the 7th. Pre-orders will start on the 9th and the actual first sale date on September 16th. This will give Apple an extra week of sales in Q3 and help boost their revenue for the quarter. I am sure that was also a motive behind the earlier release date. That will help Apple meet earnings and revenue estimates for Q3. Last time around the iPHone 6S and 6S+ did not go on sale until September 25th.

Other leaks confirm Apple is scrapping the 16gb model. The available memory range will no longer be 16/64/126gb but jump to 32/128/256gb. The prices for the 7 are reported to be $649, $749 and $849. The 7 Plus will be $749, $849 and $949. Those numbers roughly equate to a discount of $100 each over the 6s and 6S Plus models because the base memory increment doubled without an increase in price.

Lastly, there are numerous other leaks that suggest Apple is going to announce a brand new iPhone in September 2017 with a massive number of new design features to commemorate the 10th anniversary of the iPhone product. While that will not impact Apple's share price this season it is something to watch in 2017 and we need to get the trade launched immediately after the July earnings.

For this year, Apple shares spiked to $104 on the better than expected earnings. After spending a week consolidating, the shares are starting to move up again. Typically, they rally from early August until the actual announcement then suffer a sell the news event decline. I am recommending October options so there is still some expectation premium left when we exit in early September.

Position 8/4/16:

Long Oct $110 call @ $2.19, see portfolio graphic for stop loss.


AKAM - Akamai Technologies - Company Profile

Comments:

Akamai shook off a downgrade by Zacks to strong sell and gained +34 cents for the day. In my opinion this is old news and there is little remaining impact from the Facebook and Amazon weakness in Q2.

Original Trade Description: August 13th.

Akamai Technologies, Inc. provides cloud services for delivering, optimizing, and securing content and business applications over the Internet in the United States and internationally. The company offers performance and security solutions designed to help Websites and business applications operate while offering protection against security threats. It also provides media content delivery solutions that are designed to deliver movies, television shows, live events, games, social media, software downloads, and other content on the Internet in fixed line and mobile networks; adaptive delivery solutions for streaming video content; and download delivery solution that offers accelerated distribution for large file downloads, including games, progressive media files, documents, and other file-based content.

If you have a large amount of content on the web that is routinely downloaded by thousands or even millions of people around the world, Akamai has the solution. Assume you are a streaming media company with 20,000 downloadable movies. If all those downloads were streamed out of one location to thousands of customers around the world, the bandwidth and server horsepower required at the host location would be enormous. Delays would result when everyone started downloading movies after dinner in the evening.

Akamai solves this problem by cloning your download library and spreading copies around in multiple locations around the world. When a customer clicks on a movie to download, that movie is sent from the location closest to him. In the Internet world distance is time. The farther you are from the website location the longer the downloads will take because they have to pass through dozens of "pipes" and "routers" as they make their way to your. By putting heavily used content in major geographic locations, Akamai shortens the distance for those in that area. Akamai also provides security and redundancy for the companies providing the source data.

In the Q2 report Akamai reported earnings of 64 cents on a 6% rise in revenue of $572 million. Analysts were expecting 64 cents and $575 million. The cloud security solutions unit saw revenue rise +42% to an annualized rate of $360 million. International revenue rose 25% to $177 million.

The problem came from the USA where revenue declined -1%. Two of the company's largest customers, Facebook and Amazon, began remotely hosting more of their own content and that reduced revenue. Those two companies were previously 12% of Akami revenue and they declined to 5%. The company guided for Q3 earnings of 59-62 cents on revenue of $566-$578 million. Analysts were expecting 66 cents on revenue of $590 million.

The key point here is that overall revenues rose 6% despite the sharp decline in revenue from Facebook and Amazon. The second point is that now they are only 5% of total revenue and they cannot decline much farther. Akamai said those two customers were building their own "content distribution network" or CDN, which is a very expensive undertaking and the vast majority of Akamai customers could not afford to do that. Obviously Amazon has AWS with massive datacenters all around the world so it only makes sense for them to clone their own content into multiple locations. That is the same with Facebook. They have hundreds of thousands of servers in secure locations all around the world and no longer need Akamai to handle the bulk of their data delivery.

With Akamai continuing to grow even when 7% of their prior revenue base went away, it shows how strong the business really is today. The rapidly growing cloud security solutions business and the international growth will continue to accelerate.

Akamai shares fell from $58 to $48 on the lowered guidance. After trading sideways for two weeks with no further declines, Wells Fargo upgraded them from neutral to buy on Thursday. I believe they will recover their pre earnings level of $58, which just happened to be an eight month high.

Earnings are October 25th.

Position 8/15/16:

Long Nov $55 Call @ $2.46, see portfolio graphic for stop loss.


GIII - G-III Apparel Group - Company Profile

Comments:

No specific news. GIII was down on overall weakness in the entire retail sector after Target imploded and fell -6% on earnings.

Original Trade Description: August 3rd.

G-III Apparel Group, Ltd. designs, manufactures, and markets men's and women's apparel. It markets swimwear, resort wear, and related accessories under the Vilebrequin brand; footwear, apparel, and accessories under Bass and G.H. Bass brands; and apparel products under Andrew Marc, Marc New York, Jessica Howard, Eliza J and Black Rivet, Weejuns, and other private retail labels. G-III Apparel Group, Ltd. also licenses its products under the Calvin Klein, ck Calvin Klein, Karl Lagerfeld, Guess, Guess?, Kenneth Cole NY, Reaction Kenneth Cole, Cole Haan, Levi's, Vince Camuto, Tommy Hilfiger, Jessica Simpson, Ivanka Trump, Jones New York, Ellen Tracy, Kensie, Dockers, Wilsons, G-III Sports by Carl Banks, and G-III for Her brands, as well as have licenses with the National Football League, Major League Baseball, National Basketball Association, National Hockey League, Touch by Alyssa Milano, Hands High, Collegiate Licensing Company, Major League Soccer, and Starter. The company offers its products to department, specialty, and mass merchant retail stores in the United States, Canada, Europe, and the Far East; and distributes products through its retail stores, as well as through G.H. Bass, Wilsons Leather, Vilebrequin, and Andrew Marc Websites. As of January 31, 2016, it operated 199 Wilsons Leather stores, 163 G.H. Bass stores, and 5 Calvin Klein performance stores. G-III Apparel Group, Ltd. was founded in 1956.

G-III has been on a buying binge the last several years. They are expanding their brands and expanding the marketing of existing brands with license agreements with other companies.

Last week G-III announced the acquisition of the Donna Karan brand from LVMH for $650 million in a combination of cash, stock and notes. Several analysts immediately downgraded the stock saying they paid too much and it would be dilutive to earnings in 2017. The stock crashed from $50 to $38. The Cowen analyst said the price was too high compared to the brand's potential and return on capital from the acquisition.

Donna Karan has a large international presence and G-III is focused on growing its business in the USA. Analysts thought this was the wrong brand at this time. However, G-III believes they can expand the brand globally and especially in the US. G-III Press release I happen to be familiar with it because it was my wife's favorite brand in the 1980s but she had trouble finding it in the US.

I believe G-III will be successful with the brand but we are talking a couple years. We are not going to hold the stock that long. In the short term the stock is oversold and we are going to enter a position to capture a bounce. G-III has a good reputation and they were in a two-month uptrend when the announcement was made. I beleive that trend will return. If the market rolls over investors are going to be looking for stocks that have already been beaten up as potential safe havens. If the market goes higher, eventually investors are going to be looking for stocks that are not over extended. G-III fits the bill on both counts.

Earnings August 31st.

Position 8/4/16

Long Sept $45 call @ 90 cents. See portfolio graphic for stop loss.

Previously closed 8/3/16: Long Sept $45 call @ $1.15, exit .60, -.55 loss.


LL - Lumber Liquidators - Company Description

Comments:

No specific news. Shares spiked to $17.84 at the open after the California Superior Court ruled in favor of LL on failed warnings about cancer-causing formaldehyde in some products. The two groups suing LL will have to pay $100,000 to LL to reimburse legal fees.

We entered this as a long-term position with the November call. I wish the Q2 earnings were better but that is behind us now. We are going to hold the position and hope the pre earnings rally returns.

Original Trade Description: July 7th.

Lumber Liquidators operates as a multi-channel specialty retailer of hardwood flooring, and hardwood flooring enhancements and accessories. It primarily offers hardwood species, engineered hardwood, laminates, and resilient vinyl flooring; renewable flooring, and bamboo and cork products; and a selection of flooring enhancements and accessories, including moldings, noise-reducing underlay, adhesives, and flooring tools. The company also provides in-home delivery and installation services. The company offers its products primarily under the Bellawood brand and Lumber Liquidators name. It primarily serves homeowners, or to contractors on behalf of homeowners. As of December 31, 2015, it operated 366 stores in the United States and 8 stores in Canada.

LL was trashed in March 2015 after a 60 Minutes report that the laminate flooring sourced from China had excessive levels of formaldehyde. Shares dropped from the prior close just under $70 to $10 earlier this year. Sales plummeted and earnings took a dive.

On Friday the company announced that the Consumer Products Safety Committee (CPSC) had closed their investigation and the only concession LL had to make was to not sell laminate flooring made in China. Since they already stopped that practice 13 months ago, it was basically a get out of jail free card. Shares spiked 19% on Friday to $15.78.

The company also reported that they had tested 15,000 homes with that flooring installed and NONE of those homes had chemical levels over the recommended norms. Of those 70,000 homes some 1,300 underwent special testing by a certified laboratory and NONE of those homes tested above safe levels either.

The CPSC also warned about ripping out the existing flooring and replacing it. They said the process of ripping it out would expose homeowners to excess levels of the chemical so that removes the possibility of a massive recall problem by LL.

LL has a class action suit brought by homeowners but with the CPCS saying there is no problem with the installed floor the suit just lost its main reason for existing. I am sure it will continue and they will try to get some damages but proving you have been damaged when there is no problem is going to be a challenge.

LL escaped a massive recall. They will probably settle for peanuts on the class action suit and there were no fines or penalties. They are probably celebrating all weekend at the corporate headquarters.

Now all they have to do is win back the customers. Same store sales have been down 10-13% because of the looming problems. Now that they can claim there never was any problem they can launch a massive advertising campaign and sales should recover. It may be slow at first but they still have a good selection of products at the right prices.

While their troubles may not be completely over they are light years closer to business as usual than they were a week ago. Funds and investors have ignored their stock but with the all clear from the CPSC they should come flooding back in hopes of getting a bargain entry.

Earnings July 27th.

LL shares spiked to $16 on the news back in mid June. They moved sideways until the Brexit crash and lost altitude back to $14. Today's close was a six-month high over that headline spike in June. I believe the stock is poised to go higher now that it is trying to pull out of its yearlong consolidation.

I am going to recommend a longer-term option and suggest we hold over the July 27th earnings. They would be hard pressed to say anything more negative than what the market already expects. The potential for good news and positive guidance is very good.

Position 7/8/16:

Long Nov $18 call @ $2.15. No stop loss because of the cheap option and the longer term.


NOW- ServiceNow Inc - Company Profile

Comments:

No specific news and another big drop. The $72.85 level is support and that is where it stopped today.

Original Trade Description: August 15th.

ServiceNow, Inc. provides enterprise cloud-based solutions that define, structure, manage, and automate services in North America, Europe, the Middle East, Africa, the Asia Pacific, and internationally. It offers service management solutions, including incident management, problem management, change management, and request management, as well as service catalog and knowledge base; and information technology (IT), HR, customer service, security operations, facilities, and field service management solutions. The company also provides business management solutions, such as financial management solutions; project portfolio suite that provides capabilities to plan, organize, and manage projects; governance, risk, and compliance solution that provides clarity into compliance and audit initiatives; and performance analytics solutions. It serves enterprises in various industries, including financial services, consumer products, IT services, health care, and technology.

In late July the company posted earnings of 15 cents that beat analyst estimates for 10 cents. Revenue rose 38% to $341.3 million and beating estimates for $334 million. Billings rose 33% to $375 million. Emerging product revenue rose 40%, up from 24% in the year ago quarter. Two-thirds of their customers now license more than one product and 15 of the top 20 new deals included three of more products. They now have more than 272 customers paying more than $1 million each in annual license revenues, an increase of 26 for the quarter.

They guided for revenue in Q3 of $350-$354 million and analysts were expecting $349 million. Full year guidance was for revenue of $1.37-$1.38 billion and above analyst estimates for $1.37 billion. Subscription revenues are expected to rise 40%. Subscription revenue gross margin is expected to be 84%. Total revenues are expected to rise 35%.

Mizuho recently upgraded them from neutral to buy with an $85 price target.

Earnings Oct 26th.

Shares spiked on earnings then declined in the post earnings depression phase. After two weeks of choppy gains they are about to break out to a new 8-month high. Unfortunately, option premiums are high so this will have to be a spread. Shares closed at $76.74 and the $80 strike is $4.70 and the $85 strike at $2.85. I do not really want to just buy the $85 strike because that is $8 OTM. To solve this problem I am recommending we buy the $80 strike and sell the $90 strike, currently $1.35. The stock hit a high of $91 back in December.

Position 8/16/16:

Long Nov $80 call @ $4.70, see portfolio graphic for stop loss.
Short Nov $90 call @ $1.20, no initial stop loss.
Net debit $3.35.


PAG - Penske Automotive Group - Company Profile

Comments:

No specific news. Shares recovered the minor losses from Tuesday to close at a 7-month high.

Original Trade Description: August 10th.

Penske Automotive Group, Inc. operates as a transportation services company. The company operates through three segments: Retail Automotive, Retail Commercial Truck, and Other. It operates retail automotive and commercial vehicle dealerships principally in the United States and Western Europe; and distributes commercial vehicles, diesel engines, gas engines, power systems, and related parts and services primarily in Australia and New Zealand. The company engages in the sale of new and used motor vehicles; and related products and services, such as vehicle service and collision repair services, as well as placement of finance and lease contracts, third-party insurance products, and other aftermarket products. The company also operates 14 dealerships locations of heavy and medium duty trucks primarily under Freightliner and Western Star brand names, as well as offers a range of used trucks, and service and parts. Further, the company distributes commercial vehicles and parts to a network of more than 70 dealership locations, including 3 company-owned retail commercial vehicle dealerships. At the end of 2015 they operated 355 automotive retail franchises with 181 in the USA, and 174 outside the US, primarily in the UK.

For Q2 they reported earnings of $1.11 and beat estimates for $1.08. Revenue rose 6.8% to $5.3 billion and also beating estimates for $5.1 billion. On a constant currency basis revenue rose 9.2%. They sold 115,106 vehicles in Q2. Gross profits rose 5.5% to $771.3 million. Cash on hand rose from $62 million to $97 million.

On July 27th Penske Automotive acquired an additional 14.4% interest in Penske Truck Leasing from GE Capital for $498.7 million. That raised their ownership to 23.4%. They expect this to add 25 cents to earnings on annual basis. In April a Penske subsidiary, Premier Truck Group acquired Harper Truck Centers, a commercial truck dealership in Ontario Canada. The acquisition will add $130 million in annual revenue.

On August 2nd Chairman and CEO, Roger Penske, acquired 710,121 shares for an averge price of $39.10 for a total value of $27,765,730. Since 2010 Roger had sold 501,326 shares in three transactions. That makes his recent buy even more important because if marks a change in sentiment.

Update: On August 10th CEO Roger Penske bought another 151,412 shares for $6 million. Roger Penske acquired another 50,000 shares on August 11th at an average price of $41.40. He is on a buying binge with new positions every 2-3 days. Just in August he has purchased nearly one million shares for roughly $40 million. That brings his total ownership to 31,066,574 shares. There are only 85 million outstanding. It looks like he may be taking the company private, one bite at a time.

Earnings Oct 27th.

PAG shares are about to break over long-term resistance at $40. Shares closed at $40.20 and that complicates the trade. If we buy the $45 call, which is only $1, the stock has to move $5 to really make a difference in the option price. If we buy the ITM call at $40, which is $2.95 we are paying an ATM premium that will decline as it moves farther into the money. However, for every $1 the stock raises the option will appreciate significantly. Currently the $35 call is $6.30. That is what we could expect the $40 call to be worth if the stock rises to $45. At the same time, the $45 call would rise from the current $1 to $2.95. Do we invest $3 to make $3 or do we invest $1 to make $2? I am going to recommend the $45 call because of the lower cost, lower risk and higher percentage return if PAG rises to $45. The risk is that it stalls somewhere between $40 and $45 and we never reach the ITM premium level before the Oct earnings. I believe this chart is worth the risk. I am going to put a $41 trigger on it to make sure it breaks through that resistance.

Position 8/11/16 with a PAG trade at $41.00

Long Nov $45 call @ $1.35, no initial stop loss.



BEARISH Play Updates (Alpha by Symbol)

DIA - Dow Jones ETF - ETF Profile

Comments:

The Dow dropped sharply at the open but the FOMC minutes revived the buying interest to return to positive territory. The six weeks after August option expiration are the most volatile of the entire year.

Original Trade Description: August 1st.

The Dow posted another lower low as it fades from the 18,622 intraday high set back on July 20th. The last three days the Dow has traded under support at 18,400 only to rebound back over that level at the close. The 18,350 level is secondary support and today's low was 18,355.

All but six Dow components have reported earnings and there are only two reporting this week. Those are PG and PFE on Tuesday. The Dow is experiencing post earnings depression. After a stock reports earnings there is typically a period where it declines as traders leave that stock in search of something else to trade that has not yet reported.

PG 8/2
PFE 8/2
DIS 8/9
HD 8/16
CSCO 8/17
WMT 8/18

The Dow is very over extended, suffering post earnings depression and heading into the two weakest months of the year, which are seasonal decliners.

Bank of America expects a 10-15% decline over the next two months.

Goldman Sachs said this morning they expect a 5-10% decline. Goldman said, rising uncertainty in the U.S. and globally, negative earnings revisions, decelerating buybacks and overly dovish Fed expectations would send the market lower over the next several months.

Jeffrey Gundlach of DoubleLine with $100 billion under management, said "sell everything" most asset classes are "frothy and nothing here looks good." "Stock investors have entered a world of uber complacency." "Investors seem to have been hypnotized that nothing can go wrong." He expects the next big money to be made on the short side.

Peter Boockcar, chief market analyst at the Lindsey Group, said, "Take off the beer goggles, the markets are dangerous. To me, the U.S. stock market is the most expensive in the world."

According to Bespoke, over the last 20 years the Dow has performed the worst in August of any other month.

However, just because some big names and big banks turn negative on the market, it does not mean it is guaranteed to move lower. Markets tend to move in the direction that will confound the most people at any given time.

I believe we should accept the risk and launch another index short using the Dow ETF (DIA) since it is the weakest in August. The Dow has risk to 18,000 and a breakdown there could take it back to 17,400.

I am going to recommend an October put spread so we can capitalize on any decline that lasts into September. Typically market bottoms are in October. If you do not want to use a spread, I would buy the September $182 puts, currently $2.55. Just remember, once we are into September the premiums will decline sharply.

Position 8/2/16:

Long Oct $182 put @ $3.98, no initial stop loss.
Short Oct $172 put @ $1.73, no initial stop loss.
Net debit $2.25


SIX - Six Flags - Company Profile

Comments:

No specific news. New six-month intraday low.

Original Trade Description: July 2nd.

Six Flags Entertainment Corporation owns and operates regional theme and water parks under the Six Flags brand name. The company's parks offer various thrill rides, water attractions, themed areas, concerts and shows, restaurants, game venues, and retail outlets, as well as family-oriented entertainment. It owns and operates 18 parks, including 16 parks in the United States; 1 park in Mexico City, Mexico; and 1 park in Montreal, Canada.

In their Q2 report they only generated earnings of 64 cents that missed estimates for 70 cents. Revenue of $407 million was only slightly above estimates for $406.4 million. The company said it sold $300 million in notes in a private placement and would implement a stock repurchase plan.

The problem for Six Flags is that even with low gasoline prices the 2016 attendance only rose 2% in Q2 despite promotions and discounts. People are not rushing out to theme parks this year like they were in the past. Tickets to similar attractions have become so expensive that consumers would rather spend the money on a new cellphone, video game or clothes. Six Flags is currently discounting tickets from $72.99 to $47.99 in an effort to squeeze a few more customers in before Labor Day. Young adult families are faced with spending $400 for 2 adults and 2 kids for a one-day visit including parking and food. Parking is $23.00 and obviously another way to squeeze you for extra money at the gate. $400 is a lot of money in this economy.

Consumers are also staying away from high traffic locations in fear of a terrorist attack and this is not going to change in the near future. In America, we have been fortunate but our time is running out and quite a few consumers are avoiding malls, theaters, concerts and theme parks.

Shares fell $3 on the report and bounced for only one day. A new downtrend has developed and Monday's close was a four month low. Shares have risk to $50 or even $45 depending on the overall market.

Position 8/9/16:

Long December $50 put @ $1.94. See portfolio graphic for stop loss.




If you like the trade setups you have been receiving and you are on a free trial then now is the time to subscribe. Don't wait until you miss a newsletter to decide you want to take the plunge.

subscribe now