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Daily Newsletter, Saturday, 9/3/2016

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

Market Wrap

Bad News is Good News

by Jim Brown

Click here to email Jim Brown

We are back to the point in the market where bad economic news is good news for the indexes.

Weekly Statistics

Friday Statistics

It is hard to understand why the market is so afraid of a quarter-point rate hike. The payroll report came in weaker than expected and the market spiked on the idea rate hike expectations had been pushed out to the December meeting. This is not rational since the Fed is committed to a gradual rate cycle. A quarter-point hike would not have any material impact to the economy or the market but the expectations for that hike are market negative. Old habits die hard and after decades of doing the rate hike rotation, some traders are simply stuck in a rut.

The Nonfarm Payrolls posted a gain of only 151,000 jobs for August compared to expectations for 180,000. The headline number was at the bottom of the neutral range from 150,000-190,000 and borderline negative. Like Goldilocks' porridge, it was not too hot but bordered on being almost too cold.

The June headline number was revised down from 292,000 to 271,000 but the July number was revised up from 255,000 to 275,000 making the revisions a net loss of 1,000 jobs.

August is the month where most misses occur and it is the month with the largest revisions averaging an eventual gain of 61,000 jobs. If the average revision occurred, it would raise the headline number to 212,000 jobs but take two months for those revisions to be released.

The number most analysts expected to push the Fed into hiking rates was anything over 180,000. Anything over 200,000 was considered almost a sure bet for a rate hike.

As usual, there were a lot of warts on the report. Manufacturing jobs declined -14,000. Service jobs rose +175,000. The average hourly earnings rose only +0.1% and the average workweek declined from 34.4 to 34.3 hours. That decline was the equivalent of losing -225,000 full time workers. That tenth of an hour adds up when you have 151.6 million workers.

The U3 unemployment rate was unchanged for the third consecutive month at 4.9%. The broader U6 unemployment rate was also flat at 9.7%. The labor force expanded by 176,000 workers, a somewhat slower pace than the 400,000+ worker additions over the prior two months. The labor force participation rate was also unchanged at 62.8%.

The number of people employed part time because full time jobs were not available was flat at 6.1 million. Another 1.7 million workers were marginally attached to the labor force. These workers are unemployed and would work if jobs were available but had not looked for a job in the prior four weeks. Another 576,000 workers were classified as discouraged and have given up looking for work. More than 1.1 million had not looked for work because of family responsibilities or other conflicts.

Food service employment (low paying, part time jobs) rose +34,000. Social workers rose +22,000, professional and technical +20,000, financial +15,000, health care +14,000, hospitals +11,000. Mining and energy lost -11,000 jobs bringing the total since September 2014 to -223,000. Manufacturing lost -14,000.

Since 2014, the U.S. has added 523,000 food service jobs and lost -13,000 manufacturing jobs. In 2016 alone food service jobs have risen +314,000. Food service jobs (waiters and bartenders) have risen in 77 of the last 78 months. It takes 2 or 3 part time jobs to replace the income lost from one full time job so those unable to find a new full time job have to work more than one part time job to keep food on the table and gas in the tank. Employers are also reducing hours to less than 30 so they do not have to provide insurance. That forces people to get a second job.



The ISM NY crashed back into contraction, falling from 60.7 in July to 47.5 in August. This followed the national ISM Manufacturing falling from 52.6 and back into contraction at 49.4 for August.

This was the third time in four months the ISM-NY has been in contraction following seven consecutive months in expansion territory. The quantity of purchases component fell from 48.3 to 44.6 indicating slowing orders. However, the employment component rose from 45.3 to 54.9 and the six-month outlook rose from 56.8 to 65.5.

Factory orders rebounded from the -1.5% decline in June to a +1.9% rise in July. However, the year over year unfilled order rate is still negative as it has been since early 2015. Even with the gain for July, unfilled orders are still down over the same period in 2015. This is the longest period of decline since 1956 and has always indicated the economy was in recession. Unfilled orders to all manufacturers fell -0.1% to $1.13 trillion, the lowest since June 2014.

Bloomberg Chart

The calendar for next week is very skinny with only the ISM Services and Fed Beige Book as the reports important to the market. The Beige Book is the critical report but unless activity in the various Fed regions has fallen off a cliff, it will probably be ignored.

The July report was filled with words like modest, moderate, generally, etc. Consumer spending was net positive but showed signs of softening. More districts noted slowing auto sales, which we have seen in the recent reports. Commentators said the report showed the economy was moving in the right direction but at a very modest pace. If the August report is more of the same, or worse, it could weigh on the market after the sharp declines in the ISM Manufacturing and ISM - NY.


The weaker than expected jobs numbers caused a temporary short squeeze at Friday's open after many traders had positioned for a positive report that would have pushed the Fed to hike rates in September. When the expectations suddenly changed, they were forced to cover those shorts and a low volume short squeeze was born.

The expectations for September changed dramatically. Last weekend the CME FedWatch Tool showed a 36% chance of a September rate hike. That fell to only 21% at Friday's close. Last week the odds of a December hike were roughly 64% and that decreased to 54% on Friday. So, overall the odds of a rate hike in 2016 declined on the various economic reports.



The various talking heads were tying themselves in knots trying to explain why they still expected a September hike or thought the hikes were completely off the table for 2016. The comments from Stanley Fischer last week about two hikes in 2016 were constantly rehashed. However, several analysts pointed out that Yellen has been long term dovish and while talking about the need for hikes has always said "data dependent" and "gradual." She was probably looking for a reason to remain on hold and the week's reports gave her all the reason she needed.

Another analyst pointed out that most of the FOMC voting members were making dovish comments while the majority of the hawkish comments were coming from Fed presidents that are not currently voting members. You have to wonder if they trade emails with Yellen where she suggests they talk up rates to keep the market from going into hibernation mode.

Yellen can always count on some major analyst to hype the situation and keep the uncertainty in place. Goldman's Jan Hatzius said the jobs numbers were strong enough to justify a September hike. He said the possibility of a hike rose from 40% to 55%. To offset his September bullishness he believes the odds for December fell from 40% to 25% because the economics only justify one hike. Even so, he said the Fed would likely change the post meeting statement to a dovish bias and revise the dot-plot to reflect a lower for longer rate hike cycle.

One key point came out of all the headline chatter. With the odds of a September hike falling dramatically, if the Fed is planning on hiking three weeks from now they will have to ramp up their guidance. There will have to be some pretty specific comments from multiple Fed speakers to effectively warn the market a hike is coming.

What this means for us little people is a continued period of uncertainty until the September 21st post-meeting announcement. At that point, all will be made clear for at least a couple hours. Then traders can start placing bets for the December meeting. The November meeting is not a quarterly meeting with a press conference and while they can still hike, the market does not believe they will do that at this stage in the cycle.

You may remember when the Fed hiked rates last December, their guidance suggested four additional rate hikes in 2016. Obviously the outlook changed and it could just as easily change to no hikes for 2016.

In stock news, Lululemon (LULU) posted earnings of 38 cents that rose 11.8% and matched estimates. Revenue increased 14% to $514.5 million from $453 million. However, same store sales rose 4% compared to 6% in the year ago quarter and 5.9% expectations. The company guided for Q3 to revenue of $535-$545 million and earnings of 42-44 cents. Analysts were expecting 44 cents. Shares were knocked for an 11% decline. Numerous analysts began pounding the table on LULU saying it was a buying opportunity after its 43% YTD rise.


Smith & Wesson (SWHC) posted earnings of 62 cents that nearly doubled and beat estimates for 43 cents. Revenue rose 40.1% to $207 million and beat already heightened estimates for $198.16 million. During the quarter, they completed the acquisition of Crimson Trace, a laser sight manufacturer and Taylor Brands, a knife and toolmaker. The company guided for full year earnings of $2.38-$2.48 on revenue of $900-$920 million. Analysts were expecting $1.92 and $776 million. S&W's prior forecast was $1.83-$1.93 and $750 million so business must be booming.

FBI background checks rose 6% in August to 1,853,815 and a record for August when sales are normally slow. That was down sharply from the 2,197,169 checks in July, which was a 27% increase over July 2015. June had posted a similar spike in checks to 2,131,485. Since the FBI began performing and accounting for firearms background checks in 1998 they have processed 243,558,967. In 2015 alone, there were 23,141,970. It is amazing to me that any presidential candidate runs on an antigun platform with the number of firearms in America.

The sharp drop in checks in August caused the firearms stocks to decline. SWHC, RGR and TASR all collapsed for the week.


Ambarella (AMBA) reported earnings of 54 cents that easily beat estimates for 37 cents. Revenue of $65.1 million beat estimates for $63.9 million. The company guided for Q3 revenue of $95-$99 million. The stock lost -7% because full year guidance was flat to -5% on revenue. The disaster at GoPro reduced chip sales to that company for the last year. GoPro is thought to be 25% of Ambarella's total business. The CEO was positive saying "solid product development and customer support continued to result in new design win momentum in all our markets, led by new projects in drone, home monitoring, virtual reality and wearable applications."


Gap (GPS) shares fell -2.6% after the company reported same store sales fell -5% after a -8% decline in August 2015. Banana Republic sales fell -10% after an 11% decline a year ago. Old Navy sales rose 1% but less than the comparable sales of +5% a year ago. Gap is also suffering from a fire that destroyed a 990,000 square foot distribution center in Fishkill NY on Monday. A gap executive said "basically anything you buy" under the Gap umbrella online comes from the Fishkill facility.


Hewlett Packard Enterprise (HPE) will report earnings on Wednesday. On Friday, news broke they were looking for a buyer for their software division in a deal that could be worth $10 billion. Reportedly, HPE is in talks with buyout firm Thoma Bravo LLC to sell the division. The division includes the big data analytics platform Vertica and cyber-security firm ArcSight. Thoma Bravo said HPE had received offers up to $7.5 billion and Goldman Sachs was managing the bidding process. Other firms making offers include Vista Equity partners, Carlyle Group and TPG Capital. HPE generated $3.6 billion in revenue from the division in 2015.


Carl Icahn announced after the close he had purchased another 306,846 shares of Herbalife valued at $18.5 million. He is determined to grind Bill Ackman into dust on Herbalife. Shares only moved up slightly in afterhours because the news broke after everyone had left for the holiday weekend.


Shares of Mylan (MYL) fell another 5% after two senators sent a letter to the Dept of Health and Human Services suggesting Mylan had incorrectly labeled the EpiPen product as generic in the documents submitted to Medicaid. That would have meant they had to refund less in rebates to Medicaid than they would for a non generic drug. Manufacturers have to rebate 23% to Medicaid on branded drugs and 13% on generics. The State of Minnesota estimated it had cost them $4 million YTD in 2016 because of the documentation error. The categorization error began in 1997. If this is proven to be true, Mylan could be responsible for millions in refunds, fines and legal expenses. The drug was classified correctly as a brand name drug by the FDA and Medicare.

Mylan said in a statement that it had complied with all laws and regulations regarding the Medicaid rebate classification and the drug had been classified that way long before Mylan purchased the rights to the drug.

Candidate Clinton continued the firestorm from last week calling on the Senate to create a drug price review panel where changes in prices would have to be approved based on production costs and patient benefits. This would be sudden death to many high priced drugs.

The combination of these two headlines kept the biotech sector negative on Friday. The sector is likely to remain under pressure until the election.



JP Morgan upgraded online retailer MercadoLibre (MELI) from neutral to buy and raised the price target from $133 to $200. Before you jump to the chart, the stock was already priced at $173 before the upgrade. Clearly, JPM was behind the curve on this upgrade. MercadoLibre.com is a Latin American competitor to Ebay and Amazon.

They see revenue rising 46% next year with profits rising 42%. Shares have already risen 60% in 2016. Brazil is their largest market and they only have 4% penetration. Revenue in Brazil rose 61% in 2015 so they have a long way to go as their market share increases.

Everyone is not wearing the same rose-colored glasses as JPM. Goldman recently initiated coverage at neutral with a $170 price target.


Crude prices had a lot of impact on the market last week with the big decline from $47 to $44 weighing on the Dow late in the week. The OPEC headline spam about a production freeze had faded. On Friday a plug by Vladimir Putin saying the "Oil production freeze is the right decision" was only able to cause minimal short covering. Since Russia is not in OPEC, he is hoping he can urge them along so oil prices will rise. Since Russia would be hard pressed to produce any more than they are currently doing, the best option would be to join OPEC in a freeze at the current level of maximum production.

He said the standoff with Iran over participation in the freeze could be resolved and he was confident that all parties could reach a compromise. "We believe that this is the right decision for world energy." Since Putin never does anything that does not benefit Russia, you know the cash crunch is moving into crisis mode. However, Russian energy minister Alexander Novak, downplayed the talks and the potential for a freeze. Say goodbye Alex, your next stop will be a post in Siberia.

Also surprising on Friday was a comments from Saudi Prince Turki Al-Faisal. He said Saudi Arabia could still agree to a deal to freeze production as long as "all" other oil-producing nations to the same. "All oil producers should have a role in whatever decision it taken. Everybody should play their part. Saudi Arabia is seeking a holistic approach to the issue of oil production and prices, not just within OPEC." Good luck with that approach since most non-OPEC producers are scratching for every dollar they can raise with additional production.


Active oil rigs only rose by 1 to 407 but active gas rigs spiked 7 to 88. Active offshore rigs plunged -7 to only 10 as a result of hurricane Hermine in the Gulf. That will correct next week now that Hermine is already well up the East Coast.


 


 

Markets

It is a small cap market. The S&P-600 Small Cap Index broke out to a new high well over resistance at 750 with a gain of almost 9 points. There was no hesitation for those stocks. The index is up +31% from a low of 581 in January while the S&P-500 is up +20% from that same low but up only 6.6% for the year.


The S&P-400 Midcap Index also rallied to a new high at 1,578, up +30% from the 1,215 low in January. There has been a strong rally in progress all year if we just knew where to look.


The S&P-500 has stalled since reaching the current range back on July 14th. The big caps have all the problems with Europe, China, currencies, etc, that the small caps do not have. The big caps have stagnated despite the breakouts on the small cap indexes. That will not continue forever. If the small cap stocks continue to run, the big caps will eventually follow. Conversely, if the S&P rolls over, no amount of small cap strength will rescue the market from the decline.

The 2,175 level is the current price magnet and 2,150 is critical support. The 2,193 level has been the intraday high twice over the last month. That is the line in the sand the bulls have to cross.


The Dow is 30 of the largest big cap stocks and that is why it is the weakest index. The support at 18,350 was tested three times over the last week and one intraday dip actually made it below 18,300 before the dip buyers could muster enough volume to lift it back to positive territory.

That one thing is saving this market. Buyers are willing to enter on the dips but they are avoiding the highs. Once the afternoon rebound begins to gather momentum it suddenly loses traction. They will buy the dips but not the highs.

The Dow was up 72 points on Friday but only two stocks gained more than $1. Apple was up on the Samsung battery problems and Boeing was up +$1.26 on a potential $7 billion sale of fighters to Qatar and Kuwait. The sale would include 36 F-15 fighter jets and 28 F-18 Super Hornets plus the option to buy 12 more.

More than half the Dow 30 components gained less than 50 cents. That is hardly strong conviction in the rally. Most of the Dow gains came at the open in a +125 point short squeeze but the index faded back to only +22 at 1:30. Some late day short covering or bargain hunting lifted it back to +72. There was $500 million in buy on close orders on the NYSE. Maybe there were some funds trying to get a head start on next week.



The action on the Nasdaq was similar. The index spiked +37 points at the open but fell back to only +5 at 1:30 before rebounding to close with a 22 point gain. It was purely an opening short squeeze and then some positioning at the close.

The Biotech Index and the Semiconductor Index both closed fractionally negative and were no support for the Nasdaq. The constant headlines about drug price controls and a guidance disappointment from Broadcom combined to keep both of those sectors negative.

The Nasdaq Composite has tested support at 5,200 so often it has eroded some of that level with intraday lows hitting 5,190 on three days last week. The close at 5,249 gives the Nasdaq a cushion for next week but it is still below the high close at 5,262.

We have to wonder what will be the headlines that will provide direction for the tech sector. There are no material earnings until Hewlett Packard on Wednesday and that could just as easily be a drag instead of a bullish force.

Watch the 5,200 level and prepare to bail out if it is broken significantly.



The Russell 2000 made a new 52-week high at 1,251 but it has failed to rally to the 1,295 level it needs for a historic high. The Russell 2000 components are chosen solely on the basis of market cap while the S&P-600 and S&P-400 are by invitation only from S&P. They screen out the lower quality stocks.

The Russell uptrend is still intact but the momentum has slowed. It is stuck in the middle of the uptrend channel as it approaches major resistance at 1,275.


In theory, portfolio managers will come back from vacation and begin liquidating the stocks they no longer want and begin furiously adding stocks they do want to have in their portfolio when their fiscal year ends on October 31st. One analyst said 77% of fund managers are not beating their benchmarks this year, normally the S&P-500. Another analyst said only 14% of managers are beating the benchmark. I guess both could be correct with the other 9% actually performing at the benchmark level.

Nonperformance causes managers to be replaced. That is a strong incentive to go for the gold over the next two months. They need to dump the laggards and add some movers and do it quickly. Typically the buying begins when the markets make the lows for the second half of the year in late September and early October.

However, there is nothing typical or seasonal about 2016. Market theory has failed in 2016. The market has confounded all the experts and that is why 77% are performing below their benchmarks. That suggests the next two months will not perform normally, which is usually punctuated by declines and high volatility.

The rally in the S&P-400/600 suggests there could be a continued rally in our future. It just depends on how many positions managers need to dump and will the selling in the big caps drag down the buying in the smaller cap stocks.

The next four sessions should tell us a lot about the rest of the month. We will have the constant analysis of every word that comes out of a Fed head's mouth. Fortunately, there are only three on the calendar this week and then they go into the quiet period ahead of the FOMC meeting on the 20th.

The trend is our friend until it ends. I would continue to caution not to be overly long this week. Keep some cash available and a shopping list of stocks you would like to buy on a dip. We are long overdue for at least a minor bout of profit taking and it could appear at any time.

If you like the market commentary you have been receiving and you are on a free trial then now is the time to subscribe. Do not wait until you miss a newsletter to decide you want to take the plunge.

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Random Thoughts


Bearish sentiment continued to rise last week but only slightly. The bullish sentiment at 28.6% is 10 points below the historical average of 38.5%. The most hated bull market in history still cannot find any respect. Neutral sentiment is about 8 points over the 31% historical average and bearish sentiment is just about even with the average. The majority of investors are on the fence and waiting for a direction to appear.



Holiday shopping could be a challenge. South Korea's Hanjing Shipping, a container shipper with 8% of the Trans Pacific trade and one of the world's largest shippers, filed bankruptcy. Ports are no longer allowing those container ships to dock and tugboats are refusing to service the freighters. Both are afraid they will not be paid for their services. This has essentially frozen hundreds of thousands of containers at sea with nowhere to land. To make matters worse, major shippers use whatever ship is available when they have an excess of cargo. That means other shippers have containers frozen on those ships and they cannot get them off. Several Hanjing ships have been seized by creditors.

Those frozen containers, regardless of what shipper they belong to, have a large portion of holiday merchandise on its way to U.S. retailers. Hanjing is pleading with South Korea for an immediate bailout so they can make arrangements to offload those containers. The president of the Retail Industry Leaders Association in the U.S. wrote letters to the Dept of Commerce and the Federal Maritime Commission saying the bankruptcy presents an "enormous challenge to the U.S. and could have a substantial impact on consumers and the economy at large."

The trade group is urging the U.S. government to work with ports, cargo handlers and the South Korean government to resolve the widespread disruption in freight deliveries. The WSJ said as many as 540,000 containers are experiencing delays that could range from weeks to months. In this critical pre holiday shipping season that is a disaster. The retailers most likely to be impacted are Walmart, Target, JC Penny and clothing retailers. The $25 billion U.S. toy retailing industry could also be hit hard.

The U.S. "just in time" supply chain is not prepared for events that can keep hundreds of thousands of containers of holiday goods held hostage at sea for months. This could cause a monumental disaster for retailers this holiday season. I would not be surprised to see Amazon buy up some container ships so they can be in control of their own fate in future years.


This is another warning against holding paper gold. That is some certificate that says you own gold and can take delivery at any time. A client of Xetra-Gold, a German Exchange Traded Commodity fund, has been trying for some time to take delivery of their gold. Xetra-Gold claims the gold has to be provided by the bank where the customer's account is held, even though the prospectus claims Xetra is responsible for delivery. The ETF is traded on the Deutsche Boerse. The bank responsible is Deutsche Bank. The bank responded that the gold is delivered by the bank branch where the client has his securities account and only if that branch offers this service.

Deutsche Bank responded to Xetra Gold that "the bank would attempt to review the individual cases and an individual solution will be found that works for the client." Basically, they admitted they had failed to produce the physical gold and based on the "economic efficiency of physical delivery" they would try to work something out with the client. A lot of people are reading that as "we will give them their money back rather than actual physical gold."

The problem of paper gold has been floating around for years ever since the U.S. Fed refused to produce gold supposedly held in custody for overseas banks. If you have the gold why refuse to deliver it. In one case, they agreed to deliver the gold in periodic shipments over the next two years. What? It really causes the conspiracy theorists to wonder where the gold really went?


There are currently 3,267 active stocks according to Jefferies and the University of Chicago. That is the lowest number of listed stocks since 1984. The stock market is shrinking. When you add in the number of buybacks, acquisitions, mergers and leveraged buyouts the rate of shrinkage is increasing.

IPOs have slowed significantly. Analysts attribute that to the market activity over the last two years and Sarbanes-Oxley. Many companies are deciding not to go public because of the additional regulatory costs.

Over the last several years the market is up more than 200% but the market liquidity has evaporated. Central banks are buying S&P futures and holding them rather than trading them. Companies are struggling to increase profits so they are spending all their excess cash, plus borrowing at ultra low rates, to buy back shares in lieu of spending the money on business expansion.

In theory, the continued shrinking of the outstanding shares means the share price should continue to rise. As stocks prices rise as the float shrinks it creates move volatility in times of crisis. We know there is another crisis in our future and without liquidity, the volatility could be extreme. Think "Flash Crash" on steroids.


As an extension of that prior comment, there was a Reuters article saying the ECB may be forced to buy stocks because there are not enough bonds. JP Morgan has previously warned there was a shortage of bonds for the ECB to continue buying at its stated pace. It has reached a point where the ECB is actually forced to buy bonds from itself in a roundabout fashion.

How does this work? The ECB implements its QE through several national central banks. Those banks buy bonds for the ECB based on the rules for quality set by the ECB. This reduces the amount of available securities in the marketplace. The banks are limited on how much debt they can buy from any one country and they cannot buy bonds with steeply negative yields. These same banks also sell securities as they manage their total reserves. Those bonds are then back on the open market and are bought by some other central bank as part of the QE program. Basically, these banks are swapping debt with each other on behalf of the ECB.

Since the Bank of Japan recently expanded into buying stock ETFs and then eventually doubled the amount of ETFs it could buy because there was not enough bonds available for their QE, the ECB may be approaching this threshold.

According to Reuters, the ECB may be forced to follow Japan's example and buy equities as part of their $1.7 trillion QE stimulus program.

The BoJ's Kuroda, recently admitted ETFs were an easy way to directly monetize and nationalize the stock market. "ETFs allow an investor to trade a range of assets, from a basket of stocks to government debt. ETFs, which offer a convenient way to purchase a broad basket of securities in a single transaction from an exchange, have risen in popularity with investors due to their simplicity and lower fees."

The U.S. Fed is not going to be left out either. At the recent policy conference in Jackson Hole, there were papers presented suggesting that negative interest rates and equity purchases were also in the Fed's toolbox. The subtle hints that were dropped were a way to nudge the door open slightly so they can refer back to it as an option in a time of crisis.


 

Enter passively and exit aggressively!

Jim Brown

Send Jim an email

 

"To steal ideas from one person is plagiarism; to steal from many is research."

Ralph Foss



Index Wrap

The Race Begins

by Jim Brown

Click here to email Jim Brown
When portfolio managers come back from vacation next week, they have the busiest two months of the year ahead of them.

If they are running behind their benchmark index for the year they will be forced to dump underperformers and try to buy some winners in hopes of increasing their gains before the fiscal year end on October 31st. If they are ahead of their benchmarks they will concentrate on holding their gains and possibly locking in some of those gains by closing positions. Either way the next two months are spent on restructuring portfolios for maximum performance and to put a positive spin on their 2017 marketing materials.

If a manager wants to add performance in this market, he must buy small cap stocks. That suggests he will have to sell large cap stocks since they are the current laggards. Obviously, this can change at any time but small caps are typically the favorites in Q4. Since the market is not showing any volatility, managers may not feel the need to hide out in the high liquidity large caps.

I showed charts for the S&P-400 and S&P-600 in the market commentary so I will not list them again here. If we look at the larger version of the large cap indexes, the Russell 1000, we see a similar picture to the S&P-500. The R1K has been stuck in a tight range for the last 45 days. The new historic high was set at 1,213 back on August 15th and until Friday's short squeeze the index had been fading. This chart is almost identical to the Dow and S&P.


One way to play the breakout on the small caps is the Russell 2000 ETF (IWM). However, the Russell is not breaking out because there are hundreds of low quality stocks in the index. It did make a new 52-week high but it is lagging the S&P 400/600. You can play the Midcap SPDR ETF (MDY). The ETF closed at a new high on Friday and has a positive trend. The options are relatively expensive but you get what you pay for. I would recommend a call spread to reduce the cost.


The Semiconductor Index broke out to a new high on Thursday but was fractionally lower on Friday because of a disappointment in the Broadcom (AVGO) earnings. The $SOX is currently overextended but could move higher. Ideally you would want to wait for a pullback to that breakout point at 792 and see if that becomes support. You can play the $SOX using the ETF (SMH).



The Nasdaq and the $SOX are locked together at the recent highs and a continued rise in the $SOX should pull the Nasdaq higher.


Another problem for the Dow is the Dow Transports. The index is stuck below downtrend resistance at 7,950 and horizontal resistance at 8,000. Even with oil prices sagging the transports are struggling. The airlines are trapped in a major battle for market share and they have put themselves into an over capacity position that is impacting fares and load levels. Add in the decline in travel to Europe because of terror fears and their guidance has been weak.

The railroads are still struggling because of the decline in the energy sector. There are thousands of car parked on sidings that were previously hauling oil, drill pipe and frac sand when active rigs were four times higher in 2014 than they are today. That problem is not going to be resolved in the near future.

The Dow Industrials normally fail to rally when the Dow Transports are lagging.


The sentiment charts are not showing the bullishness you would expect given the breakout on the small caps. That is because the sentiment charts are based on the big cap indexes. The S&P Bullish Percent Index has plateaued at the 75% level and a level where it has stalled several times over the last three years. I would be surprised to see this chart rise significantly.


The S&P-100 is the 100 largest stocks in the S&P-500. The percentage of those stocks over their 200-day average had risen to almost 90% and the highs from 2014 but the two months of consolidation has allowed the averages to catch up and the number should continue to decline from here.


The S&P-500 chart is similar with 80% of the stocks over their 200-day average but fading.


You can really see the fall off from the sideways consolidation pattern in the percentage of stocks over their 50-day average. That has fallen from 90% in July to 61% as of Friday. The two months of consolidation allowed the shorter-term 50-day average to rise to meet the price on any minor pullback in the stock. This does not mean the market is rolling over but there have been a lot of major declines in individual stocks as the result of earnings misses. That all adds up in the percentages.


The fluctuation in interest rates and expectations for the Fed actually raised the correlation between the High Yield ETF and the S&P to 90%. In theory as long as they remain locked to each other the market should continue to rise. The high yield ETF has stalled at $86.50 as the S&P stalled at 2,175. Eventually one of these will break loose and lead the other up or down. I would bet on th ehigh yield ETF to push higher.


The dollar rose ahead of the Fed meeting in Jackson Hole then began to weaken as the prospects for a hike began to dwindle. The weak ISM report on Thursday pushed it lower and the conflicting jobs analysis on Friday caused volatility with a minor gain. The relationship between the dollar and commodities caused the dollar to push oil lower last week.



The broadest indicator for the market is the Russell 3000 and it is still locked in a consolidation pattern. This is the tug of war between the big cap stocks of the Russell 1000 and the small cap stocks in the Russell 2000. They have battled to a stalemate and until one side capitulates to the other, the R3K could remain in the consolidation pattern. This is the true picture of the broad market.


Volume should increase this week but probably not on Tuesday. Managers will want to catch up on their email, meet with their teams and plan some strategy. It could be several days before the volume accelerates but we should see the markets go directional before the end of the week. The direction may only be temporary so don't bet the farm on any initial move.

Enter passively and exit aggressively!

Jim Brown

Send Jim an email


New Option Plays

Anticipation

by Jim Brown

Click here to email Jim Brown

Editors Note:

I am adding several plays this weekend in anticipation of a breakout from the current consolidation range. We do not know where the market is going next week but the breakout to new highs on the S&P-600 Small Cap Index and S&P-400 Midcap Index and the new 52-week high on the Russell 2000, suggests there will be upward pressure. I am adding three positions this weekend in order to capture any rally that appears. I did put entry triggers just in case the seasonal market volatility appears.



NEW DIRECTIONAL CALL PLAYS

AMP - Ameriprise Financial - Company Profile

Ameriprise Financial, Inc., provides various financial products and services to individual and institutional clients in the United States and internationally. The company's Advice & Wealth Management segment provides financial planning and advice, as well as full-service brokerage services primarily to retail clients through its advisors. Its Asset Management segment offers investment management and advice, and investment products to retail, high net worth, and institutional clients through unaffiliated third party financial institutions and institutional sales force. They offer U.S. mutual funds and their non-U.S. equivalents, exchange-traded funds, variable product funds underlying insurance, and annuity separate accounts; and institutional asset management products, such as traditional asset classes, separately managed accounts, individually managed accounts, collateralized loan obligations, hedge funds, collective funds, and property funds. They also offer annuities and various insurance products including disability, property, casualty and life insurance. The company was originally known as American Express Financial Corporation. They were founded in 1894 and employ more than 10,000 financial advisors.

In late July the company reported earnings of $2.23 and analysts were expecting $2.27. Revenue was $2.87 billion which missed estimates for $2.91 billion. The company has assets under management of $776.6 billion. The revenue and earnings miss was caused by exchange rate problems enhanced by Brexit and outflows of investor funds. The entire industry is struggling because investors are afraid of the market after a 7-year run and they are pulling funds out of investments in advance of the next recession. The current expansion is the third longest in history so investors are expecting it to end. It may be two quarters from now or two years from now but they expect it to end. Because this is an industry problem rather than a company problem, I believe the minor miss on earnings and revenue was actually positive. They also declared a quarterly dividend of 75 cents.

The company repurchased $444 million in stock in the quarter. They also closed an acquisition of Emerging Global Advisors in an effort to accelerate their Smart Beta efforts. This expands the Ameriprise foothold in the ETF marketplace. They recently filed for multiple new ETFs under the Smart Beta name. They first began offering ETFs of their own in 2011.

Earnings Oct 26th.

Shares fell sharply on the earnings miss from $101 to $85. Over the last month, they have recovered that loss and are back at the $101 level with resistance at $102.50. A break over that level targets $110 and then $115. Because of the potential for market volatility I am going to recommend an entry trigger.

With an AMP trade at $102.75

Buy Dec $105 Call, currently $3.10, initial stop loss $97.65.


FTNT - Fortinet Inc - Company Profile

Fortinet, Inc. provides cyber security solutions for enterprises, service providers, and government organizations worldwide. The company offers FortiGate physical and virtual appliances products that provide various security and networking functions, including firewall, intrusion prevention, anti-malware, virtual private network, application control, Web filtering, anti-spam, and wide area network acceleration; FortiManager product family to provide a central management solution for FortiGate products comprising software updates, configuration, policy settings, and security updates; and the FortiAnalyzer product family, which provides a single point of network log data collection. It also offers FortiAP secure wireless access points; FortiWeb, a Web application firewall; FortiMail email security; FortiDB database security appliances; FortiClient, an endpoint security software; and FortiSwitch secure switch connectivity products. In addition, the company provides FortiSandbox advanced threat protection solutions; and FortiDDos and FortiDB database security appliances. The company also offers security subscription, technical support, training, and professional services. Company description from FinViz.com.

They reported earnings of 3 cents that beat estimates for 2 cents. Revenues rose 29.9% to $311.4 million and beat estimates for $304 million. Product revenues jumped 19% and services revenues surged 40%. During the quarter they added 9,000 customers to bring their total to more than 280,000. The number of transactions over $100,000 increased by 36% and deals over $250,000 rose 35% with deals over $500,000 rising 19%. Total billings rose 26% to $373.8 million. Gross profits rose 33.2%. They ended the quarter with $985 million in cash.

They guided for Q3 to earnings of 17-18 cents and revenue of $319-$324 million. Consensus estimates were expecting 7 cents and $318.9 million. They also raised full year revenue guidance to $1.28 billion which was also above prior estimates.

Earnings Oct 20th.

The company is growing rapidly and the future is bright. There is resistance at $37.25 from a gap down last October and it has failed at that level twice. I expect it to break through on the next attempt. That breakout will target $43-$45 and then the prior highs at $50.

With a FTNT trade at $37.50

Buy Dec $39 call, currently $1.80, initial stop loss $35.25


NEW DIRECTIONAL PUT PLAYS

HSY - Hershey Co - Company Profile

The Hershey Company manufactures, imports, markets, distributes, and sells confectionery products. It offers chocolate and non-chocolate confectionery products; gum and mint refreshment products comprising chewing gums and bubble gums; pantry items, such as baking ingredients, toppings, beverages, and sundae syrups; and snack items, including spreads, meat snacks, bars and snack bites, and mixes. The company provides its products primarily under the Hershey's, Reese's, Kisses, Jolly Rancher, Almond Joy, Brookside, Cadbury, Good & Plenty, Heath, Kit Kat, Lancaster, Payday, Rolo, Twizzlers, Whoppers, York, Scharffen Berger, Dagoba, Ice Breakers, Breathsavers, and Bubble Yum brands, as well as under the Golden Monkey, Pelon Pelo Rico, IO-IO, Nutrine, Maha Lacto, Jumpin, and Sofit brands. It markets and sells its products to wholesale distributors, chain grocery stores, mass merchandisers, chain drug stores, vending companies, wholesale clubs, convenience stores, dollar stores, concessionaires, and department stores. The Hershey Company was founded in 1894 and is headquartered in Hershey, Pennsylvania. Company description from FinViz.com.

Mondelez offered $107 per share for Hershey in June. Shares spiked to $110-$115 in anticipation of an upgraded offer. After two months of discussions they finally got around to price. The Hershey board said it would need a lot higher price to get the deal approved. Mondelez thought about it and came back saying "maybe they could go to $115" if some conditions were met. Hershey replied that was not high enough and it would take at least $125 to continue the discussion. Mondelez immediately broke off negotiations saying there was no "actionable path" to a conclusion.

Hershey is struggling. Sales have been slowing as new competition slowly erodes market share. The Hershey Trust owns 80% of the voting stock so even if the Hershey board decided to consider an offer the trust would have to approve it along with the Pennsylvania Attorney General, which has power over the trust. There will not be another deal and the trust board is being reconstituted in 2017 as demanded by the AG so no major actions will be approved.

Hershey is going to have to deal with its own market share losses and slowing sales. This means the outlook for Hershey shares is negative. Last week Bank America reiterated an underperform rating with a price target of $100 and shares closed the week at $99. The outlook is underwhelming and the stock should decline back to the $90 range where it was stuck before the Mondelez offer.

Earnings Nov 1st.

With a HSY trade at $98.75

Buy Nov $95 put, currently $1.60. Initial stop loss $101.25.



In Play Updates and Reviews

Ready to Run?

by Jim Brown

Click here to email Jim Brown

Editors Note:

There were new highs on the S&P-400 and S&P-600 and new 52-week high on the Russell 2000. However, the Dow did not make a new high and barely avoided falling back into negative territory at midday. The Dow gains were mostly from the short squeeze with all the points coming at the open. What we have here is a failure of the big caps to move higher while the small and midcaps are surging.

The S&P and Dow are still stuck in their recent range and that is how most people view the market. I wrote on Thursday the charts were bearish and those were the charts I discussed. The smaller cap charts are bullish and they are breaking out. This suggests we could see a rally in September rather than extreme volatility.



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


SMG - Scotts Miracle-Gro

The long call position remains unopened until a trade at $83.25. High today $83.11.



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


AKAM - Akamai Technologies - Company Profile

Comments:

No specific news. Six-week high close.

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.


CAVM - Cavium Inc - Company Profile

Comments:

No specific news. Minor retracement of Thursday's 2% gain.

Original Trade Description: August 27th.

Cavium, Inc. designs, develops, and markets semiconductor processors for intelligent and secure networks. It offers integrated semiconductor processors for wired and wireless networking, communications, storage, cloud, wireless, security, video, and connected home and office applications. The company's products also include a suite of embedded security protocols that enable unified threat management, secure connectivity, network perimeter protection, and deep packet inspection. In addition, it provides commercial grade embedded Linux operating systems, development tools, application software stacks, and support and services.

On August 17th, Cavium completes the $1.36 billion acquisition of QLogic. The acquired company has been around a long time and is a leading name in the Ethernet market. As of 2015, QLogic had a double digit market share lead over its peers. Pacific Crest believes Cavium will be able to reduce QLogic's manufacturing costs by 50% and this would help capture further market share gains on cost while expanding into congerged NIC and onboard LAN markets. That could produce another $1 billion in revenue.

Analysts raised estimates for Cavium revenue from $526 million to $957 million and earnings rose from $1.87 to $2.60.

Earnings Oct 26th.

Shares have been moving up since late June when the acquisition was announced. They plateaued at $55 over the last week but could be poised to move higher with resistance at $64.

Position 8/30/16 with a CAVM trade at $56.40

Long Nov $60 call @ $3.70. See portfolio graphic for stop loss.

Optional:
Short Nov $70 call @ 85 cents. See portfolio graphic for stop loss.

Net debit $2.85


GRUB - GrubHub - Company Profile

Comments:

No specific news. New high close.

Original Trade Description: August 29th.

GrubHub Inc., together with its subsidiaries, provides an online and mobile platform for restaurant pick-up and delivery orders in the United States. The company connects approximately 44,000 local restaurants with diners in approximately 1,000 cities. It operates GrubHub and Seamless Websites through grubhub.com and seamless.com. The company also offers GrubHub and Seamless mobile applications and mobile Websites for iPhone, iPad, Android, iWatch, and Apple TV devices; and Seamless Corporate program that helps businesses address inefficiencies in food ordering and associated billing. In addition, it provides Allmenus.com and MenuPages, which provide an aggregated database of approximately 380,000 menus from restaurants in 50 states.

GrubHub is a concept that is catching fire and the bigger they get the more restaurants want to sign on to the service. They now serve 44,000 restaurants. They do not markup prices. Whatever the restaurant charges is what you pay. Diners can customize any order to their own taste specifications and dietary needs.

Restaurants benefit because the service drives more orders. Many people cannot take 2 hours out of their day to go to the restaurant to eat. GrubHub brings the restaurant to them. Restaurants typically see about 30% more takeout orders during their first year when they sign up for the Grubhub service. Delivery fees range from free to $3.99.

In Q2 net revenue rose +37% to $120.2 million topping estimates for $114 million. Earnings rose 35% to 23 cents and also beating estimates for 19 cents. They guided for the current quarter for revenue in the range of $116-$119 million and analysts expected $113 million. At the midpoint that would be another 37% rise.

GrubHub active diners rose 24% to more than 7.35 million. They added 382,000 in Q2. Ordering through the GrubHub online menu is 50% faster than ordering from the restaurant on the phone.

The company recently announced participation with national chain restaurants including Boston Market, Johnny Rocket's, California Pizza Kitchen, Veggie Grill, On the Border and Panda Express. This is a natural for fast food chains. They prepare the food fast and it gets to the diner fast.

An analyst at Moness Crespi Hardt upgraded them to buy from neutral saying the fundamentals are rapidly improving with the addition of the chain restaurants. Secondly, they completely overhauled their tech platform in 2015 and the benefits are rising quickly. They are also integrating POS features including Apple Pay. He also believes they are a potential acquisition target by companies like Amazon, Uber and Postmates. His biggest point is the addition of the chain restaurants. Adding companies with hundreds or even thousands of restaurants will catapult them to the next level.

Earnings Oct 27th.

Shares spiked to $39 on the earnings and then spent a month in post earnings depression, dropping back below $36 in mid August. The rebound has begun and Monday's close was a new 14-month high. Initial resistance is $41 and our best-case target is $47.

I am using the December option so there will be some expectation value when we close the position ahead of earnings.

Position 8/30/16:

Long Dec $42.50 call @ $2.71, see portfolio graphic for stop loss.


JACK - Jack in the Box - Company Profile

Comments:

No specific news. Shares sprinted higher with a $1.83 gain as shorts were forced to cover on the breakout to a new historic high.

Original Trade Description: August 30th.

Jack in the Box Inc. operates and franchises Jack in the Box quick-service restaurants and Qdoba Mexican Eats fast-casual restaurants primarily in the United States. As of August 10, 2016, it operated and franchised approximately 2,250 Jack in the Box restaurants in 21 states and Guam; and approximately 600 Qdoba Mexican Eats restaurants in 47 states, the District of Columbia, and Canada. The company was founded in 1951.

Jack shares are up 29% year to date after the company reported Q2 earnings of $1.07 that beat estimates by 20 cents. Revenue rose +2.6% to $368.9 million. Same store sales rose 1.1% and the average check rose 3.5%.

They will end 2016 with an additional 20 Jack in the Box stores and 50-60 new Qdoba locations. The company is refranchising many of its stores and believes it can raise earnings by 65-78 cents through cost reductions achieved by shifting company owned stored to new franchisees. Management expects same store sales o rise 2.5% to 3.5% for Jack stores and 4% to 5% for Qdoba stores.

Earnings Nov 21st.

Shares rallied to $99 and the 2015 high on the Q2 earnings. They have held at that level and closed at a historic high on Monday. Today's decline was minimal given the weak market. The next time the market strings together several days of gains I expect JACK shares to break over $100 and start a new leg higher.

Because the market appears "toppy" and we are due for a dip, I am putting an entry trigger on the position. I am using the December options so there is some expectation premium when we exit before earnings.

With a JACK trade at $100.25

Buy DEC $105 Call, currently $4.00, initial stop loss $95.85
Optional: Sell short DEC $115 call, currently $1.10, initial stop loss $95.85
Net debit $2.90


MKC - McCormick & Co - Company Profile

Comments:

No specific news. Still stuck in a range along with the market.

Original Trade Description: August 20th.

McCormick & Company manufactures, markets, and distributes spices, seasoning mixes, condiments, and other flavorful products to the food industry. It operates through two segments, Consumer and Industrial. The consumer segment offers spices, herbs, seasonings, and dessert items. It provides its products under the McCormick, Lawry's, Stubb's, and Club House brands in the Americas; Ducros, Schwartz, Kamis, and Drogheria & Alimentari brands, as well as Vahine brand in Europe, the Middle East, and Africa; McCormick and DaQiao brands in China; McCormick and Aeroplane brands in Australia; and Kohinoor brand in India, as well as through regional and ethnic brands, such as Zatarain's, Thai Kitchen, and Simply Asia. This also supplies its products under the private labels. This segment serves retailers, including grocery, mass merchandise, warehouse clubs, discount and drug stores, and e-commerce retailers directly and indirectly through distributors or wholesalers. The Industrial segment offers seasoning blends, spices and herbs, condiments, coating systems, and compound and other flavors to multinational food manufacturers and foodservice customers.

They reported Q2 earnings of 75 cents that beat by a penny. Revenue rose 3.8% to $1.06 billion and matched estimates. Consumer sales rose 7% to $641.8 million while industrial sales declined -0.7% to $421.5 million. For the full year they guided for earnings on a constant currency basis of $3.68 to $3.75 and analysts were expecting $3.74. Revenues are expected to be $4.34 to $4.43 billion but that was on the low side of estimates for $4.41 billion. They expect sales growth of 5% and EPS growth of 10%. They said they had more confidence they would come in at the high end of their revenue and sales guidance. However, that only matched expectations on earnings and was still light on revenue.

Earnings Sept 29th.

They have several challenges. The quit selling a low cost economy product in India and that reduced revenue. Indians have a very low standard of living and try to find the lowest cost products. The company also warned on currency issues. Total sales growth in Q2 was 3.8% but adjusted for constant currency that would rise to 6%.

They also had an issue with private label customers lowering prices for their products. That means a $2 box of private label pepper is competing with a $2.50 box of McCormick pepper. The company is actually fine with that and encourages private label distributors to adjust prices to whatever price point generates the most sales. Apparently, McCormick is perfectly happy growing market share at a reduced revenue rate. They are still making money on private label products and those products are capturing market share.

Shares sold off from $107 to $100 in the month following the earnings report. After putting in a double bottom at $100 the stock is moving higher and a break over $102 could see the gains accelerate. This is a good stable company paying a $1.72 annual dividend without a lot of drama along the way. I expect it to return to the highs, market willing.

position 8/22/16 with a MKC trade at $102.15

Long Dec $105 call @ $2.40. See portfolio graphic for stop loss.


OC - Owens Corning - Company Profile

Comments:

No specific news. Shares moved a little more over resistance. Could be some short covering next week.

Original Trade Description: August 24th.

Owens Corning produces and sells glass fiber reinforcements and other materials for composites; and residential and commercial building materials worldwide. It operates in three segments: Composites, Insulation, and Roofing. The Composites segment manufactures, fabricates, and sells glass reinforcements in the form of fiber; and manufactures and sells glass fiber products in the form of fabric and other specialized products. Its products are used in pipe, roofing shingles, sporting goods, consumer electronics, telecommunications cables, boats, aviation, defense, automotive, industrial containers, and wind-energy applications in the building and construction, transportation, consumer, industrial, and power and energy markets. The Insulation segment manufactures and sells fiberglass insulation into residential, commercial, industrial, and other markets for thermal and acoustical applications; and manufactures and sells glass fiber pipe insulation, flexible duct media, bonded and granulated mineral fiber insulation, and foam insulation used in above- and below-grade construction applications. The Roofing segment manufactures and sells residential roofing shingles, oxidized asphalt materials, and roofing accessories used in residential and commercial construction, and specialty applications.

For Q2 they reported earnings of $1.29 that beat estimates for 85 cents. Revenue of $1.55 billion also beat estimates for $1.47 billion. They repurchased one million shares in the quarter with 2.8 million left on the current authorization. They projected second half shipments of roofing to be flat after a 20% surge in the first six months of 2016. This is a seasonal business. Hail storms that cause roof replacements are heaviest in April-July.

Earnings Oct 26th.

Shares were very volatile after the earnings with a range of $50.88 to $58.69. After the volatility passed the stock found support at $53 and moved sideways for four weeks. This week shares have started to climb out of the consolidation and the stock closed at $54.81 on Wednesday and actually posted a gain in a weak market. That was a four-week high.

This is a low volatility stock and could be a safe location to wait out any market volatility over the next six weeks.

Position 8/25/16

Long Nov $55 call @ $2.35, see portfolio graphic for stop loss.


PAG - Penske Automotive Group - Company Profile

Comments:

Roger did not buy more shares on Friday or at least we did not get any headlines about a purchase. Shares rose 99 cents to a new 10-month high. I removed the target price at $47 and raised it to $49.75. Since Roger has not slowed down on his purchases we could see the initial resistance at $47 surpassed. This may be a "pigs get fat but hogs get slaughtered" move and I will be regretting it later but as long as the stock is sprinting higher we should go along for the ride.

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.

Update: On August 22nd, Roger Penske bought another 300,000 shares at $42.55 for $12.8 million. No other news and the stock spiked 4%. That raises his holdings to roughly 31.5 million shares and there are only 85 million outstanding. His ownership is now over 37%. He has purchased more than 1.5 million shares in the last month.

Update: On August 29th, Roger Penske bought another 478,000 shares for $21,132,400. That lifts his ownership to roughly 32 million shares.

Update: On September 1st, Roger Penske bought another 187,764 shares worth $8.5 million.

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.


SMG - Scotts Miracle-Gro - Company Profile

Comments:

No specific news. Position remains unopened until a trade at $83.25.

Original Trade Description: August 31st.

The Scotts Miracle-Gro Company manufactures, markets, and sells consumer lawn and garden products worldwide. The company's Global Consumer segment offers lawn fertilizers, grass seed products, spreaders, other durable products, and outdoor cleaners, as well as lawn-related weed, pest, and disease control products; water soluble and continuous-release plant foods, potting mixes, garden soils, mulch and decorative groundcover products, landscape weed prevention products, plant-related pest and disease control products, organic garden products, live goods and seeding solutions, and hydroponic gardening products; and insect and rodent control products, and selective and non-selective weed control products to protect homes and maintain external home areas.

For Q2 they reported earnings of $2.16 compared to estimates for $2.08. Revenue of $994.1 million missed estimates for $1.04 billion. The company said miserable weather in April/May caused a significant decline in sales as gardeners and homeowners put off buying until June. The continuous rain turned everything green and that depressed fertilizer sales. Going into early April sales for the year were up +14% but after May they had declined -2%. There was also a shift of six days in the company's fiscal calendar.

The company raised earnings estimates for the full year to $3.75-$3.95 but reduced full year revenue forecast as a result of the spring slump. Shares soared on the guidance as the company was very bullish on the business.

They acquired a 75% stake in Gavita, a hydroponic products distributor. They also signed a definitive agreement to acquire Botanicare, a producer of fertilizer and hydroponic systems. They entered into a third transaction that has not yet been announced. They also increased their relationship with AeroGrow International, a consumer direct indoor gardening and hydroponic supplies business.

SMG is rapidly beefing up its lighting division, expanding on hydroponics and adding new products that will help indoor growers. They expect sales of hydroponics equipment to reach $250 million for the year. During the year, they also completed the sale of the Scotts LawnService business into a joint venture with Truegreen and received a $196 million cash distribution from the venture.

Along with earnings, they announced a $500 million share buyback in addition to the $400 million remaining on a prior authorization. "Our priorities for uses of cash are beginning to shift and we expect to begin a more aggressive share repurchase plan in the upcoming quarters."

Earnings Nov 3rd.

Shares spiked to $83 after earnings and moved sideways for the last month. After dipping back to $81 last week it looks like shares are preparing to move higher. A breakout over $83.25 would be a new high.

With a SMG trade at $83.25

Buy Dec $85 call, currently $2.80, initial stop loss $80.65.


SWKS - Skyworks Solutions - Company Profile

Comments:

No specific news. Broadcom beat on earnings but disappointed on the guidance. Shares of SWKS fell 47 cents in sympathy.

Original Trade Description: August 18th.

Skyworks Solutions, Inc., designs, develops, manufactures, and markets proprietary semiconductor products, including intellectual property worldwide. Its product portfolio includes amplifiers, attenuators, battery chargers, circulators, DC/DC converters, demodulators, detectors, diodes, directional couplers, diversity receive modules, filters, front-end modules, hybrids, LED drivers, low noise amplifiers, mixers, modulators, optocouplers/optoisolators, phase shifters, phase locked loops, power dividers/combiners, receivers, switches, synthesizers, technical ceramics, VCOS/synthesizers, and voltage regulators. The company provides its products for automotive, broadband, cellular infrastructure, connected home, industrial, medical, military, smartphone, tablet, and wearable applications.

In other words, Skyworks chips are in quite a few devices in the Internet of Things (IoT). The stock has been punished by investors because of the decline in expectations for Apple iPhone sales. That is a big business for Skyworks but fare from their only business. They also produce chips for phones like the Samsun Galaxy that is taking market share away from Apple. They are losing share for one customer and gaining share at another plus they sell chips for hundreds of other products not related to smartphones.

They reported earnings of $1.24 compared to estimates for $1.21. Revenue of $751.7 million also beat estimates for $750.1 million. They guided for revenue in the range of $831 million for the current quarter and earnings of $1.43.

Earnings Nov 3rd.

CLSA upgraded the stock from underperform to outperform saying the bad news on worried about Apple's sales is already priced in and the CEO gave conservative guidance that should be easy to beat. The company said its flagship smartphone chipset sales were expected to grow 20% in 2016. The analyst raised the target price to $77.

Shares were up strongly on Thursday despite the weak market. They are poised to break over resistance at $72 and retest the $79 level. Because of the gain the option premiums are inflated so I am recommending a call spread. The October strikes will not be available until next week so we have to go with November.

Position 8/19/16 with a SWKS trade at $72.05

Long Nov $75 call @ $3.70, no initial stop loss.
Short Nov $82.50 call @ $1.66, no initial stop loss.
Net debit $2.30.



BEARISH Play Updates (Alpha by Symbol)

DIA - Dow Jones ETF - ETF Profile

Comments:

The weak jobs report created a bad news is good news bounce. If we do not get a breakdown by Wednesday evening, I am going to close the position.

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


IBM - IBM Corporation - Company Profile

Comments:

Resistance at $160 held again. Credit Suisse reiterated an underperform on the stock and a price target of $110. Nobody cared.

If we do not get a breakdown by Wednesday evening, I am going to close the position.

IBM is moving in lock step with the Dow and both are stock in a trading range with a minor bias to the downside.

Original Trade Description: Aug 23rd.

International Business Machines Corporation provides information technology (IT) products and services worldwide. The company's Global Technology Services segment provides IT infrastructure services, such as IT outsourcing, integrated technology, cloud, and technology support services. Its Global Business Services segment offers consulting and systems integration services for strategy and transformation, application innovation services, enterprise applications, and analytics; application management, maintenance, and support services; and processing platforms and business process outsourcing services. The company's Software segment provides middleware and operating systems software, including WebSphere software to integrate and manage business processes; information management software that enables clients to integrate, manage, and analyze data from various sources. The business was started in 1924.

This is not a bearish recommendation on IBM's business. This is a trading recommendation based on its chart pattern and the impact on the Dow. IBM has posted revenue declines for 17 consecutive quarters. The business format is changing and IBM is adapting. However, turning IBM around is like turning a VLCC tanker around. They carry 2 million barrels of oil and it takes miles to slow and turn because of their momentum.

IBM is making the turn and their cloud business is growing rapidly but it could take years before the restructuring is complete.

The problem for the market is that IBM is an expensive Dow component. At $160 per share it carries a lot of weight. After they reported earnings showing a big jump in cloud revenue and a major investment from Warren Buffett, the stock rallied to $163 where it stalled for the last two months. At Tuesday's close it was resting on support at $160 and as the Dow dropped to close at the low for the day.

The problem as I see it is this. There is no reason to buy IBM shares. They will post another revenue decline this quarter. That makes it a sell candidate for portfolio managers trying to raise cash for their end of year buys. It is also a high dollar stock so they get a lot of cash back when they sell it compared to selling a GE or a Pfizer. When you need to raise cash you sell the biggest stock with the least promising outlook.

The Dow is the weakest of the major indexes. If the market ever decides to correct over the next six weeks, you can bet the Dow will be the leader to the downside. That means IBM will likely be the leader inside the Dow because there is no real reason to own it when there are so many better stocks in rally mode.

I am recommending we buy the Oct $155 put with an IBM trade at $159. That will be below the support at $160 and potentially the start of a decline that could dip to $150 depending on the market.

Position 8/24/16 with an IBM trade at $159

Long Oct $155 put @ $3.25, see portfolio graphic for stop loss.




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