Option Investor

Weekly Newsletter, Saturday, 03/19/2005

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Table of Contents

  1. Commentary
  2. Changes in Portfolio
  3. Portfolio Listing
  4. New Plays
  5. Existing Plays
  6. Watch List

Leaps Trader Commentary

Time For Some Strategic Planning

For us it presents two opportunities. We have several winning plays that should benefit from any market bounce and we are looking to get into long term oil plays on any dip back to the 100-day average. It could be a win-win situation.

Another opportunity would be new short possibilities in equities once they rebound on falling oil. Transportation stocks should get a boost if oil declines as well as GM. I had looked at GM as a long term short twice in the last month but kept thinking I was early. When I wrote about it last Tuesday night I was already kicking myself for not taking the entry back in early March. After the massive drop on Wednesday I was really kicking myself. I believe GM has a lot further to fall but a drop in oil prices should provide a dead cat bounce and a new entry opportunity.

The only airline worth shorting is Continental at 10.50 or Jet Blue at $17. Shorting DAL or AMR in the single digits is not worth the effort in a leap. It is my opinion that airlines will also see a bounce on the seasonal drop in oil and that will give us our entry.

For long possibilities on equities the only game in town is oil. I believe the market is facing a long-term decline to levels not seen in years once the real oil story is told. $70, $80 or even $100 oil will be very negative for the consumer and for stocks and that is our immediate future. Oil over $100 is within sight and it will be the death knell for equities. The next couple years could see levels back under 9000 for the Dow and 1750 on the Nasdaq as trader psychology adjusts to the new way of life.

The oil sector is the new bubble only this bubble will not burst for a long time. We will continue to look for entries in oil for long term holds and entries in equities for short term trades.

Adobe rewarded our patience last week with a $5 bounce to a new four-year high. If the Nasdaq recovers next week as expected the shorts will be hit once again. We are up +$5 on the trade.

The XLE continues to move higher but with far less excitement than before despite record levels for oil. I believe it is the anticipation of the seasonal Q2 decline weighing on the stock and I am tightening the stop to prevent any loss when it rolls over. We are up +200% on the trade.

EBAY was hit very hard by the de-weighting on the S&P with 16% of the stock held by insiders. The insurance put is now worth more than the loss on the Leaps and we can either exit now for a profit despite the drop or hold on to see if a rebound appears. I am choosing to exit in light of Meg Whitman interviewing for the job at Disney.

DGX broke over $100 again and a positive market next week could start a new leg higher.

Interest rates continue to weigh on the homebuilders and the insurance put on TOL expired $3 in the money. This partially offset the drop in the leap but now we have to decide what to do about the future.

Overall it was not a bad week despite the drop in the market. The insurance puts are doing their job and I believe the worst is behind us.

Changes in Portfolio

New Plays
Dropped Plays
** Dropped for breakeven**
Toll Brothers
** Dropped **



Ryland Group

** Dropped **



Paccar Group Inc

** Dropped for breakeven **

New Watch List Plays Triggered



Federal Express



Semiconductor Holders

Portfolio Listing & Top Picks

New Plays

Most Recent Plays

PLAY: FDX - $96.04 Federal Express ** No Stop **

Federal Express reported stronger than expected earnings on Thursday with net income up +53% and revenue up +21%. They hit a high near $102 in early March but returned to the bottom of their range at $96 after the earnings announcement. This is the entry we were waiting for.

FDX warned that higher oil prices could crimp earnings in the current quarter. Still according to FDX customer demand was so strong that it was driving new investment in aircraft, facilities and technology.

Comparing the FDX earnings with UPS it appears FDX is the clear winner and taking substantial market share away from UPS. On a broader note Yellow Roadway said on Friday that freight tonnage was at an all time high. They raised rates +4.5% and their fuel surcharge to 11%. FDX is the premium shipper in the sector and they are also having no problems with rates. According to UPS the fuel surcharge is turning into a profit center as the carriers learn how to hedge against oil prices. FDX already hedges but they also warned that rapid rises in crude could negate that hedge. You can bet that the fuel surcharges will continue to climb and earnings will remain at the top end of the spectrum.

Morgan Stanley said the FDX guidance to the top of the range was a positive sign and a couple cents of energy pressure was to be expected.

Target $96.00 for an entry on the next pullback.

2006 $100 LEAP Call WFX-AT @ $7.50

Insurance put:
April $95.00 FDX-PS currently $1.55
(Wait for Tuesday to buy if the market is positive.
Let some premium bleed away from the new month.)

Entry $96.00 (03/17)

PLAY: SMH - $32.44 Semiconductor Holders ** No Stop **

The semiconductor index broke 420 support midweek but garnered several buy recommendations. The S&P re-weighting took all the attention but the SOX is slowly approaching real support at 400. This equates to $32 on the SMH. I believe buyers will appear either at or just above that level.

We had been waiting for a dip to $33 for an entry and that came on Tuesday with very little decline the rest of the week. The Friday drop was index related in my opinion.

The current level is well above any attractive puts for insurance with a -2.50 move on the SMH a big move from this level. However real support could be found at $31 so I am going to recommend a 60 cent May put just in case. I believe we will know if this trade is going to be a winner very quickly.

2006 $35.00 LEAP Call YRH-AG @ $2.75

Insurance put:
May $30 Put SMH-QF currently 60 cents.
Wait for Tuesday or even Wednesday to buy the put so premium
can bleed from March expiration.

Entry $33 (03/15)

Play Updates

Existing Plays

PLAY: EBAY - $35.05 ** Dropped **

EBAY took it hard that Meg Whitman interviewed for the Disney job. The market followed that up with a solid punch with the index re-weighting and strong selling to remove -16% insider holdings from EBAY.

EBAY has substantial support at $32.50 but I am not sure I want to hold based on the news that Whitman would consider leaving.

Currently we are up +3.75 on the insurance put and down -2.85 on the 2006 LEAP and -3.80 on the 2007 LEAP. The prudent thing to do would be to bail for a breakeven and find another candidate. I believe the sentiment changed with the Whitman interview.

I am taking the exit for a breakeven. Aggressive traders may want to exit the LEAPS and keep the call until EBAY stops falling.

2006 $45 LEAP Call YRL-AI @ $5.00, exit 2.15, -2.85
2007 $45 LEAP Call OYI-AI @ $8.50, exit 4.70, -3.80

Insurance put:
Buy APRIL $40 Put XBA-PH @ $1.25, exit 5.00, +3.75

Entry $42.24 (02/28)

PLAY: $77.13 Toll Brothers ** Dropped **

Toll broke support at $80 and with the index selling. The prospect of the Fed raising rates and dropping the measured pace language is too much risk to remain in Toll without an insurance put. Our March put expired $3 in the money but the April put is too expensive for my taste.

We have the Fed on Tuesday and New Home Sales on Thursday. It could be the one-two punch that tanks the builders or the two stage rocket that send them to the moon.

The combination of the two is just enough to take me out of the trade. I am going to exit for a -2.15 loss and take my lumps.

Toll Brothers is unique in that it does not just build homes. This gives them a broader revenue base than many other builders and should insulate them from any softness ahead.

Toll Brothers overview: Source - company press release.

Toll Brothers, Inc. is the nation's leading builder of luxury homes. The Company began business in 1967 and became a public company in 1986. The Company serves move-up, empty-nester, active-adult and second-home home buyers and operates in 21 states.

Toll Brothers builds luxury single-family detached and attached home communities, master planned luxury residential resort-style golf communities and urban low-, mid- and high-rise communities, principally on land it develops and improves. The Company operates its own architectural, engineering, mortgage, title, land development and land sale, golf course development and management, home security, landscape, cable T.V. and broadband Internet delivery subsidiaries. The Company also operates its own lumber distribution, and house component assembly and manufacturing operations.

2006 $85.00 LEAP Call YKW-AQ @ $11.60, exit 8.70, -2.90

Insurance put
March $80.00 Put TOL-OP @ $2.25, exit $3.00, +0.75

Entry $84.10 (02/20)

PLAY: $64.43 Ryland Group ** Dropped **

Ryland can't seem to recover from its weather related profit warning two weeks ago. I am dropping it for the same reasons I dropped TOL. Fed meeting and New Home Sales and no reasonable insurance put.

Ryland is one of the countries largest homebuilders and was recently added to the S&P-500. Ryland currently builds in 27 markets across the country and also acts as a mortgage lender. Net income has increased +400% over the last four years and estimates are continuing to increase but RYL trades at a PE of only 10. Ryland sold 16,880 homes in 2004, which was an increase of 1,683 over the prior year.

They recently announced 13 new planned communities around Las Vegas, currently the fastest growing market in the U.S.

2006 $70 LEAP Call YRX-AN @ $7.90, exit 6.80, -1.10

Insurance put
Mar-$60.00 Put RYL-OL @ $0.80, expired worthless

Entry $65.00 (02/11)

PLAY: PCAR - Paccar Inc $73.39 ** Stopped $73.00 **

PCAR finally stopped us out with a dip under the 50-day average to $73. The rebound two weeks ago put us back in profitable territory so the stop was for a breakeven.

Paccar is the number two maker of heavy-duty trucks with two of their major brands being Peterbilt and Kenworth. Paccar produced a company record of 124,000 trucks in 2004 as healthy freight volume pushed demand. Earnings were announced on Feb-1st and revenue increased +44% and earnings +52%. The company said sales continue to be strong with an expected 15% jump in total truck sales in the U.S. in 2005 and a +5% jump in Europe. Market share in North America increased to +24% on heavy-duty trucks and 9.4% on medium duty vehicles.

Paccar had risen from $52 last January to $81 at the close of 2004. Like all the other winners they were hit hard by profit taking and knocked back to $68.50 on Jan-28th. After two weeks of sideways consolidation they have started to move higher once again. This is a stable company with very strong earnings and growth and should be a target of fund managers once the techs move into overbought territory. $70 appears to be holding as support and hopefully a launching point.

2006 $70.00 LEAP Call YYQ-AN @ $8.80, exit $9.00, +0.20
2006 $75.00 LEAP Call YYQ-AO @ $6.30, exit $6.10, -0.20

Stop loss $73.00

Entry point $71.80 (02/07)

PLAY: ADSK - Autodesk Inc $29.64 ** Stop loss $27.50 **

Autodesk is stuck in an increasingly narrow range with a minor bias to the sell side. Our stop is -2.00 from the current price and I am willing to hold as long as support at $28.50 holds.

Autodesk is the worlds biggest software design maker and the stock has made quite a few investors a lot of money. In 2004 the stock rose from $12 to $39 for a +209% gain. Needless to say the company was hammered once the calendar expired and it dropped to a low of $26 on profit taking. On January 24th, the low for the current market and after a 33% January drop the company was downgraded on valuation my Banc of America. BAC was late to the party but ADSK saw another -12% drop on the news. Smith Barney retaliated that the concerns over share price had already been factored in with the January selling and suggested there was upside potential.

In November ADSK raised guidance for 2006 above analysts estimates and nothing has change from the company. A string of positive press releases continue to paint a picture of business is booming. Earnings are Feb-22nd so we do have event risk but I would like to think the risk is to the upside. The 100-day average has proved to be support in January as is did last August.

Autodesk does not have leaps. Since the normal time in a leap trade is only about two-three months I decided to enter the play with the July $32.50 call instead at $3.20. It is cheaper than a leap and plenty of time to play. The July $30 call is only $4.40 and it is already $1.33 in the money.

I am not going to recommend an insurance put because of the cheap calls. The closest strike at $30 makes the March put $1.60. I can't see paying $1.60 to insure a $3.20 position.

July $30.00 Call ADQ-GF @ $4.40
July $32.50 Call ADQ-GZ @ $3.20

No insurance put

Stop loss $27.50

Entry point $31.33 (02/07)

PLAY: DGX - Quest Diagnostic $100.26 ** Stop loss $98.00 **

Huge drop to near $98 on Wednesday but a fast recovery back to a new high over $101. If we get some sector rotation out of oil as the quarter ends we could see a strong breakout in DGX.

Quest announced a +21% increase in earnings in January and soared from $89.50 to just over $96 in a week. Instead of consolidating those gains it just keeps moving higher. We entered DGX on Jan-21st as it was moving lower and touched support at the 100-day average at $90. Three days later the rocket ride began from $89. The trick now is to stay far enough away from the price to keep from getting stopped but not give back all of our gains.

Quest Diagnostics Incorporated is the nation's leading provider of diagnostic testing, information and services, providing insights that enable healthcare professionals to make decisions that improve health. The company offers the broadest access to diagnostic testing services through its national network of laboratories and patient service centers, and provides interpretive consultation through its extensive medical and scientific staff.

Quest Diagnostics is also the leading provider of esoteric testing, including gene-based medical testing, and provides advanced information technology solutions to improve patient care. (Source DGX)

2006 $95 LEAP Call YFK-AS @ $6.40

Insurance put
Feb-$85 Put DGX-NQ @ 50 cents expired worthless.

Entry $91.00 (01/21)

PLAY: ADBE - Adobe Systems $68.05 ** Stop $65.00 **

Our March put expired worthless but we are not complaining after the +$5 jump on Friday. We no longer have any insurance so I raised the stop to $65. ADBE approved a 2:1 split and said revenue jumped +23.5% for the first quarter. I am hesitant to keep the play with nearly $5 at risk but a rebounding Nasdaq next week could continue this spike on the split news. If I start getting nervous I will send out an alert to exit.

Adobe is the king of the document and image business and continues to announce new products. The company announced earnings in December that rose +33% and beat estimates. Income for the year rose +69% on a +29% increase in revenue. Adobe affirmed guidance for 2005 and the stock has been beating the Nasdaq in percentage gains. In 2004 the stock rose +60%. Since they have already announced earnings we have very little event risk over the next month.

I recommended the February $55 put as insurance at 80 cents. That gave us six weeks for the Q1 earnings to cycle and for ADBE to pick a direction. If we are not profitable by Feb-18th expiration we will close and take our lumps.

Jan-06 $60 LEAP Call WAE-AL @ $7.50

Put Insurance
Feb-05 $55 Put AEQ-NK @ 80 cents - expired worthless

Added new insurance on Feb-22nd
Mar-05 $60 Put AEQ-OL @ 75 cents - expired worthless

Stop loss $65.00

Entry $58.78 (01/09)

PLAY: SYMC $20.63 Symantec - Veritas ** no stop **

SYMC finally dipped to support at $20 and our insurance put is $3 in the money. It is put up or shut up time for SYMC and we have about two weeks before our put is at risk. If we don't get a decent bounce I may exit soon rather than wait for April expiration. We have very little risk from here but we are down a couple bucks overall. I was hoping a touch of $20 would generate some buying interest.

I believe that the SYMC/VRTS merger is a match made in heaven and analysts will come to that view as more plans are announced. The companies have no overlapping products but all their products are perfect fits for the others. With one company having anti-virus, data security, backup, recovery and storage management it puts the other stand-alone companies in a very difficult position. EMC and QLGC both fell in the storage sector and Mcafee was crushed in the anti-virus sector.

There is no stop on this position. With the 2007 LEAP Call any minor dips will not result in a material drop in the leap. The April $22.50 insurance put will protect us from any potential disaster. For me this is a buy and forget play until April.

2007 $25 LEAP Call OBL-AE @ $6.30

Insurance Put
APR-2005 $22.50 PUT SYQ-PX @ $1.15

Entry $25.37 (12/19)

PLAY: XLE - S&P Energy SPDR $43.76 ** Stop loss $43.00 **

** Profit target $45 on any bounce **

Very little excitement despite the new highs in oil. I raised the stop to take us out on any end of quarter drop in price. Q2 is the weakest quarter for oil demand and I believe the relative weakness in the XLE is telegraphing an exit for investors.

We are up +$6 on the 2006 LEAP and I don't want to give it back.

The XLE SPDR is composed of 27 energy stocks and represents about 8% of the SPX. This is the 8% that helped push the SPX to the current levels with the rise in oil over the last year. In fact the XLE has far exceeded the SPX in performance over the past year.

2006 $35 LEAP Call WHA-AI @ $3.60
2007 $40 LEAP Call ORJ-AN @ $2.65

Drop insurance:
March $34 Put XLE-OH @ $1.00, expired worthless

Entry $35.55 on 12/12

Leaps Trader Watch List

With relative weakness in the XLE and oil at new highs I suspect we are about to see some sector rotation back into equities as the quarter ends. Q2 is the season demand low for oil and our last chance for an oil entry before year-end. Last year the dip came on March 24th and lasted about three weeks.

With the gains in oil this year I am expecting a much stronger drop but I would be very surprised if we broke the 100-day averages. That will be our target.

Juniper has lost a bid once again and I am dropping them from the watch list.

I am adding GM, JBLU and CAL for potential short entries on any drop in oil.

I dropped WMB due to the erratic chart compared to the other oil stocks.

Dropped Entries


New Watch List Entries
COP Conoco Philips
OXY Occidental Petroleum
CVX Chevron Texaco
UCL Unocal
XOM Exxon Mobil
GM General Motors
CAL Continental
JBLU Jet Blue

Current Watch list

The oil stocks are listed for reference because the actual prices are so far away from where I would like to get an entry. I am hoping for a sharp correction when it comes and the spring demand slumps. The targets are above the 100-day averages but with the averages rising it is where I expect them to meet.

COP - $110 Conoco Phillips ** Target $95.00 **

Conoco is my first choice for an oil stock once the current trend eases. I would like to get an entry around the 100-day average now at $93 but rising. This has been a good support level in the past.

BUY 2007 $100 LEAP Call OJP-AT

OXY - $73.95 Occidental Petroleum ** Target $65.00 **

OXY would be my next choice with the same 100-day average as an entry point. That is currently $61.

BUY 2007 $70 LEAP Call VXY-AN

CVX - $60.38 Chevron Texaco ** Target $55.00 **

Looking for a new entry around the 100-day average currently at $55.

BUY 2007 $60 LEAP Call VCH-AL

UCL - $62.89 Unocal ** Target $50.00 **

Unocal is a takeover target and any dip would make it more attractive to a buyer. Target the 100-day currently at $47.

BUY 2007 $55 LEAP Call VCL-AK

XOM - $62.65 Unocal ** Target $55.00 **

XOM has larger reserves and more cash than any other oil company. They have to find something to do with their $28 billion and it will either be returned to the shareholders or used to buy more reserves.

BUY 2007 $60 LEAP Call ODU-AL

XLE - $43.76 Unocal ** Target $38.00 **

The XLE covers all the bases and the options are cheap. We will not get the same move in the XLE as an individual stock but it is much more steady.

BUY 2007 $40 LEAP Call ORJ-AN

GM - $28.61 General Motors ** Target $32 and $27 **

If oil declines GM could rebound and try to fill the gap at $34. I doubt it will make it. I am putting in an upside target and a breakdown target of $27.

BUY 2007 $30 PUT VGN-MF if $32 target is hit
BUY 2007 $25 PUT VGN-ME if $27 target is hit

CAL - $10.57 Continental Airlines ** Target 9.50 and $12 **

Same story as GM. If oil declines CAL could attempt to rally but the outlook is still bleak.

BUY 2006 $7.50 LEAP Put YFJ-MU if $9.50 target is hit
BUY 2007 $10.00 LEAP Put OVJ-MB if $12.00 target is hit

JBLU - $17.36 Jet Blue ** Target $19.50 and $16.50 **

If oil declines JBLU could attempt to rally but the outlook is still bleak.

BUY 2007 $15.00 LEAP Put VYO-MC if $16.50 target is hit
BUY 2007 $20.00 LEAP Put VYO-MD if $19.50 target is hit


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