Option Investor

Weekly Newsletter, Saturday, 04/28/2007

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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

Testing Resistance

Crude has been very volatile over the last couple weeks but the one constant is the strong resistance at $66.75 and again at $68. That $66.75 level dates back to the gap down open back on April 3rd. It has been tested several times since but has remained firm and unbroken. That is also the 50% retracement level for the August high of $80.90 on this contract to the January lows of $52.73. As you can see in the chart below this may be a tough level to crack. Fortunately there is also a strong uptrend in place with several higher lows.

June Crude Oil Chart - Daily

I do not see any chance of materially lower prices in our future. Political unrest in various oil production nations, sporadic production outages and a much stronger appetite for gasoline should keep that uptrend in place. Throw in the approaching hurricane season and we should see a break of that resistance over the coming weeks.

The refiners are continuing to soar despite valuation downgrades to several. Tesoro and Valero are two standouts, which have failed to yield any ground despite the downgrades. Because of the strong gasoline demand and the many refinery problems the crack spread (profit to refiners) continues to hold at very high levels. At the beginning of April this spread reached $40 per barrel of oil. The spread is calculated based on the price of oil at $65.95 on Apr-2nd and the value of the gasoline produced from that barrel. In early April gasoline was being sold into the market at $2.52 per gallon. That equates to $106.05 per barrel minus the cost at $65.95 making the gross profit or spread $40.10. As of April 25th that spread had dropped to $26.91 per barrel but that is still well above the historical average of $7-$10 per barrel. Current refinery problems have removed nearly one million barrels of weekly gasoline from production and many of these problems will take weeks to be resolved. In the case of two refineries, Valero TX and BP Whiting, the repairs will take 2-3 months. In the Wednesday inventory report by the EIA refinery utilization fell -2.6% to 87.8% when analysts were expecting a slight gain to something over 91%. Gasoline inventory levels have fallen by nearly 30 million barrels since the last weekly gain in the first week of February. The current 12 straight weeks of inventory declines is extremely rare.

Natural gas continues to hold near $8 due to the colder weather in the northeast. I still believe that price will weaken despite a forecast of a hot summer. Current inventory levels are at 1,564 bcf. That is +267 bcf above the 5-year average but -287 bcf below last years exceptionally high numbers for this period.

Boone Pickens was interviewed earlier this week and continues to claim $80 oil or higher in 2008. He believes we are closer to peak oil than most analysts currently believe. He is targeting 86 mbpd as the expected global production peak and that is not far above our current rate of just over 85 mbpd. Time will tell if he is correct but even if he misses it by a year or two it will still arrive with almost everyone unaware of its coming.

I believe peak oil will solve the global warming crisis. Once global oil production begins to decline and oil prices pass $100 a barrel we will see forced conservation on a global scale as well as a major change in driving habits due to $6-$10 gasoline. Smog and pollutions from gas guzzling autos will cease to exist. The world as we know it will change drastically over the next 20 years and nobody can stop it.

Earnings from the energy sector have surprised to the upside for most of those already reported. Several of the majors reported rocky results due to lower global production and the cheaper price for oil. They tried to blame it on oil prices but their falling production numbers were an ominous sign of things to come.

I mentioned earlier in the week that Exxon had completed the longest well on record at just over seven miles long/deep. (37,016 feet in 61 days) The majority of that well was drilled horizontally under the ocean. The cost and complexity of producing oil will continue to rise as proven by this well.

Since we are well positioned for the summer rise in energy and an exit in September I am going to continue to add some non-energy plays to capitalize on other markets.

Jim Brown

June Crude Futures Chart - Daily

June Gas Futures Chart - Daily

June Gasoline Chart - RBOB Daily


Changes in Portfolio

New Plays

With most energy stocks up strongly over the last few weeks I really don't want to add any at these levels until after earnings are over.

Dropped Plays


New Watch List Plays Triggered
TSO $119.17 +11.56 Tesoro
ATW $64.39 +4.92 Atwood Oceanics

Portfolio Listing & Top Picks

New Plays

Most Recent Plays

TSO - $119.17 +11.56 - Tesoro

Finally an entry on TSO. The pullback from the prior week found a bottom and our breakout entry at $110 was triggered just after the open on Monday. TSO charged ahead for a +9 point gain for the week. TSO has seen four downgrades on valuation in the last month from C, FBR, Deutsche Securities and BSC. That slowed them for only a couple days and now it is already ten points higher ahead of peak gasoline season. No complaints here.

Company info:

Tesoro Corporation (Tesoro) is an independent petroleum refiner and marketer with two operating segments: refining, which is engaged in refining crude oil and other feedstocks at its six refineries in the western and mid-continental United States and selling refined products in bulk and wholesale markets (refining), and retail, which is engaged in selling motor fuels and convenience products in the retail market through its 460 branded retail stations in 18 states. Through its refining segment, the Company produces refined products, primarily gasoline and gasoline blendstocks, jet fuel, diesel fuel and heavy fuel oils for sale to a variety of commercial customers in the western and mid-continental United States. Tesoro's retail segment distributes motor fuels through a network of retail stations, primarily under the Tesoro and Mirastar brands.

Earnings schedule: May 3rd, est $1.87

Breakout target: $110 hit 10:AM on 4/23/07
Position: 2009 $120 LEAP Call ZGC-AD @ $16.68


ATW $64.39 +4.92 - Atwood Oceanics

We managed another nice breakout entry on Atwood last Monday and two days later ATW began a +$5 sprint higher on the earnings strength from other drillers like Diamond Offshore. ATW reports on May 8th and they are expected to turn in a great report.

Interesting article in Investors Business Daily regarding Atwood.

Company Info:

Atwood Oceanics, Inc. is engaged in the international offshore drilling, and completion of exploratory and developmental oil and gas wells and related support, management and consulting services. The Company's operations include eight offshore mobile drilling units located in five regions of the world, such as offshore southeast Asia, offshore Africa, offshore Australia, the Black Sea and the United States Gulf of Mexico. It also manages two self-contained platform rigs. During the fiscal year ended September 30, 2006 (fiscal 2006), 93% of its contract revenues were derived from foreign operations. The submersible RICHMOND is its only drilling unit working in the United States waters. The Company supports its operations from its Houston headquarters and offices located in Australia, Malaysia, Egypt, Malta, Indonesia, West Africa, Singapore and United Kingdom.

Earnings schedule: May 8th est $1.08

Breakout trigger $60.50 hit 4/23/07
Position: 2009 $70 LEAP Call ZFJ-AN @ $6.50


Play Updates

Existing Plays

The current format of the Play Updates has changed. Only the pertinent data that has changed from the prior week will be shown in an effort to concentrate more on new commentary on new plays rather than restating existing positions. Each play has a link back to either its last full commentary or its initial description.


TS - $47.15 -0.72 - Tenaris

No news and I believe we are seeing the calm before the storm ahead of earnings. Earnings are next Tuesday. TS did lose some ground on a decline in ADRs as the week ended.

To see the initial commentary on this position click here

Earnings schedule: May 4th


Position: Sept $50 Call TSW-IJ @ $3.80 Stop TS @ $45.50


BHP - $48.92 -1.52 - BHP Billiton

A dip in gold and copper caused the miners to weaken. No news and no change in play. No earnings date announced.

To see the initial commentary on this position click here

Earnings schedule: No date announced.

Breakout target $43.50 hit March 12th

Position: JAN-09 $50 LEAP Call ZPK-AJ @ $6.00


CCJ - $46.25 -.46 - Cameco

Cameco reported earnings on Friday after the close that were -47% below the earnings for the comparison quarter. Factors impacting earnings were timing of deliveries, a planned electrical outage and lower gold production. Delivery schedules are dependent on customer requirements. Most request delivery in Q4 but in 2005 there was a significant number of deliveries pushed from Q4 into Q1. This produced a significant revenue timing imbalance in Q1-06 and that carried over into Q1-07. CCJ did raise guidance substantially saying 2007 revenues should climb by as much as 50% overall and as much as 90% in uranium. CCJ said it had new market price contracts for four million pounds to be delivered in 2007. The price received will be significantly higher than existing legacy contracts. No change in play.

There has not been a weekly drop in uranium prices since 2003. The NYMEX announced it would begin trading a uranium commodity contract on May 7th. The contract would cover 250 pounds of uranium.

Worldwide there are 28 new reactors being built, 64 on the drawing boards and 158 in the proposal stages. If all were built it would be a 57% increase from the 435 reactors now in operation. In 2006 the world consumed 180 million pounds of uranium but produced only 100 million pounds. The rest came from Russian nuclear warheads being decommissioned. The supply from those warheads is dwindling and will be completely gone by 2015.

To see the initial commentary on this position click here

Breakout trigger: $37.50 Hit March 7th

Position: JAN-09 $40 LEAP Call ZBK-AH @ $7.80


PTR - $114.98 -1.72 - Petrochina

No news on PetroChina and no excitement. Support is holding but so is resistance. We know PTR can be explosive once a move starts so be patient. No change in play.

To see the initial commentary on this position click here

Breakdown target:
$110 1/2 position - hit Mar-5th

Position: JAN-09 $120 LEAP Call ZJK-AD @ $10.70
Cost reduction 4/19 $10.70 -2.25 = $8.45

Cost reduction play:
Position: stopped @ $114 4/19
Short June $105 Put PTR-RA @ $3.40, exit $1.15. +2.25


SNP - $89.26 -0.14 - Sinopec

Sinopec paused after nine workers died in a terror attack in Ethiopia. A 37 member exploration team guarded by over 100 soldiers was attacked near the Somali border by more than 200 heavily armed Somali rebels. Sinopec said it would not stop its expansion plans for Africa. No change in play.

To see the initial commentary on this position click here

Breakdown target $82.50 hit on 2/27

Position: OCT $85 Call SNP-JQ @ $7.00


CHK $33.67 +0.86 - Chesapeake Energy ** Stop loss $30.50 **

The CHK CEO Aubrey McClendon said in an interview last week that it was planning on organic growth over the next several years. CHK has invested billions for leases over the last seven years and in his words "Now it's time to go out and see what's under them." McClendon said he expected production growth in 2007 from 14-18% and another 10-14% in 2008. McClendon said he was modestly bullish on gas prices in 2007. Since he has spent several hundred million personally to buy CHK stock over the last two years and now owns about 11% of the company I would tend to believe his outlook. No change in play.

Insurance put:
Buy Oct $30 Put CHK-VF currently 90 cents. Profit stop $28.

To see the initial commentary on this position click here

Earnings schedule: May 4th

Current recommendation: Hold

Position: 2009 $35 LEAP VEC-AG @ $5.30

Insurance put: none


MRO $102.80 +2.25 - Marathon Oil

MRO announced a 2:1 stock split on Wednesday to occur on June 18th to holders of record as of May 23rd. The split will be distributed as a dividend. They also raised their cash dividend by 20% to 48 cents. MRO also announced a new deepwater discovery in Angola that tested at nearly 4,000 bpd. Earnings are Tuesday. No change in play.

To see the initial commentary on this position click here

Earnings schedule: May 1st

Current recommendation: Buy at $85

Position 2009 $100 LEAP Call VXM-AT @ $12.60
Cost update: Expired March put +65 cents to $13.25

Insurance put: 2/18/07
Position: March $85 PUT MRO-OQ @ 65 cents. expired


HES - $57.02 -0.54 - Hess Corporation
(Formerly (AHC))

Hess announced earnings that fell to $1.17 per share from $2.22 in the comparison quarter. Gas prices received fell to $5 mcf from $6.73 in 2006. Hess blamed the drop in prices as the major reason for the earnings slide. Hess received an average of $2.56 per barrel less in Q1-07 than Q1-06. Production rose to 382,000 bpd from 361,000 bpd in the same period. Profits in the refinery business nearly doubled to $101 million but profits in the exploration division fell nearly half to $340 million compared to $706 million. The cost of wells and timing of production starts will always cause volatility in this division. No change in play.

Insurance put:
Buy May $55 Put IGG-QK currently 80 cents. Profit Target $51

To see the initial commentary on this position click here

Earnings schedule: $1.17 vs $2.22

Current recommendation: Buy at $47

11/05/06 2009 $50 LEAP Call VHS-AJ @ $6.80
Cost adjustment put exit +1.60, cost = $8.40

Insurance Put: Triggered Jan-3rd @ $49
01/03/07 May $45 put HES-QI @ $2.60, exit 1/26 $1.00

Insurance Put: 2/26/07
MAY $50 PUT IGG-QJ @ $1.35, profit stop $46


BTU - $48.92 +2.37 - Peabody Energy

BTU rebounded back to resistance at $50 after Arch Coal beat earnings estimates and raised full year guidance. The rising cost of uranium and the projected scarcity a decade from now has many planners taking another hard look at coal. According to CEO Gregory Boyce the demand for electrical generation is rising strongly. A move over $50 could start a new uptrend and attract new money to BTU. No change in play.

To see the initial commentary on this position click here

Earnings schedule: April 19th, -32% on special items

Current recommendation: Buy at $37.50

10/22/06 Jan-2009 $50 LEAP Call ZZT-AJ @ $8.70
02/05/07 March put stopped -$1.00, cost = $9.70

Insurance put: Triggered with drop through $39
01/03/07 March $35 Put BTU-OG at $1.15, stopped @ $42.50


SLB $75.64 +0.41 Schlumberger

A week after SLB earnings the Oil Service Index hit a new historic high. The service business and the drillers are riding a wave of bullish sentiment about the increase in drilling activity worldwide. No change in play.

To see the last full commentary on this position click here

Earnings schedule: April 20th, 96 cents vs est of 91 cents

Current recommendation: Buy at $60, stop at $55

LEAP Position:
1/2 9/11/06 @ $8.60
1/2 9/12/06 @ $8.00
Position: 2009 $70 LEAP Call VWY-AN @ $8.30
Cost update for expired Jan put +2.00 = $10.30

Insurance Put: 9/18
Position: Jan $50 Put SLB-MJ @ $2.00, expired


SUN $76.79 +4.40 - Sunoco

SUN rebounded strongly for the week to a new eight-month high and the strength of the refining sector. No news but a nice trend could turn into a breakout over $80.

To see the last full commentary on this position click here

Earnings schedule: May 3rd

Earnings: Jan-31st, -57% $1.00 vs $.96 analyst est.

Current recommendation: Buy at $60, stop at $54

LEAP Position:
9/12/06 Position: 2009 $70 LEAP Call VUN-AN @ $13.50
Cost update expired Jan put +2.40 = $15.90

Insurance Put:
Position: Jan $55 Put SUN-MK @ $2.40, expired


VLO $71.21 +5.28 - Valero Energy

Valero blasted to a new historic high and a very nice week after reporting a +30% increase in earnings for the quarter. Profits rose from $1.32 to $1.86 per share and that even beat the optimistic analyst estimates of $1.81. VLO also tripled its stock buyback to $6 billion in 2007 compared to $2 billion in 2006. No change in play.

To see the last full commentary on this position click here

Earnings: April 24th $1.86 vs $1.32

Current recommendation: Buy at $50, stop at $45

LEAP Position:
9/24/06 Position: 2009 $60 LEAP Call VHB-AL @ $7.70
Cost update expired Jan put +2.25 = $9.95

Insurance Put:
Position: 9/25 Jan $45 Put VLO-MI @ $2.25, expired


DO - $87.94 +5.75 - Diamond Offshore ** Stop $73.00 **

DO broke resistance at $85 on strong earnings and hit a new nine-month high. DO profits soared +54% as day rates continued to rise. Earnings rose to $1.64 vs $1.06 in the comparison quarter. Day rates for its largest floaters rose from $189,000 to $280,000 per day. Rig usage for floaters was holding at 98%. No news and no change in play.

To see the last full commentary on this position click here

Earnings schedule: $1.64 vs $1.06

Current recommendation: Buy at $75, stop at $69

LEAP Position:
8/29/06 Position: 2009 $80 LEAP Call VCT-AP @ 14.20
Cost reduction: Oct $70 Put profit -3.15, cost now $11.05
Cost increase: Dec $60 put expired -2.40, cost now $13.45

Insurance Put:
10/08 Dec $60 Put DO-XL @ $2.40, expired

Position closed:
10/03 October $70 put DO-VN @ $1.65, exit @ $4.80, +3.15

Non-Energy Positions

TOL - $30.20 +$1.01 - Toll Brothers

Toll continued to move higher and comments from CEO Robert Toll helped to calm the housing market last week. Toll said everyone should hang onto their existing homes because prices could be significantly higher, 25% or more, 3-5 years from now. The reason he gave was the lack of new homes scheduled to be built. The majority of homebuilders have walked on all their land options and will have to renegotiate any new property when the housing cycle returns. Toll said it takes as much as three years to buy land, perform the tract layouts, get approvals from local governments and add in the utilities necessary before building begins. During this time home inventories will fall and prices could rise sharply as demand increases. Earnings are May 8th and we will get another chance to see if his outlook is better than the rest of the sector.

To see the initial commentary on this position click here

Earnings schedule: May 8th

Breakout target: $28.50 hit 4/16
Position: 2009 $35 LEAP OTY-AG @ $3.50


BZH - $34.84 +1.40 - Beazer Homes ** LEAP PUT **

Beazer CEO Ian McCarthy warned on Thursday that "We have yet ro see any meaningful evidence of a sustainable recovery and we expect current conditions to continue." Beazer also warned that given "the low visibility as to when conditions may improve" it is withdrawing its 2007 guidance. Back in January the company expected full year results in the $1.25 to $1.50 range. Beazer reported a loss for Q1 of $1.12 per share, down significantly from the $2.31 profit it reported for the same period in 2006.

FBI spokesman, Ken Lucas said, "There is all sorts of potential fraud issues here. We are looking at all types of fraud associated with Beazer corporate, mortgage and investments." Beazer said it had launched an independent audit of its mortgage origination business to coincide with the FBI investigation.

I can't conceive of why people are buying this stock given the investigations from nearly every enforcement branch of the government. I am sticking with it on the hopes reason returns to these investors.

Beazer is being flooded with suits, some seeking class action status on charges it practiced predatory lending, filed illegal loan documents and manipulated its stock price. These types of suits appear whenever bad news appears about a company but in this case it looks grim.

To see the last full commentary on this position click here

Earnings: April 26th

Position: Jan-08 $25 PUT WZF-ME @ $3.10

No stop loss

Leaps Trader Watch List

Dropped Entries
HAL Halliburton

I don't like the chart after major the HAL events. There is no life and no interest.

New Watch List Entries
AAPL Apple Computer

Current Watch List

UPL - Ultra Petroleum *** New trigger ***

Ultra reported on Friday a +42% increase in quarterly production to 28.5 bcfe. Production in Wyoming jumped +50%. UPL has a 27-year backlog of drilling inventory. Earnings are scheduled for May 2nd.

The announcement rescued them from a potential breakdown below $54 and prevented us from getting a potential entry at $50. I am hoping a continued decline in gas prices next week will help our cause. I am raising the trigger point to $53.

Company info:

Ultra Petroleum Corp. (Ultra) is an oil and gas company engaged in the development, production, operation, exploration and acquisition of oil and gas properties. The Company's operations are focused primarily in the Green River Basin of southwest Wyoming and Bohai Bay, offshore China. As of December 31, 2005, Ultra owned interests in approximately 148,007 gross acres in Wyoming covering approximately 230 square miles. The Company owns working interests in approximately 330 gross productive wells in this area and is operator of 53% of the 330 gross wells. Its domestic operations are focused on developing and expanding a tight gas sand project located in the Green River Basin in southwest Wyoming. During the year ended December 31, 2005, the Company's Wyoming production was approximately 87.4% of total oil and natural gas production on a thousand cubic feet of natural gas equivalent (MCFE) basis and 98.5% of the Company's estimated net proved reserves were in Wyoming on an MCFE basis.

Breakdown target $54 *** New price ***

Buy JAN 2009 $60 LEAP Call OZH-AL


ATI - Allegheny Tech *** New Target ***

Allegheny Technologies Incorporated (ATI) is a diversified specialty metals producer. The Company operates in three segments: High Performance Metals, Flat-Rolled Products and Engineered Products. The High Performance Metals segment produces, converts and distributes a range of high-performance alloys, including nickel and cobalt-based alloys and superalloys, titanium and titanium-based alloys, zirconium, hafnium, niobium, nickel-titanium and their related alloys. The Flat-Rolled Products segment produces, converts and distributes stainless steel, nickel-based alloys, and titanium and titanium-based alloys. The Engineered Products segment produces tungsten powder, tungsten heavy alloys, tungsten carbide materials and carbide cutting tools. ATI products are used in various markets. These markets include aerospace, defense, chemical process industry, oil and gas, electrical energy and medical.

Breakdown target $110.00

Call spread:
BUY JAN-09 $110 LEAP Call OYG-AX


TEX - Terex Corp

Terex Corporation (Terex) is a diversified global manufacturer of capital equipment delivering solutions for the construction, infrastructure, quarry, mining, shipping, transportation, refining and utility industries. The Company operates in five business segments: Terex Construction, Terex Cranes, Terex Aerial Work Platforms, Terex Materials Processing & Mining, and Terex Roadbuilding, Utility Products and Other. The Company's products are manufactured at plants in North America, Europe, Australia, Asia and South America, and are sold primarily through dealers and distributors worldwide. During the year ended December 31, 2005, it acquired Halco Holdings Limited and its affiliates, and Power Legend International Limited and its affiliates. It entered into a joint venture with North Hauler Joint Stock Company Limited to produce high-capacity surface mining trucks in China. It has a 50%-ownership interest in Sichuan Changjiang Engineering Crane Co., Ltd.

Breakdown target $72.00

Call spread


AAPL - Apple, Inc

Apple blew out estimates for the quarter and it appears earnings are only going to get stronger. I want to buy a dip in the stock to something in the low 90s.

Company Info:

Apple Inc., formerly Apple Computer, Inc., designs, manufactures and markets personal computers and related software, services, peripherals and networking solutions. It also designs, develops and markets a line of portable digital music players along with accessories, including the online sale of third-party audio and video products. Apple Inc.'s products and services include the Macintosh line of desktop and notebook computers; the iPod line of portable digital music players; the Xserve server and Xserve redundant array of inexpensive disks (RAID) storage products, a portfolio of consumer and professional software applications; the Mac OS X operating system; the iTunes Store, a portfolio of peripherals that support and enhance the Macintosh and iPod product lines, and a variety of other service and support offerings. It sells its products worldwide through its online stores, its retail stores, its direct sales force, and third-party wholesalers, resellers and value-added resellers.

Breakdown target: $92.00

Buy Jan 2009 $100 LEAP Call VAA-AT


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