Option Investor

Weekly Newsletter, Saturday, 09/06/2008

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Table of Contents

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

Leaps Trader Commentary

Ground Hog Day

Do you remember the movie Ground Hog Day with Bill Murray where he is forced to relive the day over and over again with the same ending? I feel like Bill Murray reliving an energy nightmare over and over again every day for months. The correction began on July 15th and despite a flurry of negative news events there has been very little in the way of rebounds.

Other than natural gas the crude chart is one of the ugliest charts I have ever seen. It makes it even more personal because of the money I have lost trying to catch the falling knife. It is a pure testimony to the fact that trend changes do not have to have a reason and they can be self fulfilling.

I thought we were past the ugly when prices failed to decline two weeks ago and then rallied a week ago. Just the reality was beginning to return to the oil market the sudden fund liquidations took their toll. Tuesday's -$9.61 drop in crude is simply without precedent. It was the biggest single day dollar drop ever and according to analysts today it was position dumping by Ospraie and the magnitude of the drop triggered stops on tens of thousands of contracts. The excessive leverage of the billion dollar funds magnifies the problem. As a $4 billion fund they probably had leveraged into $20 billion in positions in oil, gas, minerals and equities. Try getting out of those in a hurry and you have the market we had last week.

It is bad enough when a stock in the portfolio takes a dump after missing earnings or getting hit with the dreaded valuation downgrade. To get crushed for no reason for the stock or sector is extremely frustrating. It just proves again that bear markets happen and they tend to feed on themselves. Reasons don't matter when stops are getting hit.

We were blown out of all but one position last week and that was Anadarko. They announced a $5 billion buyback and that kept them off the endangered species list. We were triggered on five new positions by the monster drops.

I want to believe that the selling in oil is about over with strong support at $98 that OPEC is sure to defend. The OPEC meeting is Tuesday and they are not expected to announce any changes in production other than privately force members back under their quota limits. OPEC is currently producing 574,000 bpd over their quotas and most of that is coming from Saudi Arabia. If they force them to obey the quotas we can expect that production to disappear.

With the drop in gasoline usage over the last 17 consecutive weeks we have seen our oil requirements decline by about 1 mbpd. It is only temporary and once prices fell back below $4 the buying surge for SUVs began. Manufacturers said August saw strong sales in beaten down models. SUV searches on the Internet increased by 19 times in August. That proves Americans are not yet ready to kick the SUV habit and gas consumption will be back very soon.

Gustav may have avoided giving the gulf an energy headache but 90.5% of oil production is still offline as of Friday night. Gas production is still 79.8% offline. The oil patch and New Orleans has a new problem this week and his name is Ike. The new hurricane was a category 4 on Friday and forecasters are now plotting tracks that have Ike hitting the east side of New Orleans. Actually the track at 6:30 Saturday morning was dead center on New Orleans.

I doubt the oil patch is going to dodge the bullet twice in two weeks and managers seeing this major storm heading for the patch may think twice about restarting full production only to shut it down again two days later. The current track has it hitting the oil patch around 2:AM on Wednesday.

This should also be a week where oil inventories begin to drop sharply. The following week should be the worst but we should see sings of hurricane stress in this Wednesday's report.

I am going to refrain from loading up the watch list again given the bear market and we will let the existing plays run their course. Once a positive trend emerges we will get back on the horse and try again. I did add a couple plays to capitalize on the Fannie/Freddie takeover. I used the homebuilder SPDR and Goldman Sachs as potential candidates for a renewed banking sector.

Jim Brown

If you have registered for the ASPO Peak Oil conference and have not received a personal email from me with conference notes please send me an email. There is still time to register and join the crowd. Go here to register: http://www.aspo-usa.org/aspousa4/

October Crude Futures Chart - Daily

October Natural Gas Futures Chart - Daily

October Gasoline Futures Chart - RBOB Daily


Changes in Portfolio

New Energy Plays
FTI $48.88 FMC Technologies

New Non-Energy Plays
XHB S&P Homebuilder SPDR
GS Goldman Sachs - Combination play

Dropped Plays

New Watch List Plays Triggered
HP $49.33 Helmerich & Payne
AAPL $160.18 Apple Computer
PCP $98.14 Precision Cast Parts
MOS $94.52 Mosaic
HES $91.44 Hess Corp

Portfolio Listing & Top Picks

Top Picks

If you are looking to add another position these are my top picks for this week. The target prices listed would be the ideal entry points for these stocks today. There is no assurance any stock will ever return to these support levels and you will need to make your own decision about an entry point above these levels. I believe these stocks have the best potential this week. The list will change from week to week based on technicals, fundamentals, crude prices and market action. The list is not sorted in any particular order.

I strongly urge readers to be patient on new entries. We could see $100 or even below $100 before the volatility is over.


New Plays

Most Recent Plays

New Energy Plays

FTI $48.88 - FMC Technologies

I had a breakout trigger on FTI but after a $6 drop last week to strong support I am adding it as an active play at the current level.

Company Info:

FMC Technologies, Inc. (FMC Technologies) is a global provider of technology solutions for the energy industry and other industrial markets. The Company designs, manufactures and services systems and products, such as subsea production and processing systems, surface wellhead production systems, high-pressure fluid control equipment, measurement solutions, and marine loading systems for the oil and gas industry. During the year ended December 31, 2007, it operated in three business segments: Energy Systems (comprising Energy Production Systems and Energy Processing Systems); FoodTech, and Airport Systems. On July 31, 2008, FMC Technologies completed the spin-off of its FoodTech and Airport Systems businesses into John Bean Technologies Corporation.

Entry $48.88 9/07

BUY APR $55 Call FTI-DK currently $5.60

New Watch List Plays Triggered

HP $49.33 - Helmerich & Payne

When I put the $52 trigger on HP it was trading at $59. The severity of the drop was amazing. As you can see by the chart this should be decent support. Let's hope it holds.

Company Info:

Helmerich & Payne, Inc. is primarily engaged in contract drilling of oil and gas wells for others. The contract drilling business accounts for almost all of the Company's operating revenues. It is also engaged in the ownership, development and operation of commercial real estate. It is organized into two separate operating entities: contract drilling and real estate. The Company's contract drilling business consists of three business segments: U.S. land drilling, offshore platform drilling and international drilling. The Company's U.S. land drilling is conducted primarily in Oklahoma, California, Texas, Wyoming, Colorado, Louisiana, Mississippi, Alabama, Arkansas, New Mexico, and North Dakota, and offshore from platforms in the Gulf of Mexico, California, Trinidad and Equatorial Guinea. During the fiscal year ended September 30, 2007, the Company's international land segment operated in seven international locations: Venezuela, Ecuador, Colombia, Argentina, Bolivia, Tunisia and Chile.

Breakdown trigger: $52, hit 9/02

Position: 2010 $60 LEAP Call LQB-AL @ $9.10


AAPL $160.18 - Apple Computer

This play is either going to succeed wildly or fail miserably next week. On Tuesday at 10:am Pacific time Apple is holding its "Let's Soft Rock" press conference and new product release. There are dozens of rumors of what they might announce and rumors of what they won't announce.

Reportedly channel checks have ruled out a new MacBook but there will be a new iPod. There may also be a new AppleTV with DVR and TV tuner capabilities and potentially an iPod/Mac hybrid with a large screen. Either way the Apple public will either reward the stock or crush it if the event fails to measure up.

Because Apple is so volatile the September puts are far too expensive for my tastes as insurance. This is a dice roll play after a $20 drop from the recent highs to our breakdown trigger at $160.

Company Info:

Apple Inc. designs, manufactures, and markets personal computers, portable digital music players, and mobile communication devices and sells a variety of related software, services, peripherals, and networking solutions. The Company sells its products worldwide through its online stores, its retail stores, its direct sales force, and third-party wholesalers, resellers, and value-added resellers. In addition, the Company sells a variety of third-party Macintosh (Mac), iPod and iPhone compatible products, including application software, printers, storage devices, speakers, headphones, and various other accessories and peripherals through its online and retail stores. The Company sells to education, consumer, creative professional, business and government customers.

Breakdown trigger: $160, Hit 9/05

Position: Jan 2009 $190 Call APV-AR @ $7.80


PCP $98.14 - Precision Cast Parts

That was really frustrating to see a $6 gap open on Tuesday trigger our breakout entry of $105. The gap was sold hard with the market and PCP returned to strong support at $97. PCP is not as volatile as Flowserve and the mid $90s have proven to be strong support. Hopefully the bear market will reverse soon and we will be rewarded.

Company Info:

Precision Castparts Corp. is a manufacturer of complex metal components and products, provides investment castings, forgings and fasteners/fastener systems for critical aerospace and industrial gas turbine (IGT) applications. The Company also provides investment castings and forgings for general industrial, automotive, armament, medical and other applications; nickel alloys and product forms, as well as cobalt alloys, for the aerospace, chemical processing, oil and gas, pollution control and other industries; fasteners for automotive and general industrial markets; specialty alloys, waxes and metal processing solutions for the investment casting industry; refiner plates, screen cylinders and other products for the pulp and paper industry; metal-injection-molded and ThixoFormed parts for automotive and other markets; low-pressure sewer systems; gas monitoring systems for the power generation industry, and metalworking tools for the fastener market and other applications.

Breakout trigger: $105, Hit 9/02

Position: Jan 2010 $120 LEAP Call YAM-AD @ $14.90


MOS $94.52 - Mosaic

Mosaic was knocked for a $23 loss in three days and then rebounded +$6.74 on Friday. Potash (POT) and Terra (TNH) also rebounded strong. I hope it was not just short covering. Nothing has changed in the need for fertilizer and until the world population begins to shrink rather than expand I don't see a slowing of demand. This drop is market related not product related.

Company Info:

The Mosaic Company (Mosaic) is a producer of phosphate and potash crop nutrients for the agricultural industry. The Company operates its business through three business segments: phosphates, potash and offshore. The Phosphates segment produce phosphate fertilizer and feed phosphate which are used in crop nutrients and animal feed ingredients, respectively. The principal inputs used in crop nutrients production are phosphate rock, sulfur and ammonia. The Potash segment mines ad processes potash in Canada and the United States and sells potash in North America and internationally. The Offshore segment produces and markets fertilizer products and provides other ancillary services to wholesalers, cooperatives, independent retailers, and farmers in South America and the Asia-Pacific regions. As of May 31, 2008, Cargill, Incorporated owned approximately 64.4% of the Companys interest. As of May 31, 2008, the Company had a 50% interest in Saskferco Products Inc.

Breakdown trigger: $95, hit 9/04

Position: Jan 2009 $120 LEAP Call LXW-AD, $20.20


HES $91.44 - Hess Corp

Hess withstood the last six weeks of declines and then collapsed under pressure from hedge fund selling. Being the strongest in its sector has its disadvantages when the momentum crowd exits. The $23 drop triggered our entry at $95 and just above strong support at $90.

Company Info:

Hess Corporation (Hess) is a global integrated energy company that operates in two segments: Exploration and Production (E&P) and Marketing and Refining (M&R). The E&P segment explores for, develops, produces, purchases, transports and sells crude oil and natural gas. These exploration and production activities take place principally in Algeria, Australia, Azerbaijan, Brazil, Denmark, Egypt, Equatorial Guinea, Gabon, Ghana, Indonesia, Libya, Malaysia, Norway, Russia, Thailand, the United Kingdom and the United States. The M&R segment manufactures, purchases, transports, trades and markets refined petroleum products, natural gas and electricity. As of December 31, 2007, the Company owned a 50% interest in a refinery joint venture in the United States Virgin Islands, and another refining facility, terminals and retail gasoline stations located on the East Coast of the United States.

Breakdown trigger: $95, hit 9/03, net debit $4.40

Long 2010 $100 LEAP Call WHS-AT @ $20.70
Short 2010 $90 LEAP Put WHS-MR @ $16.30

New Non-Energy Plays

XHB - S&P Homebuilder SPDR

The Fannie and Freddie takeover by the government suggests the housing sector could get a major boost over the coming months. Once the banking sector backs away from the financial cliff and mortgages become more available the housing sector should rally hard. Sentiment surveys show that interest in home buying is rising sharply but the availability of credit has been a hindrance. Also, the takeover should put a bottom in the sector and that is another reason people have not been buying because they did not want to own real estate if there was more pain to come. Everyone was waiting for a bottom and the takeover could produce that event.

Company info:

SPDR S&P Homebuilders ETF (the Fund) seeks to replicate as closely as possible, before expenses, the performance of the S&P Homebuilders Select Industry Index (the Index). To accomplish this, the Fund utilizes a passive or indexing approach and attempts to approximate the investment performance of its Index, by investing in a portfolio of stocks intended to replicate the Index. The S&P Homebuilders Select Industry Index seeks to provide a representation of the homebuilders sub-industry portion of the S&P Total Market Index. The S&P TMI tracks all the United States common stocks regularly traded on the NYSE, American Stock Exchange, NASDAQ National Market and NASDAQ Small Cap Exchanges. The Homebuilders Index is an equal weighted market cap index.

We will probably see a gap open on Monday so I picked a strike a little farther away than normal. Prices at the open are going to be inflated so I would be cautious on your entry.

Buy 2010 $25 LEAP Call KHG-AY currently $2.90


GS - Goldman Sachs - Combination play

Goldman has suffered less from the financial crisis than any major investment bank. They are seen as the best in breed. If the financial system gridlock is released by the Fannie/Freddie takeover then Goldman has the most to gain by going back to business as usual.

I am suggesting a combination play where we buy a $200 2010 LEAP call and sell a 2010 $150 LEAP Put. The net debit will be about zero and the upside will be huge. This is a risky play only if the financial system implodes. Goldman has strong support at $160.

Company Info:

The Goldman Sachs Group, Inc. (Goldman Sachs) is a global investment banking, securities and investment management firm that provides a range of services worldwide to a client base that includes corporations, financial institutions, governments and high-net-worth individuals. Its activities are divided into three segments: Investment Banking, Trading and Principal Investments, and Asset Management and Securities Services. Investment Banking and Asset Management and Securities Services each represented 16% of net revenues during the fiscal year ended November 30, 2007 (fiscal 2007). Trading and Principal Investments represented 68% of net revenues in fiscal 2007. On December 11, 2007, Credit-Based Asset Servicing and Securitization LLC, a sub-prime mortgage investor, sold its Litton Loan Servicing business to Goldman Sachs. In June 2008, the Companys division, Goldman Sachs Urban Investment Group, and Cordova, Smart & Williams, LLC announced the acquisition of H2O Plus, LLC.

Prices will change at the open on Monday and should put the net debit closer to zero. The call will go up and the put will go down. Target an entry as close to even as possible.

Buy 2010 $200 LEAP Call WSD-AT currently $19.35
Sell 2010 $150 LEAP Put WSD-MG currently $23.70


Play Updates

Existing Plays

FLS $113.65 -18.47 Flowserv *** Stopped ***

After the worst entry in the world Flowserve was crushed with a $28 drop off last Thursday's highs. This was a strong momentum stock and evidently a large position in funds being forced to dump winners along with the losers to cover redemptions. I would be a buyer here at $110 but I am not going to add it back it this week. I want to see more than one day of gains first.

Breakout trigger: $138 hit 8/28

Position: Jan 2009 $150 Call FLS-AU @ $11.00 exit $4.50 9/03


XLE $68.42 -6.23 - Energy Select SPDR *** Stopped ***

Crush the energy sector and the XLE bleeds. We were stopped out at the open on Tuesday so at least the pain was over quickly and with a minimum loss.

The XLE is a group of 36 companies in the energy sector. Exxon is the largest component and Tesoro the smallest. See the complete list here.

Breakdown trigger: $72.00, hit 8/04

Position: Dec $80 Call XTG-LB @ $3.00 exit $2.40 9/02


UPL $60.55 -7.60 - Ultra Petroleum *** Stopped ***

When natural gas broke support at $8 on no damage from Gustav the gas stocks were also broken. I would be a buyer here at $60 ut my pain threshold is telling my mind to step aside.

Breakdown trigger: $65, hit 8/05

Position: 2010 $80 LEAP WSS-AP @ $13.50 exit $10.10


APC $58.28 -3.45 - Anadarko Petroleum

Anadarko announced a $5 billion stock buyback and that insulated them from the majority of the sector weakness. A company with a $25 billion market cap announcing a $5 billion buyback is going to move higher in almost any market. I lowered the stop a buck to try and avoid any minor volatility.

Stop at $55.

Breakdown trigger: $55, hit 8/04

Position: 2010 $70 LEAP Call YPC-AN @ $7.60


BHP $59.71 -10.80 BHP Billiton *** Stopped ***

BHP suspended iron-ore operations in Australia after two workers were killed less than two weeks apart. The halt is temporary to conduct safety classes and allow the shock to fade. That was not what crushed the stock. BHP was caught in the same selling that knocked 15-20% off several commodity/materials stocks. Somebody was dumping positions and BHP was a position.

Breakdown trigger: $65, hit 8/05

Position: 2010 $80 LEAP Call LPH-AP @ $9.50, exit $6.78 9/04


COP $75.43 -7.08 - ConocoPhillips *** Stopped ***

No news, no damage to the refineries and a quick restart. No reason for COP to be crushed for a $10 loss in four days except for the liquidation in the markets.

Earnings July 23rd, $3.50 per share

Position: 2010 $90 LEAP YRO-AR @ $11.35 9/02 8.75


ENER - $66.27 -8.90 Energy Conversion Devices *** Stopped ***

Another momentum stock bites the dust on no news.

Breakout trigger: $68.50 hit 6/16

Position: 2010 $80 LEAP Call KYU-AP @ 23.10, exit $15.60 9/04


CRR $54.32 -5.78 - Carbo Ceramics *** Stopped ***

Carbo went from a new high last Thursday at $62.50 to a four week low on Friday at $52.10 on no news. Fortunately we escaped with a gain.

Breakout trigger: $48 Hit 5/12

Position: Dec $50 Call CRR-LJ @ $5.80, exit $8.20, 9/04

Non-Energy Positions

RIMM $106.95 -14.65 Research in Motion *** Stopped ***

Several analysts were saying the RIMM chart was broken but the four-day market decline only took it back to support at $102. We were stopped out on Tuesday at $119 so we escaped the majority of the decline. This would be a good place for a speculative buy but I am not convinced the market is going to cooperate.

Breakout trigger: $125, hit 8/06

Net debit to open -$6.60, exit +3.16 for loss of $3.44

Long 2010 $140 LEAP Call YKD-AH @ $27.50, exit $24.40 9/02
Short 2010 $110 LEAP Put YKD-MZ @ $20.90, exit $21.24 9/02

Leaps Trader Watch List

Dropped Entries
FTI FMC Technologies moved to an active play

New Watch List Entries


Current Watch List

VLO - Valero

Missed an entry by 3 cents on Friday.

Company Info:

Valero Energy Corporation (Valero) owns and operates 17 refineries located in the United States, Canada and Aruba that produce conventional gasolines, distillates, jet fuel, asphalt, petrochemicals, lubricants and other refined products. The Companys principal products include conventional and California Air Resources Board (CARB) gasolines, reformulated gasoline blendstock for oxygenate blending (RBOB), ultra-low-sulfur diesel, and oxygenates and other gasoline blendstocks. Valero also produces a substantial slate of middle distillates, jet fuel, and petrochemicals, in addition to lube oils and asphalt. Valero markets branded and unbranded refined products on a wholesale basis in the United States and Canada through a bulk and rack marketing network. It also sells refined products through a network of approximately 5,800 retail and wholesale branded outlets. Effective July 1, 2007, the Company completed the sale of the Lima, Ohio refinery to Husky Energy Inc.

Breakdown trigger: $32

Buy 2010 $40 LEAP Call YPY-AH


USO - US Oil Fund

I am targeting worst case here with crude falling to $98. That would take the USO close to $80 and very strong support. This is a Hail Mary play where we could do very well if triggered but odds of getting triggered. Our odds of getting an entry are increasing quickly.

Company Info:

United States Oil Fund, LP (USOF) is a commodity pool that issues limited partnership interests or units that may be purchased and sold on the American Stock Exchange (the AMEX). The Company invests in futures contracts for light, sweet crude oil and other types of crude oil, heating oil, gasoline, natural gas and other petroleum-based fuels that are traded on the New York Mercantile Exchange (NYMEX), International Currency Exchange (ICE) Futures or other United States and foreign exchanges (collectively, Oil Futures Contracts). It holds interests in other oil-related investments such as cash-settled options on Oil Futures Contracts, forward oil contracts, and oil-based over-the-counter transactions. As of December 31, 2007, USOF held 4,754 Oil Futures Contracts traded on the NYMEX and 300 Oil Futures Contracts traded on the ICE Futures. The Company operates under full management control of its sole General Partner, Victoria Bay Asset Management, LLC (the General Partner).

I am not using LEAPS because I view this as a short-term trade.

Breakdown trigger: $82

Buy JAN $90 Call UNA-AL


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