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Daily Newsletter, Tuesday, 06/13/2006

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Table of Contents

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

Market Wrap

Global Bear Market?

Many market reporters are now using the term global bear market but despite the major declines in many indexes it is still just a correction. The fear of rising inflation and slowing economic growth is also being blamed despite continuing strong economics in the major world markets. Japan is also getting the blame for ending its long standing free money stance causing an unwinding of the years old carry trade. While economists and market technicians argue the cause of the declines it is up to us to find a way to trade them.

Fear of rising inflation was given as a reason for this weeks decline before the PPI and CPI reports. The May Producer Price Index released this morning showed a headline increase of +0.2% and a core rate increase of +0.3%. Core intermediate goods rose +1.1% and core crude goods rose +6.2%. This shows the acceleration of price inflation at the producer level due to a rise in energy prices. Gasoline prices rose by +2.2% on top of a +12.3% rise in the prior month. The PPI is not as critical to Fed policy as the CPI, which is due out tomorrow, but you can bet that jump in energy related inflation and the +0.3% gain in the core rate will be just one more data point supporting a rate hike in two weeks. The headline number on the Consumer Price Index is also expected to jump by +0.3% but the core rate is currently expected to gain +0.2%. That would push the year over year rate one more notch above the Fed's comfort level.

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Retail sales for May eked out a +0.1% gain and inline with estimates. April sales were revised up from +0.5% to +0.8% largely on the strength of gasoline stations. That is not where you want to see increased sales growth as it puts pressure on regular consumer buying of clothes, electronics and other consumer goods. I guess somebody forgot to tell those consumers shopping at Best Buy. Best Buy blew away profit estimates of 36 cents with earnings of 47 cents. Same store sales rose +4.9% with a monster jump of +22% in sales at its high-end home theater stores. The main driver was sales of big screen TVs. A survey showed that 17% of consumers have already taken the plunge and that is expected to rise to 26% before year-end and 36% before the end of 2007. Personally I think people who can afford a $2500 flat panel TV or a $20,000 home theater are probably not worried about an extra $20 a week for gasoline.

The big story in the markets today was not the global economics or even the US economics. It was the continued meltdown of markets across the globe. Several indexes were down more than -4% and trading was halted on several. It was a massive implosion on markets that had already seen declines of double digits. The graphics below shows how dramatic the drop has been from the May highs. Given the severity of the corrections the drops for today were even more amazing.

Table of correction status by country

Drops in global indexes for today only

The US markets continued their swoon but compared to the major drops shown above our losses were minimal. I had to update my graphic below to show a -10%/-20% columns rather than the -5%/10% I had been using for the last four weeks. Only four US indexes have yet to reach the -10% level with the NYSE Composite joining the correction club today. The broadest index, the Wilshire 5000 is only 155 points away from -10% and one more day at the current rate of decline.

US Indexes Correction Levels

The Dow declined to 10701 intraday before a strong buy program triggered at 3:PM caused a +100 point rally back to 10800. The euphoria was brief with the index plunging back to 10700 only minutes after the buy program ended. For me this was the turning point for the day. 10700 was supposed to be decent support and the buy program failed to bring any traders off the sidelines. The quick retracement of the gains back to 10700 was even more evidence of how weak the markets really are. There was no hang time at 10800 only a large pickup in volume as sellers jumped on the spike with enthusiasm.

The chart below shows the strong support at 10700, actually from 10650-10700 and as of Tuesday's close it has now been tested twice and held. Note the huge volume increase AFTER the buy program pushed the Dow back to 10800. Sellers jumped on the spike and crushed it with strong volume. There are no signs of bullishness on these charts.

Dow Bar Chart - Daily

Dow Chart - 5 min

The Nasdaq tacked another -19 points on to its -11% correction and the outlook is not good. The next tentative support is in the 2030-2050 range with 1900 looking more likely as each day passes. The Nasdaq has eight consecutive days of losses matching the streak from May. In order to find two back to back months of consecutive 8-day losing streaks you would have to go all the way back to 1990. The Nasdaq is getting no help from the Russell or the SOX and comments today from Western Digital removed any hope of the PC sector rebounding. Western Digital said in an SEC filing that PC sales had been seasonally soft and that prices are under pressure. With only two weeks to go in the quarter WDC said that quarterly results would depend on business over the remainder of June. That is not a positive statement this late in the earnings cycle despite assurances that the hard drive industry's long-term fundamentals are in "excellent shape." The WDC comments suggest we could see a pickup in earnings warnings from tech companies.

Nasdaq Chart - Weekly

The S&P-500 has broken two-year uptrend support at 1235 and appears destined to hit that 1194 -10% correction level. Major support lies just below at 1175 and I think we would see some definite bargain hunting should that level be reached. The 100-week average at 1209 could provide a speed bump on any continued decline but I doubt it would hold for long with 1194 squarely in the bear's sights.

S&P-500 Chart - Weekly

The Semiconductor Index has broken several levels of converging support at 450 and appears to be headed lower. The next material support is 375. The Nasdaq will remain hostage to the SOX and more news from companies like Western Digital will not be a positive influence.

SOX Chart - Weekly

Stocks making the mover list today included Apple Computer with another upgrade to a buy at Needham & Co. This is just another in a string and AAPL gained +1.66 for the day. Analysts can't seem to say enough good things and are projecting a breakout quarter. Maverick Tube, (MVK) a pipe supplier to the energy industry was the target of a $3.19B takeover offer by Tenaris. MVK jumped +$16.99 but ending -$3 below the $65 cash offer by Tenaris. Other suppliers in the energy sector saw buying interest on thoughts of more consolidation ahead. Jabil Circuit cut its profit outlook and was hammered for a -$7 loss. The estimate cut shaved about a dime off the 43 cents analysts expected. The company said the shortfall was due to "operational issues within the company."

Metals stocks imploded once again with the sector off -4% but the damage was really in the precious metals. Silver was off -13% and gold fell -$44 to $566.80 and its lowest level since the $732.50 high back in May. That is a -23% correction and still going. Support at $545 should hold unless the dollar continues to rise. The dollar has found support as a safe haven currency in times of global market stress.

Gold Chart - Daily

Dollar Chart - Daily

The global liquidity drain is said to have been caused by Japan. They announced at the end of March they were going to end the free money period and remove excess liquidity from the market in preparation for a series of rate hikes over the coming years. Since Japan had nearly a zero interest rate it was the bank of choice for speculative investors. Over the last several weeks Japan has withdrawn more than $200 billion from the market and that is helping push speculative rates higher and give support to the dollar. Unfortunately it is making those speculators with cheap loans run for cover. With 9500 hedge funds managing over $1.3 trillion in assets there are probably quite a few more than you would expect with loans from Japanese banks.

We have been hearing over the last week of margin calls on some US funds. As the markets accelerate to the downside there are probably quite a few in severe distress. Leverage is a wonderful thing as long as the market is going in your direction. Once it turns that leverage bites badly to the downside. So far there has not been any rumors of any pending fund failures. The real stress is going to come when investors get their second quarter statements. If you have any doubt about the impact of hedge funds in the market you only need to look at the NYSE program trading statistics. For the latest week available ended June 2nd, 73% of trading volume was due to program trades. That is the highest number I can remember and well over the 58% average for the year. According to the NYSE program trade volume across all markets averaged 2.422 billion shares PER DAY for the week.

There was a lot of trader chatter today about an increase in margin calls on retail investors. The 2:PM selling increased sharply both days this week and that typically suggests the closing of margin positions as well as the favorite time for afternoon program trades to execute. If individual investors are being forced out of positions then we may be closer to that missing bottom.

Oil prices have returned to support at $68.50 ahead of Wednesday's inventory report. Crude is expected to show a -1mb decline with gasoline showing a +2mb build. That is not really what is producing the selling in crude. Crude, like gold, silver, etc, is being crushed by the same selling forces that have hit the global markets. When you need to raise cash to protect other positions or to cover shortfalls in other areas you have to sell what you have that still holds value. Oil still holds value and is only off -8% from its highs. Had Alberto headed a little farther west that decline may have been averted. Oil stocks have been crushed far more severely than oil itself. Many stocks are off more than 25% and it does not matter what sub sector they are in. Oil service, drillers, coal, gas, refiners, etc, are all down strong. It is simply a matter of raising cash and taking profits. There is nothing different between the energy sector and the other sectors getting hammered other than it has been a standout for the last two years and leaders in every sector are being kicked off the life raft.

Merrill Lynch released a survey today showing that 61% of economists expect the economy to weaken over the next 12 months. I think the other 39% were asleep. That view is nothing new to those of you that read Option Investor but for the Merrill survey it was a sharp increase from the 43% reported on the May survey. 34% expect corporate profits to drop and that was up from just 9% in May. But bullishness still exists in those hallowed halls with 59% expecting higher markets six months from now.

For the rest of the week we have two more hurdles to cross. They are the CPI and the Fed Beige Book on Wednesday. All other remaining economic reports pale by comparison to those. The CPI is going to be dangerous only if the core rate explodes to the upside. Any number of +0.2% or less would be market friendly as already baked into the cake. BUT, much of the selling we have seen recently has not been related to economics per se. That has been used as an excuse but what we are seeing is a combination of a global margin call, the removal of an appetite for risk, repatriation of funds from emerging markets and simple profit taking. I showed you some charts recently of the +50% gain in emerging markets just since Jan-1st. That was an unsupportable spike generated by vast amounts of cash going into global ETFs and that cash is coming back home now that the bubble has burst. Actually that cash is waiting on the sidelines for the carnage to quit before jumping back into the US market. At least that is what analysts are hoping.

The market internals are not improving regardless of what support level we reach. Note the imbalance between the new highs and new lows in the following table. Also note that we were not that far from another 7 billion share day. In the markets you follow the volume to determine their real health and 5:1 down volume on 6.6B shares should be a strong clue.

Table of Market Internals

With the Dow, Russell-2000, Nasdaq-100 and even the Transports at what could be called critical support there is always the chance, however slim, of a technical rebound. However, this is OpEx week and we have seen no signs of buyers. I would nibble at some long positions if we did see a rebound appear on strong volume but I would really want to see some traction before making an entry. The gap and crap we saw this morning and the failed +100 point spike this afternoon is a prime example of why caution is advised. Futures are positive overnight and rising but the night is still young. The VIX closed at a new 3-year high at 23.35. Add that to a bullish reading on the TRIN at 1.56 and an index put/call ratio of 1.99 and there may be enough oversold to attract at least a few bargain hunters. Let's hope they all appear at once and all buy semiconductor stocks. That may be the only hope we have for a rally that sticks. The Federal Open Mouth Committee (FOMC), thank you Rick Riley for that acronym, has been on a speaking rampage this week and it is far from over. Bernanke has already spoken twice, Bies and Olson once. Still to come are Bies on Wednesday, Bernanke and Kroszner on Thursday and Kohn and Kroszner on Friday. Bernanke said he was going to provide open and transparent communication from the Fed to the market. Ben, enough is enough! Fedspeak has turned into Overspeak and we need a little less transparency and a little less talk.

In closing I am going to use one of Art Cashin's famous lines. "I don't care it it's irrational--just give me some exuberance!"
 

New Plays

Most Recent Plays

New Plays
Long Plays
Short Plays
None None

New Long Plays

None today.
 

New Short Plays

Play Editor's note: The markets continue to look very bearish. Yet we hesitate to add new short plays to the newsletter. The farther stocks drop the closer we are to an oversold bounce. Nothing moves in a straight line for very long although the NASDAQ Composite is trying. Currently the NASDAQ is down eight days in a row with a 7% loss. The Dow Jones Industrials Average has lost over 550 points without any significant bounce. Taking everything into consideration it doesn't seem appropriate to add new bearish plays when the market could bounce at any time. We'd rather wait for the next bounce to stall before starting new bearish plays.
 

Play Updates

Updates On Latest Picks

Long Play Updates

Archstone - ASN - close: 49.83 chg: +0.45 stop: 47.75

ASN continues to show relative strength. The stock tried to breakout past the $50.00 level today. While the failure to close over $50.00 might be seen as bearish the stock did post a gain on a day where almost every sector closed lower. Traders might want to consider new longs plays on a move past $50.25 but we'd hesitate to buy any stock if the major averages are still sinking tomorrow. Our target is the $53.85-54.00 range. The Point & Figure chart for ASN has produced a triple-top breakout buy signal with a $70.00 target. More conservative traders may want to use a tighter stop (maybe around $48.50).

Picked on June 05 at $50.21
Change since picked: - 0.38
Earnings Date 07/26/06 (unconfirmed)
Average Daily Volume: 989 thousand

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Potlatch - PCH - close: 38.10 chg: +0.10 stop: 36.99

PCH also displayed some relative strength today by closing with a minor gain. Volume came in pretty strong. We would wait for a move past the 50-dma or the $40 level before considering new long positions and we'd definitely wait for the major market indices to stop falling.

Picked on June 04 at $39.39
Change since picked: - 1.29
Earnings Date 07/17/06 (unconfirmed)
Average Daily Volume: 362 thousand

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Ryanair - RYAAY - close: 50.70 change: -1.56 stop: 49.95

Whoa! RYAY gapped lower this morning and closed with a 2.98% loss. The move was probably caused by the significant losses across the global markets. RYAAY is an Irish company so big losses in the European markets probably sparked some profit taking. We are not suggesting new plays at this time but we would keep an eye open for a bounce from the $50.00 level.

Picked on June 08 at $51.34
Change since picked: - 0.64
Earnings Date 07/31/06 (unconfirmed)
Average Daily Volume: 304 thousand

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UST Inc. - UST - close: 45.03 chg: +0.05 stop: 42.99

Ouch! UST lost 2.9% on above average volume today. Did someone suddenly decide to do some profit taking? Shares had been looking relatively strong. We were expecting a pull back toward $44.00-44.50 but shares fell right through the $44 level and its 50-dma. This does not look good for tomorrow nor does the bearish breakdown in shares of tobacco titan Altria Group (MO). Double check your stop loss. Right now we expect to be stopped out at $42.99.

Picked on June 08 at $44.71
Change since picked: + 0.32
Earnings Date 07/20/06 (unconfirmed)
Average Daily Volume: 1.2 million
 

Short Play Updates

Autodesk - ADSK - close: 35.01 change: +0.27 stop: 36.15 *new*

ADSK is not cooperating. The stock actually gained 0.77% and its technical indicators are starting to turn more bullish. We would not suggest new bearish plays at this time. We want to reduce our risk so we're adjusting the stop loss to $36.15. Our exit strategy is to sell part of your position in the $32.60-32.50 range and the rest in the $30.75-30.50 range. The P&F chart currently points to a $26.00 target.

Picked on June 06 at $34.89
Change since picked: + 0.12
Earnings Date 08/01/06 (unconfirmed)
Average Daily Volume: 3.2 million

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Avid Tech. - AVID - close: 36.07 change: -0.49 stop: 39.41

AVID closed at new nine-month lows today and more importantly closed under the April lows near $36.26. Everything continues to look bearish. Our target is the $32.50 mark but readers should be prepared for a bounce near $35.50-36.00. Traders can open positions here or use a failed rally under the 50-dma.

Picked on June 11 at $37.35
Change since picked: - 1.28
Earnings Date 08/03/06 (unconfirmed)
Average Daily Volume: 763 thousand

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Drew Industry - DW - close: 27.65 chg: -0.89 stop: 30.05*new*

The sell-off in DW is picking up speed. The stock lost 3.11% on Tuesday. Shares are trading very close to our target in the $27.55-27.45 range. We suggest traders prepare to exit. More aggressive traders may want to aim lower. We're adjusting our stop loss to $30.05.

Picked on June 07 at $29.67
Change since picked: - 2.02
Earnings Date 05/01/06 (confirmed)
Average Daily Volume: 129 thousand

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Flowserve - FLS - close: 48.79 chg: -0.33 stop: 52.25

FLS did not make much progress on its bearish breakdown but volume came in above average. Looking more closely at the intraday charts we suspect that FLS is going to try and rebound soon. Watch for a failed rally under its simple 10-dma as a potential entry point for new shorts. Our target is the $45.75-45.50 range. The Point & Figure chart is bearish with a $40.00 target.


Picked on June 12 at $49.90
Change since picked: - 1.11
Earnings Date 07/21/06 (unconfirmed)
Average Daily Volume: 579 thousand

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The Geo Group Inc. - GGI - cls: 32.40 chg: -0.65 stop: 35.65*new*

Target achieved. GGI dipped to $32.08 this afternoon. We were suggesting two targets with our first target to sell part of your position at $32.25. Our second target is the $30.25 mark. Shares are looking pretty oversold here and due for a bounce so we're not suggesting new bearish plays. We are going to lower our stop loss to $35.65, just above its simple 10-dma. Due to GGI's volatility this is an aggressive, higher-risk play.

Picked on June 11 at $34.14
Change since picked: - 1.74
Earnings Date 05/04/06 (confirmed)
Average Daily Volume: 135 thousand

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Blue Nile - NILE - close: 28.61 chg: -0.73 stop: 31.55 *new*

NILE lost another 2.48% and broke down under support in the $29.00-29.25 region to close at new one-year lows. This looks like another bearish entry point. We're going to adjust our stop loss to $31.55. Don't forget that NILE does have very high short interest, which increases the risk of a short squeeze. Our target is the $25.50-25.00 range. The P&F chart points to a $15 target.

Picked on June 08 at $29.45
Change since picked: - 0.84
Earnings Date 08/01/06 (unconfirmed)
Average Daily Volume: 212 thousand
 

Closed Long Plays

None
 

Closed Short Plays

None
 

Today's Newsletter Notes: Market Wrap by Jim Brown and all other plays and content by the Option Investor staff.

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Option Investor Inc is neither a registered Investment Advisor nor a Broker/Dealer. Readers are advised that all information is issued solely for informational purposes and is not to be construed as an offer to sell or the solicitation of an offer to buy, nor is it to be construed as a recommendation to buy, hold or sell (short or otherwise) any security. All opinions, analyses and information included herein are based on sources believed to be reliable and written in good faith, but no representation or warranty of any kind, expressed or implied, is made including but not limited to any representation or warranty concerning accuracy, completeness, correctness, timeliness or appropriateness. In addition, we do not necessarily update such opinions, analysis or information. Owners, employees and writers may have long or short positions in the securities that are discussed.

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