Option Investor

Daily Newsletter, Tuesday, 07/25/2006

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Table of Contents

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

Market Wrap

Brown, the New Blue

What can Brown do for you? UPS guidance turned blue this morning and after UPS earnings the markets turned red. UPS CFO, Scott Davis, said there were a "lot of signs the economy is moderating" and that created a gloomy morning for Wall Street. UPS also missed estimates and warned that Q3 results would also disappoint. UPS is seen as a leading indicator of the health of the economy since the majority of goods sold by small businesses move by UPS trucks. The opening bounce on positive economic news was quickly erased.

Dow Chart - 180 min

Nasdaq Chart - 180 min

The market sprinted higher after the open on positive economics led by a stronger than expected Consumer Confidence report. July Consumer confidence rose to 106.5 from 105.4 and better than analyst's estimates for a fall to 104.5. The gain was due to a jump in the expectations component more than an improvement in the present conditions. The jump in confidence was even more surprising given the rising price of gasoline over $3.00. Survey respondents felt better about job prospects and business conditions than in June.

The Richmond Fed Manufacturing Survey jumped to 12 in July from 4 in June. This was the second consecutive month of gains since the low of only 1 in May. This report differed from the NY and Philly Fed surveys, which fell -10 and -2.6 points respectively. Order backlogs at -1 nearly recovered to positive territory from the -15 low seen in June. Capacity utilization spiked significantly from -8 to +12 for a +20 point gain. New orders and shipments also improved +11 points each from low single digits to the mid teens. The only decline came in the expectations component, which fell -7 points to +14.

Existing home sales fell from 6.71 million annualized units in May to 6.62 million in June. This was actually better than an expected drop to 6.60 million. Sales were down -8.9% year over year. Despite the drop house prices still rose +0.9%. That is a far cry from the +15% to +30% we saw back in June 2005 but still an increase. Much of the decline is due to a severe drop in condo sales as a flood of new units hit the market. Single-family home sales fell -3% in the South but condo sales fell -14%. Inventories of single-family homes for sale rose to 6.6 months, +36% over June 2005. This is a nine-year high! If the Fed does take a pass at the August 8th meeting or stop we could see house sales spike due to a better outlook on future interest rates. Once rates appear to have topped the ARM buyers will come back hoping for a lower rate when their ARM resets in the future. A 5.5% interest rate is still very reasonable compared to historic levels. The falling home sales are seen as a detriment to further rate hikes.


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Chain store sales continued to languish with only a +0.2% rise for the week. Year over year sales slid to only +1.9% and a 17-month low. Back to school shopping is expected to provide boost to sales in August but rising gasoline prices should weaken that boost.

On Wednesday we will get another look at mortgage applications, the Chicago Fed National Activity Index, the Fed Beige Book and oil inventories. The Beige Book will give us a current look at economic conditions around the country as the Fed sees it.

The bad news started with UPS and it seemed like the bullish market undertones were going to evaporate. UPS was hit by higher fuel prices and slowing growth that caused it to miss analyst estimates by -3 cents. No big deal there but the outlook was the killer. The CFO warned that earnings growth for the rest of the year would be at the low end of estimates. Davis said fuel surcharges had lagged costs by six weeks and increased expenses in rail, health care and pensions added to the earnings miss. Despite his repeated comments on the slowing of the economy he said it only had a slight impact on UPS results. UPS said ground volume increased +4.6% and next day air rose +4.2%. The comments about the slight impact and rising volumes were completely ignored by the market with UPS falling -12.77 intraday and taking the transport sector with it. That was the biggest drop since the UPS IPO in 1999 and on 10 times normal volume. Merrill Lynch cut UPS from a buy to a sell saying the valuations no longer make sense. They made sense to somebody because UPS rebounded +4.55 before the close to lose only -$8.22 for the day. While that was a dramatic loss it was much better than it could have been. The rebound in UPS helped stimulate the rebound in the broader market.

Overall the earnings news was positive and once the UPS blow was absorbed we saw a nice rebound on economic fundamentals. The individual stocks reporting were not necessarily rewarded but a better feeling emerged about the state of the economy. US Steel (X) reported a +62% jump in profits on strong demand and rising prices. Earnings came in at +$3.22 per share compared to estimates of only $2.41 per share. The CEO said demand was very strong and he expected prices to continue to rise in Q3 and beyond. No complaints there and X rose +2.55.

Lockheed Martin (LMT) saw earnings rise +26% to $1.34 per share compared to estimates for only $1.16. Lockheed raised guidance and had only positive things to say about business in its sector. LMT gained +1.69 to a new historic high on top of a +$6 gain over the last month.

Altria (MO) rose to a new historic high after beating estimates by +4 cents and raising guidance. Altria also said they were seeing an improvement in underlying fundamentals across all business segments. McDonalds, also a Dow component, beat the street on a +9% rise in revenue and a +12% rise in income. Results in Europe were the best in ten years. The CEO said customer spending was holding up well in spite of high gas prices and said the $1 menu was the foundation of their US revenue. It seems everybody has a buck even after buying gas. It appears nobody had $35 bucks to buy a share of stock as MCD lost ground for the day.

Colgate -1.44, Dupont +0.10, Kraft +2.06, Whirlpool +.96 and Energizer all joined the positive performance club with strong earnings and decent guidance. Energizer (ENR) spiked +5 on their report. Eye care company Alcon (ACL) soared +12 after posting profits of +$1.50 per shares compared to estimates of $1.16. Sandisk (SNDK) gained nearly +$6 after posting earnings of +47 cents compared to estimates of +44 cents. WR Hambrecht reiterated their buy rating and $70 price target with SNDK closing at $46. Hambrecht was only one of several analysts to make positive comments on SNDK.

Leading the losers list was Nutrisystems (NTRI) with a -$13.48 drop, -20%, after the president said he was leaving and they posted earnings that showed a sharp spike in customer acquisition costs. Analysts were ok with the rise in costs because the new advertising programs are targeted to men, a segment previously ignored by NTRI. Legg Mason (LM) posted earnings that missed estimates by a nickel and was hit for a -$8 loss. Zoran (ZRAN) was hit for a -$5.56 loss after warning that Q3 earnings would be below estimates. MMM fell another -5%, -$3.58, with their earnings announcement and this is after a -$11 drop after their warnings on July 6th. They continued to guide lower on slowing flat screen sales.

It all boiled down to expectations and performance. Those disappointing were hammered while a few of those beating estimates by a mile were rewarded. Overall Q3 guidance continues to be slightly weaker than normal but the economic outlook given in that guidance has been steady. Currently earnings estimates for Q3 are +14.8% and only slightly below the +15.3% estimate on July-1st. The biggest drop in expectations comes from the tech sector where Q3 estimates are currently +6.0% and down from +10.0% on July-1st. UPS did not say there was a crash coming just that growth was moderating. Sometimes the real message gets lost in the way it is stated. Burlington Northern (BNI) posted a +28% rise in profits and gave strong guidance but was hammered for a -2.30 loss on sector weakness due to UPS.

Top 20 Winners and Losers

Oil prices fell -1.30 to close at $73.75 after a rumor hit the street that the two kidnapped Israeli soldiers had been returned. It was denied almost immediately but the damage was already done. Further helping to hold the prices down was the round of meetings by Rice in the Middle East on the current crisis. It is becoming increasingly more likely that the conflict will remain between Israel and Lebanon and not involve Syria and Iran. This cooled expectations for an oil squeeze despite several other events making the news. In Venezuela the Amuay refinery, one of the biggest in the world, reported it would be offline for 5-7 months after a fire destroyed critical components this week. That will put a crimp in gasoline prices as the global supply shifts to take up that slack. The Exxon refinery in Beaumont is reporting lowered production for the next 3-5 weeks and there was a new pipeline problem in Nigeria. Add in Valero's -65,000 bbl curtailment and gas prices are going higher despite slowing late summer demand. Boone Pickens was on TV again saying $100 oil was a guaranteed event before the end of 2007 if not before the end of 2006. Factors he thought could produce it in 2006 were Iran and hurricanes. The potential for a Gulf storm has eased according to the NOAA but the odds are growing daily that one is just around the corner.

BP, reported profits that jumped +30% to $7.3 billion for Q2 despite slowing production at its various fields. BP is still suffering production losses in the gulf from Katrina and lost significant production at the Texas City refinery from hurricane damage and an explosion in 2005. BP also lost production from a pipeline leak in Alaska. It saw a global average selling price for its oil of $65.96 a bbl in Q2 compared to $47.79 a year earlier. XTO Energy (XTO) doubled its income for the quarter and lifted its production forecast for the rest of 2006. Rowan Companies (RDC) more than doubled its earnings for the quarter and beat the street by +12 cents. The rest of the week will see a flurry of energy companies report and expectations are for more of the same. That sets up the potential for a strong sell the news event if any company fails to toe the line with the bar set high.

September Crude Oil Chart - Daily

After the bell today Amazon (AMZN) reported earnings of a nickel that fell -58% and missed street estimates by -2 cents and was the 6th straight quarter of decreasing earnings. Revenue increased to $2.1B from $1.75B. Amazon said it was hurt by a $10 million termination penalty for canceling the Toys-R-Us partnership. Amazon also said continued investment in new technology and customer goodwill through free shipping impacted results. The news impacted AMZN stock to the tune of -$4 or -12% in after hours trading to close at $29.50.

Sun Microsystems (SUNW) beat the street on +20% revenue growth but posted a larger loss than previously expected due to higher expenses from previously announced job cuts. Sun is cutting -5000 jobs to company wide restructuring effort. This was the first growth quarter in five years for Sun and they said it was actually accelerating. If you remember last week Dell said they were seeing weakness in the enterprise server business and that is exactly where Sun lives. It appears Sun finally found the right combination and is taking back share from Dell. Sun rose about +5% in after hours trading.

Hewlett Packard (HPQ) announced after the close it was buying Mercury Interactive (MERQ) for $52 or $4.5 billion. This was said to be dilutive to 2007 earnings by -4 cents but would add +2 cents to 2008. It also puts them in the race with IBM, which has also been beefing up its software division. MERQ was trading at $39 before the announcement.

Market Internals

Tuesday is the heaviest earnings day for the entire Q2 cycle but that does not mean there will be any big drop in earnings news any time soon. There were five Dow components that reported today but Boeing was the big winner although it does not report until tomorrow. The strong Lockheed results sent Boeing for a +2.31 ride. Second on the Dow leaders list was AT&T with a +81% increase in profits. AT&T (T) jumped +1.17. Those two companies helped overcome the -3.56 loss by MMM and pull the Dow out of its midmorning slump.

The Dow lost -84 points from its 10:00 high at 11083 to the 11:15 low at 10999. It remained near the lows until a buy program appeared just after 2:PM and the rest as they say is history. The bears were hoping for a nice ride back to the bottom of the current range and loaded up on the failed morning spike. The buy program was persistent and another short squeeze made it into the record books. The rebound was pretty on an intraday chart and the new two-week high is nothing to complain about. Unfortunately the 11104 close is still well below the upper end of our current range at 11250. This two-day rally was also sooner than I expected. I had speculated on Sunday that we could see some options overhang and a dip on Monday to be followed by a positioning rally ahead of the Fed meeting on August 8th. The merger mania that appeared ahead of Monday's open erased any thoughts of a dip and another short squeeze appeared. Those bears have got to be getting tired of these head fakes to the downside and the immediate rebounds but then trading summer rallies is fraught with peril.

I had expected a potential return to the top of the range at 11250 before the meeting but a move this early leaves me wondering what we are going to do for an encore for the next nine trading days. The on again, off again rate hike speculation for August 8th is back on the table and most analysts are calling it the last one. Haven't we heard that before? With this rampant speculation of a halt to hikes it is entirely possible this rally could continue under high volatility conditions for another week. If we do near the 11250 range for the Dow it would get interesting. Do traders have enough guts to push that resistance envelope or will they be content to simply tread water at that level and wait for a week? According to one analyst on CNBC today the cash positions at funds is under 4% and indicates they are nearly fully invested. According to the internals table I posted above volume on the heaviest earnings day of the quarter barely broke 5B shares but advancers were nearly 2:1 over decliners. The put/call ratio was 1.0 meaning there was heavy put buying and rising fear that the rally will not stick.

SPX Chart - 180 min

Rather than speculate on direction ahead of this potentially volatile period I suggest we watch the S&P as our indicator of market strength. Today's rebound found resistance at 1270 with stronger resistance at 1280 and 1290. It should be an uphill battle to break those levels before the FOMC meeting, especially the 1290-1295 band. As long as the S&P remains under 1290-1295 the current move is just an oscillation within the current range. A break over 1295 would trigger another short squeeze of potentially major proportions since long-term bears targeting a Sep/Oct dip loaded the boat at that level on the prior two attempts. Wednesday's Beige Book and Friday's GDP will be the economic events to watch for market moving potential in addition to earnings. Don't count out the SOX as a market mover this week. Positive results from individual companies can't seem to power the SOX back over 400 but news from companies like TXN, SNDK, FLEX and STM have taken away the bearishness of last week. If the SOX catches fire this week the Nasdaq could reverse its role as market anchor with a move over current resistance at 2100. Summer rallies seldom have any strength or staying power but we may be approaching the perfect storm in the form of a setup. Investors think the Fed will quit in August, chips are posting strong profits, bears can't break support and just maybe the Goldilocks economy is just warm enough to appease the Fed and investors at the same time. Stranger things have happened than a breakout rally in July but whatever the result remember that August and September are historically the two worst months for the market. Don't get married to any long positions for they tend to age quickly over the next 75 days.

New Plays

Most Recent Plays

New Plays
Long Plays
Short Plays
CCL None

New Long Plays

Carnival Corp. - CCL - close: 40.76 chg: +0.95 stop: 39.75

Company Description:
Carnival Cruise Lines is a proud member of the exclusive World's Leading Cruise Lines. (source: company press release or website)

Why We Like It:
It has been a very rough year for Carnival Cruises. The stock has fallen from over $55 to its June low near $37. The stock's initial oversold bounce in June stalled near $42.00 and its descending 50-dma. Yet now CCL has produced a new higher low and today's gain is a technical breakout above its 50-dma. Short-term technicals are bullish but its P&F chart is still very bearish. We suspect that if the market continues to bounce that CCL could rally toward the $44.00-45.00 range. We're suggesting long positions with the stock above $40.00. More conservative traders may want to wait for a move above Tuesday's high (41.06) before initiating plays.

Picked on July 25 at $40.76
Change since picked: + 0.00
Earnings Date 09/15/06 (unconfirmed)
Average Daily Volume: 4.3 million


St. Jude Medical - STJ - close: 35.94 change: +2.54 stop: 32.99

Company Description:
St. Jude Medical is dedicated to making life better for cardiac, neurological and chronic pain patients worldwide through excellence in medical device technology and services. The Company has five major focus areas that include: cardiac rhythm management, atrial fibrillation, cardiac surgery, cardiology and neuromodulation. Headquartered in St. Paul, Minn., St. Jude Medical employs approximately 10,000 people worldwide. (source: company press release or website)

Why We Like It:
Normally we would not chase a big move like today's 7.6% gain in shares of STJ. However, we like STJ as a bullish candidate based on the strength of the stock's breakout today. Shares rallied through technical resistance at its 50-dma and past historical resistance in the $35.00-35.30 region. volume on the move was more than double the daily average. Actually the medical equipment sector saw a lot of strength today. Today's rally in STJ also produced a new triple-top breakout buy signal on the Point & Figure chart so it now has a new $45 bullish price target. We are suggesting long positions with STJ above $35.00 but more patient traders might want to wait and see if the stock pulls back. A dip into the $35.40-35.00 range would be an attractive entry point. Chart readers will also note that STJ has potential resistance at its 100-dma currently at 37.25. Our target is the $39.00-40.00 range. Our time frame is about four to six weeks.

Picked on July 25 at $35.94
Change since picked: + 0.00
Earnings Date 07/19/06 (confirmed)
Average Daily Volume: 3.8 million

New Short Plays

None today.

Play Updates

Updates On Latest Picks

Long Play Updates


Short Play Updates

Phazar Corp. - ANTP - close: 8.76 change: -0.10 stop: 9.27

There is no change from our previous updates on ANTP. We remain on the sidelines. Our trigger to short the stock is at $8.49. If triggered our target will be the $7.00-6.75 range. We want to remind readers that this is an aggressive play. ANTP can be volatile and the most recent data puts short interest at over 10% of the 2.1 million-share float. That's a relatively high degree of shorts and a very, very small float. To make this play even higher risk we cannot find the company's next earnings report. Last year they reported in August so it stands to reason that they might report again in early August.

Picked on July xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 08/04/06 (unconfirmed)
Average Daily Volume: 89 thousand


Cascade - CAE - close: 37.90 change: +0.86 stop: 36.76

CAE continued to bounce on Tuesday, like most of the market, but the stock's strength did stall under its 50-dma. We are going to keep CAE on the play list for now but if shares close over $38.50 we're dropping it as a bearish candidate. Our plan is to use a trigger at $34.90 to catch any breakdown under support in the $35 region. If triggered our target is the $31.50-31.00 range. The Point & Figure chart is more bearish with a $22.00 target. We do not want to hold over its earnings report in September.

Picked on July xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 09/07/06 (unconfirmed)
Average Daily Volume: 87 thousand


Juniper Networks - JNPR - cls: 13.70 change: -0.07 stop: 15.01

JNPR is still showing relative weakness. The stock failed to participate in the market's rally today but it's worth noting that JNPR did rebound off its lows of the session. Considering the market's bullish turnaround in the last couple of sessions we're not suggesting new bearish plays in JNPR. More conservative traders may want to tighten their stops. Our target is the $12.00-10.00 range. Conservative traders can exit near $12 with us and more aggressive traders can aim lower. The P&F chart is still very bearish with an $8.50 target.

Picked on July 21 at $13.75
Change since picked: - 0.05
Earnings Date 07/19/06 (confirmed)
Average Daily Volume: 13.1 million


MTS Systems - MTSC - close: 34.44 change: -0.02 stop: 35.09*new*

Volume continues to come in light for MTSC. The stock tried to rally this morning but it failed at $35.09. We are concerned that if the markets continue to rebound then MTSC will follow and we'll be stopped out. Thus we're not suggesting new bearish positions at this time. Currently it is our plan to exit on Wednesday afternoon near the close to avoid holding over the company's earnings report. Please note we're adjusting our stop loss to $35.09.

Picked on July 17 at $34.19
Change since picked: - 1.17
Earnings Date 07/26/06 (confirmed)
Average Daily Volume: 105 thousand


Maxim Integrated - MXIM - close: 28.62 chg: +0.52 stop: 30.01

The semiconductor stocks continue to bounce and MXIM out performed its peers with a 1.8% gain today. The technical picture is still mixed but chart readers will notice that the daily chart's MACD is nearing a new buy signal. We are not suggesting new plays at this time. More conservative traders may want to exit early or tighten their stops toward $29.50 or even the $29 region. The longer-term trend in the SOX and in MXIM remains bearish.

Picked on July 09 at $29.75
Change since picked: - 1.13
Earnings Date 08/04/06 (confirmed)
Average Daily Volume: 5.5 million


Teva Pharma. - TEVA - close: 30.85 change: +0.36 stop: 31.65

We are still in danger mode with TEVA. The stock's initial rally this morning failed at $31.31 but shares had a bullish pattern of higher lows all day long. More conservative traders may want to strongly consider cutting their losses now with an early exit. We are not suggesting new bearish plays.

Picked on July 21 at $29.79
Change since picked: + 1.06
Earnings Date 08/01/06 (unconfirmed)
Average Daily Volume: 7.4 million


Meridian Biosci. - VIVO - close: 21.01 chg: -0.11 stop: 23.05

VIVO displayed relative weakness today by failing to participate in the market's rally. Volume came in above average yet shares churned sideways in a narrow range. This weakness is good news for the bears but with the markets showing strength we hesitate to suggest new positions here. Our target is the $18.15-18.00 range since the $18.00 level was support last year.

Picked on July 23 at $20.94
Change since picked: + 0.07
Earnings Date 07/20/06 (confirmed)
Average Daily Volume: 175 thousand


Watson Wyatt Wld - WW - close: 33.10 chg: +0.20 stop: 34.01

WW is still bouncing but the stock remains in its bearish pattern of lower highs and lower lows. We're not suggesting new plays at the moment. Our target is the $31.10-31.00 range. We do not want to hold over the early August earnings report. FYI: the most recent data put short interest at 6.9% of WW's 41 million-share float.

Picked on July 16 at $33.19
Change since picked: - 0.09
Earnings Date 08/10/06 (confirmed)
Average Daily Volume: 216 thousand


XM Sat.Radio - XMSR - close: 10.88 change: -0.32 stop: 13.01*new*

XMSR continues to look very weak and the stock lost another 2.8% today on above average volume. The stock is now down more than 10% from our picked price. Traders might want to lock in some profits here. We're not suggesting new positions. The stock is looking oversold and is quickly approaching our target in the $10.50-10.00 range. We are dropping the stop loss to $13.01.

Picked on July 14 at $12.95
Change since picked: - 2.07
Earnings Date 07/27/06 (confirmed)
Average Daily Volume: 7.7 million

Closed Long Plays


Closed Short Plays

Coach Inc. - COH - close: 27.93 change: +0.70 stop: 28.01

We've been stopped out of COH at $28.01. Retail stocks continued to bounce today and shares of COH traded above the $28 level on an intraday basis. The stock's 2.5% gain on Tuesday helped the MACD produce a new buy signal. We would hesitate to consider bullish positions until COH managed to breakout past its descending 50-dma.

Picked on July 16 at $26.43
Change since picked: + 1.50
Earnings Date 08/01/06 (confirmed)
Average Daily Volume: 4.1 million

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


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