Option Investor

Daily Newsletter, Tuesday, 10/24/2006

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Table of Contents

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

Market Wrap

Waiting On the Fed

Earnings are flowing in volume with mixed results but all eyes are on the Fed meeting and their 2:15 announcement tomorrow afternoon. The talking heads have been debating the outcome all week but no move is expected. The FOMC meeting is all about the guidance just as we have seen guidance in the earnings reports was critical this week. Earnings guidance has turned positive earnings into real dogs and a better than expected earnings cycle into a mix of mediocre performance. Despite the confusion the Dow and S&P managed to move to yet another record close.

Dow Chart - 180 min

Nasdaq Chart - 60 min

There was only one economic report of note for the day and that was the Richmond Fed Manufacturing Survey for October. The headline number fell into negative territory at -2 and the first time manufacturing has contracted in the Richmond area since January. The index hit a high of 21 back in March and it has been a rocky road down from that high. The internal components showed a sharp drop in backorders to -13 from -3 with new orders falling to a -1 in October from +10 in September. Shipments also dropped to a -7 from a +9. This was not a good report and suggests the economy at least in the Richmond area is slowing more rapidly. It is one thing to say "the economy is slowing" but when the reports come out with negative numbers it produces a double take for investors as though they didn't really believe it. This is a minor regional report but coming during a FOMC meeting it may have a little more emphasis.

The expectations for tomorrow's Fed announcement are for no official change in rates. There is some fear that the current round of Fedspeak may cause the meeting statement to take on a harsher tone. Instead of pricing in a 50% chance of a rate cut by March as the Fed funds futures did only a month ago they are now pricing in a 12-18% chance of a rate hike. You have to go all the way to Q4-2007 to see a rate picture at the current 5.25% rate. This should be impacting the equities market but like the economics reports it appears traders won't believe it until it happens. One thing that could help the markets on Wednesday would be a conversion from hawk to dove by Jeffery Lacker the Richmond Fed president. He has been the lone dissenter in calling for a rate hike during the last two meetings. If he has dropped his call for a hike and votes with the rest for no change tomorrow it could indicate the Fed's overall bias has improved. That would set traders minds at ease and we could see a further move higher. If Lacker continues to dissent and actually picks up a supporter it could send bond rates higher and equities sharply lower.

Earnings have been in the spotlight and today was full of surprises. After the bell Amazon surprised investors with earnings of +5 cents with analyst expectations of only +3 cents. Revenue was better than expected and Amazon raised guidance. Investors were rewarded with a +$5 gain in after hours trading. Ironically the +$19 million it earned for the quarter was down significantly from the $30 million it earned in the same quarter last year. Net sales increased +24% to $2.31 billion. It appears Amazon is selling more and enjoying it less but investors or should I say those holding short positions were scrambling to cover after the announcement. I doubt Amazon's revenue projection increase to a mid point of $3.787B when compared to the analyst consensus of $3.680B is going to get too many people excited. It is a $100 million difference but it is barely a +2% increase. That is really sloooow growth for a holiday quarter. On Wednesday puts on Amazon near $39 might be a good play.

Denver based homebuilder M.D.C. Holdings (MDC) reported earnings that fell -60% and orders that fell -40%. They missed estimates of $1.35 per share significantly with earnings of only $1.06. They said the cancellation rate spiked to 48.5% from 27.5% in Q2. That means nearly half the houses they sold fell through. However, truth is stranger than fiction and MDC gained +$1.01 for the day. This should be a clear sign that the worst is already factored into the housing sector. After the bell Centex (CTX) reported earnings that fell -59% and cut its full year guidance amid continued deterioration in the housing market. Earnings fell to only +70 cents from +$2.39 in the year ago period. Centex had warned earlier in October and these earnings were inline with those expectations. They cut full year earnings estimates to $4 from $7. New orders fell -29% to 6,828 units. CTX dropped about -50 cents in after hours after gaining +1.59 during regular trading.


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Amgen posted a +14% rise in profits due to a +27% jump in sales of its lead product Aranesp. AMGN raised its full year guidance by a dime.

TD Ameritrade disappointed investors with an earnings miss despite a rise in income of +35.7% to $129.1 million. Analysts thought the trading volumes were lighter than expected and they were experiencing margin pressures due to the lower or no commission broker deals popping up everywhere. Ameritrade and Etrade are also under attack by hackers with losses in the millions. Investors overseas using public computers to monitor their accounts are having their account passwords hacked. The hackers then sell everything in the account and use the funds to buy a microcap stock they already own and they sell into the increased volume when the prices spike. Using a concerted attack and simultaneous buys against the microcap they can spike the prices significantly. Once the hackers sell their personal shares the spike evaporates leaving the investor broke and holding worthless stock. Word to the wise, DON'T use public computers for anything that requires a username and password! The key loggers know every stroke you make.

The oil service sector has been turning in some strong numbers and much better than expected. The drillers are not doing badly either. Nabors reported after the bell with a +64% jump in profits. Earnings beat the street by +3 cents and revenue was up +$340 million. CEO Gene Isenber said, "All our major businesses showed significant improvement." All those Nabors bashers who have been pounding the stock as over valued may need to take another look. Rig rates are still rising and Nabors has more than 100 rigs on back order. Business is good and it will continue to get better. Isenber said he saw a possible slowing of growth in the gas drilling sector but he expected it to remain strong but not as strong as the global oil business. Smith International (SII) posted a +67% increase in earnings of +66 cents and +4 cents better than street estimates. Smith also raised full year guidance by a dime over analyst estimates. CEO Doug Rock said, "Smith revenue and earnings continue to accelerate due to the worldwide need to expand hydrocarbon supplies" and "I see no reason for the abatement of oil and gas demand in the coming years." This has been the common thread in nearly all of the energy earnings so far this cycle. There are some individual company problems due to the cyclic nature of exploration but the overall story was the same. BP was the one big miss but it was mostly due to the problems in Alaska and some recent divestitures. BP said full year production would decline to below 2005 levels averaging around 3.95 mbpd. CapEx would remain around $16B per year as they attempt to find and extract increasingly tougher reserves. Exxon told investors last week that CapEx would remain around $20 billion for the same reasons. Exxon has long been the bear on the industry saying there is plenty of oil. That tune changed last week when they admitted they would have to increase exploration efforts to maintain production.

On the subject of oil it appears OPEC is actually going to make some cuts. Saudi Arabia and the United Arab Emirates both told buyers they would be lowering commitment volumes starting November 1st. Saudi by -380,000 bpd and the UAE by -100,000 bpd. It is still unknown if Iran, Venezuela and Nigeria, key producers, will actually make the cuts or find some way to weasel out of it. Oil prices are inching higher and approaching $60 on the OPEC news and colder weather. Heating oil and natural gas are also rising. Inventories on Wednesday could show an increase in crude of +2.5 mb and a drop in gasoline of -1.5 mb and distillates of -1.2 mb. Unless there is a major difference it should not make a material difference in prices. Traders are looking to the future for guidance as we approach the high demand winter season.

Crude Oil Chart - Daily

NetFlix mailed investors a surprise today with a +$4.29, +18.5% jump after a strong earnings report. The short interest was very high and the blowout surprise sent them running for cover. NFLX posted earnings of +18 cents compared to street estimates for +12 cents. Subscriber growth was very strong with the addition of 1,310,000 new customers. That was a +42% year over year and +22% from the prior quarter. It appears the rumors about the demise of this business were way too soon. Some have thought the download revolution would end NetFlix the way NetFlix killed Blockbuster. So far, no deal.

Travel Zoo (TZOO) jumped +$6.22 or +19% after reporting earnings of +28 cents compared to estimates of +24 cents. Revenue was light but investors did not seem to mind. Analysts said the profits came more from a lack of spending than an improvement in sales. Edward Woo at Wedbush Morgan Securities said a sharp drop in sales and marketing expenditures was the reason.

Alcatel posted a -42% drop in their profits blaming falling sales and profitability of its network equipment. The stock still posted gains after Alcatel said it was gaining market share despite its lower earnings. Lucent, currently being acquired by Alcatel, beat the street by +2 cents but earnings were flat with revenue falling in some divisions. Lucent also posted a small gain for the day.

Countrywide Financial (CFC) said it was going to cut 2500 employees due to sharp drops in loan profitability. Fundings fell -22% in Q3 and mortgage profits fell -40%. Washington Mutual has already announced a layoff of 9,742 jobs and Ameriquest is cutting -3,800.

I could rattle on about the earnings for several more pages but I think you got the idea. The big gorilla for the week is still Microsoft on Thursday and hopefully there won't be any negative surprises. The Fed will rule from on high at 2:15 tomorrow and that will have more impact on the markets than any earnings released on Wednesday. The normal volatility will appear with various funds selling into a negative decision or buying it if the statement is remotely positive. The key is what comes after the Fed statement on Thr/Fri and that again depends on the tone of the statement. The bad news bulls are clearly in control and anything short of a rate hike this week is likely to be met with continued buying.

The Dow spent most of the day in the red but finally eased back into the green and into record territory at the close. It is a record book month with the Dow setting some kind of record on 10 of the last 14 days. However, only two of those days, 17th and 23rd, have seen any material gains. It has been a spike followed by a week of consolidation with minimal moves followed by another one day spike a week later. In late September and early October the Dow did manage to put together more than one day of decent gains on two occasions. Eventually this pattern will change but until it does we are going to stick with it.

The Nasdaq is somewhat less bullish with a return to initial support intraday at 2335. The less than exciting chip earnings are taking their toll on the Nasdaq and the SOX is on the verge of collapse if support at 445 breaks. Nasdaq resistance at 2375 is still holding firm and techs look tired ahead of Microsoft's earnings on Thursday. The Russell-2000 is showing a solid pattern of lower highs and the 758 low from the 17th was tested again this morning. It may be just Fed jitters for techs and small caps but the weakness is growing. The internals on the Nasdaq today were better than 2:1 in favor of down volume and new highs at only 126 are well off their peak at 222 set on the 16th. Caution is advised.

Russell-2000 Chart - 90 min

Dow Transport Chart - Daily

SPX Chart - 180 min

The S&P-500 internals were split nearly dead even today and the closing gain of only +0.36 cents showed it. Of the 181 S&P companies reported 72% have beaten estimates, down -2% from Sunday's numbers but that is well above the average of 60%. Leaders have been materials and insurance. Not two sectors that you would want to lead a rally. With growing help from an unexpected source, the energy sector, the S&P may keep those Q3 earnings close to the current +17% growth. The index itself is poised to break over the resistance from Jan-2001 at 1380 but it is creeping higher at a snails pace. It is possible the Fed decision could provide that spark needed for the S&P to breakout and confirm the Dow's string of records. On Sunday I reminded everyone we don't want to try and guess what is going to happen in the market. I know quite a few people, including me, would have bet on some substantial profit taking several times over the last few weeks. We can't rely on our intuition but need to stay focused on the trend. Once it breaks all bets are off and we get to start over with a new bias from a different level. For today the recommendation is still to remain long but 1365 is rapidly becoming a decision point rather than 1350. We have had a nice run and we need to adjust those trigger levels. I would continue to buy the dips to about 1363 but be prepared to go flat or short under 1360. If the Fed hands us a disaster then we don't want to give back all our gains. We can always get back in at a lower level if disaster strikes. S&P 1345-1350 would now be my expected rebound point if disaster did strike. 1425 is my short-term target if we get Fed news breakout over that 1380 resistance. I think a breakout here would attract a lot more buyers who have been waiting anxiously on the sidelines for a pullback. They are losing money every day they are not invested and that is providing for short dips and quicker rebounds as desperation buyers hit the tape. The Dow transports are poised at 4735 to breakout of resistance and make a break for 5000 and the all time high. Once the transports cross 4735 it will convince even more money to come to market. There is plenty of cash out there as we saw in the 2-year note auction today. $20 billion in notes were over subscribed by 3:1. That means there was $60 billion in bids for only $20 billion in notes. That surplus cash has to go somewhere and a market setting new highs is a tempting target. The current rally remains in Fed hands for Wednesday. Let's hope they will be gentle.

New Plays

Most Recent Plays

New Plays
Long Plays
Short Plays
None TXN

New Long Plays

None today.

New Short Plays

Texas Instruments - TXN - close: 30.52 change: -1.36 stop: 32.05

Company Description:
Texas Instruments Incorporated provides innovative DSP and analog technologies to meet our customers' real world signal processing requirements. In addition to Semiconductor, the company includes the Educational & Productivity Solutions business. TI is headquartered in Dallas, Texas, and has manufacturing, design or sales operations in more than 25 countries. (source: company press release or website)

Why We Like It:
TXN recently reported earnings that were inline while revenues were less than expected. Furthermore investors were not happy with TXN's less than optimistic guidance for the next quarter. The stock lost 4.2% on the news with volume surging almost three times the norm. Today's session definitely looks like a bearish reversal and more aggressive traders may want to consider new positions now. We're a little concerned about potential support at the $30.00 level so we're suggesting a trigger to short TXN at $29.90. If triggered our target is the $27.50 level. Once the play is open we'll probably adjust the stop loss toward the $31.50 or $31.00 levels since broken support at $31.00 should act as new resistance. Keep an eye on the SOX semiconductor index, which looks poised to breakdown. FYI: The P&F chart for TXN points to a $17 target.

Picked on October xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/23/06 (confirmed)
Average Daily Volume: 14.8 million

Play Updates

Updates On Latest Picks

Long Play Updates

BJ Services - BJS - close: 31.55 change: +1.41 stop: 28.99

A rebound in crude oil futures fueled a nice bounce in the energy stocks. Oil services did well and shares of BJS rose 4.6% on above average volume, which is bullish - as is the close over resistance near $30.50. The rally this afternoon did stall at its 50-dma so we might see a dip tomorrow. A pull back into the $30.50-31.00 region could be used as a new entry point. Our target is the $33.50-34.00 range. We do not want to hold over the October 31st earnings report.

Picked on October 19 at $30.55
Change since picked: + 1.00
Earnings Date 10/31/06 (confirmed)
Average Daily Volume: 5.5 million


Chipotle Mex.Grill - CMG - close: 57.70 chg: +1.30 stop: 53.74

Our new bullish play in CMG is off to a decent start. The stock added 2.3% and is challenging the October highs. Our only concern was the lack of volume. Our short-term target is the $59.90-60.00 range. More aggressive traders may want to aim higher but we plan to exit ahead of the October 31st earnings report. We're placing the stop just under Friday's low.

Picked on October 23 at $56.40
Change since picked: + 1.30
Earnings Date 10/31/06 (confirmed)
Average Daily Volume: 900 thousand


D.R.Horton - DHI - close: 23.58 change: +0.56 stop: 22.99

Homebuilders managed a bounce on Tuesday and shares of DHI rebounded from support near $23.00. Aggressive traders might want to consider long positions here with a stop under Monday's low but we're waiting for a breakout over resistance near $25.50. We're suggesting a trigger to go long at $25.51.

Picked on October xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 11/14/06 (confirmed)
Average Daily Volume: 4.1 million


Denbury Resources - DNR - cls: 29.33 chg: +0.32 stop: 27.99

DNR is another oil stock that bounced with today's strength in crude oil futures. Unfortunately, the stock seemed to lag behind some of its peers. Readers can use today's bounce as a new entry point or wait for a breakout over $30.00 and its 200-dma (again) before going long. Our target is the $33.00-34.00 range. We do not want to hold over the early November earnings report.

Picked on October 16 at $30.26
Change since picked: - 0.93
Earnings Date 11/01/06 (unconfirmed)
Average Daily Volume: 826 thousand


Kinetic Concepts - KCI - cls: 33.57 chg: -1.05 stop: 32.65

Ouch! KCI erased all of yesterday's gains with a 3% sell-off on very low volume today. We were a little concerned that the $35 level might offer resistance, which is why we suggested that more conservative traders lock in a gain. More conservative traders may want to tighten their stops even higher. We're planning to exit on Thursday afternoon at the closing bell to avoid the earnings announcement. Our target is the $36.00-37.00 range.

Picked on October 08 at $33.35
Change since picked: + 0.22
Earnings Date 10/27/06 (confirmed)
Average Daily Volume: 1.4 million


PDL BioPharma - PDLI - close: 20.45 chg: -0.05 stop: 19.94

Our bullish play in PDLI is not panning out yet. The stock has been stuck consolidating sideways above the $20.00 level. Today's intraday bounce from $20.16 looks like another entry point to go long but we hesitate to suggest new positions consider PDLI's lack of upward momentum. We have less than two full weeks before we plan to exit to avoid holding over PDLI's earnings report. Our target is the $22.25-22.50 range.

Picked on October 05 at $20.11
Change since picked: + 0.37
Earnings Date 11/02/06 (confirmed)
Average Daily Volume: 1.3 million


W&T Offshore - WTI - close: 33.36 chg: +1.24 stop: 30.21

WTI is another oil stocks that produced a strong session thanks to a rebound in oil futures. Shares of WTI rose more than 3.8% and broke out over resistance near $33.00, its 100-dma and its exponential 200-dma. Today's move definitely looks bullish and the stock appears poised for more gains but more conservative traders may want to take some money off the table. Our target is the $34.00-35.00 range.

Picked on October 13 at $30.21
Change since picked: + 3.15
Earnings Date 11/09/06 (unconfirmed)
Average Daily Volume: 534 thousand


Zale Corp. - ZLC - close: 27.97 chg: -0.10 stop: 27.49

We want to reiterate yesterday's caution on ZLC. The stock has produced two failed rallies in two days at the simple 10-dma. That's not a sign of strength. If you did enter on the initial rise over $28.25 or today's rally attempt you may just want to exit early and keep your losses to a minimum. ZLC did manage a bounce from its rising 50-dma but the technical picture is growing more bearish. We're keeping the play open because the bullish trend is still intact for now but if it breaks down we'll be stopped out quickly at $27.49. We do expect some resistance at $29.00 so be prepared for a pull back. FYI: The Point and Figure chart for ZLC forecasts a $37 target.

Picked on October 23 at $28.26
Change since picked: - 0.29
Earnings Date 11/30/06 (unconfirmed)
Average Daily Volume: 376 thousand

Short Play Updates


Closed Long Plays


Closed Short Plays


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


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