Option Investor

Daily Newsletter, Monday, 12/04/2006

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Table of Contents

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

Market Wrap

S&P 500 Hits New 6-year High!

The major indexes witnessed strong gains to start the week with the S&P 500 Index (SPX.X) closing at a new six-year high as mergers and a sharp decline in natural gas prices helped offset weakness in drug giant Pfizer (NYSE:PFE) $24.90 -10.62%.

Advancers easily outnumbered decliners at the open and built toward the close. The big board reported 460 new highs in today's session, which greatly outnumbered the 390 new highs found on 10/26/06.

NASDAQ's 184 new highs, while an improvement from recent sessions, were fewer than the 289 found on 11/15/06 and 220 from 10/16/06.

Merger news had shares of Mellon Financial (NYSE:MEL) $42.78 +6.81% jumping higher by $2.73/share after the financial services company said it would be acquired by Bank of New York (NYSE:BK) $39.75 +12.03% for $16.5 billion. Upon completion of the merger, the combined entity will be among the world's asset managers with more than $1.1 trillion in assets under management and $16.6 trillion in assets under custody. The deal calls for Bank of New York stockholders to receive 0.9434 shares in the new company for each share they currently own, while Mellon shareholders will receive one share in the new company for each Mellon share they own.

The news gave a powerful lift to financials with the AMEX Broker Dealer Index (XBD.X) 241.61 +2.59% grabbing top spot in today's list of sector winners.


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Additional merger news had chip stocks as depicted by the Semiconductor HOLDRs (AMEX:SMH) $34.65 +1.85% gaining on news that LSI Logic (NYSE:LSI) $9.12 -13.63% offered to buy its rival Agere Systems (NYSE:AGR) $19.30 +8.48% for roughly $4.0 billion in stock. If consummated, the deal values Agere at $22.81 a share. Agere shareholders will receive 2.16 shares of LSI Logic for each Agere share held. The companies said combined sales during the prior 12 months ended September 30 totaled $3.5 billion.

Shares of Pfizer (NYSE:PFE) $24.90 -10.62% plunged as low as $23.50 intra-day and were today's most actively traded issue at just over 289 million shares. The drug giant said it decided to halt further development of its cholesterol treatment torcetrapib because of an unexpected number of deaths and other complications in the drug trial.

The news sparked speculation that Pfizer may now be set to make an acquisition(s), as drugs currently in the company's pipeline don't come close to filling the void torcetrapid was supposed to fill, when Pfizer's best-selling drug, cholesterol treatment Lipitor, loses patent protection, possibly as early as 2010. Other patent expirations will reportedly rob Pfizer of $14 billion in revenues annually between 2005 and 2007.

Some names that industry analysts gave as possible acquisition targets were Isis Pharmaceuticals (ISIS) $11.36 +9.12%, Medarex (MEDX) $14.28 +5.23%, Nektar Therapeutics (NKTR) $17.00 +5.06% and Sepracor (SEPR) $57.82 +4.55%.

Most analysts don't believe Pfizer would attempt to purchase a major drug maker due to the expense and complexities of integration. Analysts believe that with $51.3 billion in annual revenues, Pfizer needs more "blockbuster" drugs to fuel sales growth with patent expirations on some of its existing drugs looming in the next couple of years.

U.S. Market Watch - 12/04/06 Close

A warmer weather outlook had energy prices giving back some of last week's gains. January Natural Gas futures (ng07f), which traded as high as $9.049 last week, plunged to their lowest levels of the month.

After a sharp decline last week, the dollar was steady against a weighted basket of foreign currencies with the U.S. Dollar Index (dx00y) edging down 0.05 points from Friday's close of 82.47.

Comment's from Chicago Fed President Moskow

QCharts users may want to note that intra-day, QCharts changed their "symbols" for both the U.S. Dollar Index (CEC:DXY) and the CRB Index (CEC:CRY).

Gold and silver traded flat to higher with the iShares Silver Trust (AMEX:SLV) $140.85 +0.90% nearing its 05/11/06 intra-day high of $152.50.

Sign of weakness, yet repetitive pattern of strength!

In last week's Market Monitor, I noted that the major indexes and trackers (INDU/DIA, SPX/SPY and NDX/QQQQ) had all traded at, or even notably below their pivot analysis WEEKLY S2s. In basic terms, a WEEKLY Support Level 2 had been violated, or traded for the first time in several months.

This was a NOTABLE observation as it relates to how institutional computers (that manage inventory of stocks) saw supply (selling) on a near-term basis beginning to outstrip demand (buying).

One test I thought traders and investors needed to monitor for early this MONTH (December), was the past pattern of a major index I track in the MONTHLY Pivots (INDU, SPX, OEX, NDX and RUT) to see if a dip to, or just below the MONTHLY Pivot (deemed a mid-point of the prior month's trade by mathematical algorithm) finds buyers and drives price back higher.

Suffice it to day, on Friday, December 1, the first day of the MONTH, the S&P Depository Receipts (AMEX:SPY) $141.29 +0.76% traded UNDER its MONTHLY Pivot for 30-minutes, and that has been it! Today's merger news in the financials certainly helped!

I don't want traders, or investors to make this overly complicated. Just make the observation. All YOU need to do is imagine, or BELIEVE that institutions utilize COMPUTERS to manage stock inventory. Just like a grocer uses a computerized inventory system to order MORE product when inventory becomes low, or DELAYS an order when product isn't moving off the shelves and inventory builds, institutional computers manage stock/equity inventory the same way.

In a following chart, I'll show a 60-minute interval chart of the SPY, but I want to show you a MONTHLY Pivot Matrix, where you will see 5 different levels. The mid-point is what is called the "pivot."

Here are three MONTHLY Pivot "matrix." That is, October's MONTHLY Pivot Levels (S2, S1, Pivot, R1, R2). See if YOU can pick up on how computers have been managing inventory of the different securities.

Major Index MONTHLY Pivot Levels - For Oct, Nov and Dec

At the top of the MONTHLY pivot matrix you find the pivot levels for the month of October. Those levels are derived from October's high/low and close. Not how ONLY the NDX/QQQQ as well as the SMH and RUT.X traded lower to their respective MONTHLY PIVOTS, but also trade as high as MONTHLY R2 for the NDX/QQQQ as well as the RUT.X.

In the middle we find the MONTHLY pivots for the recently completed month of November. With RED and GREEN circles, I approximate where the November High/Low was found not only in the SPY, but also the S&P Banks Index (BIX.X), which is a "key sector" for financials, and represents one of the largest weighting for the S&P 500 (SPX.X) and SPY.

Noting how the BIX.X did trade a MONTHLY S1 is important in my opinion, as is the BIX.X just about "pegging" its November MONTHLY R1 to the penny, as if institutional computers were determined to sell at BIX.X MONTHLY R1.

Now, let's take a look at a 60-minute interval chart of the SPY, as this is where we actually do some PIVOT analysis.

S&P Depository Receipts (SPY) - 60-minute intervals

The "W"eekly pivot levels shown are those derived by my trading software from QCharts. Week's help divide up a month.

In PINK I've place (from lower left) October, November and now the December Monthly Pivots (see MONTHLY Pivot Matrix above).

"So what?" you might ask. What does this tell you, or I?

What I (Jeff Bailey) utilize from the above is simply this. Last week I saw something I haven't seen in several weeks. A TRADE AT/BELOW a WEEKLY S2. Weekly S1 and Weekly R1 isn't all that uncommon. One (1) level either side of the Pivot (think of a Pivot as a "neutral level" and S1/R1 a support1 and resistance1 either side of that pivot.

With last week's trade at a Weekly S2, that is DIVERGENCE from the past.

Now the TEST FOR STRENGTH, or SIMILARITY to the past has been found. See where I also mark SIMILARITY and "Boom!" as the SPY trades sharply through its WEEKLY Pivot? Just as it did on November 6th when the SPY shot above $137.00.

What do traders want to be on the alert for? SIMILARITY, or DIVERGENCE to the past?

I think traders and investors want to be on the alert for DIVERGENCE. DIVERGENCE to the past is what can signal CHANGE and an SPY reversing back below its MONTHLY Pivot ($139.30) and continued weakness below its WEEKLY S1 ($138.56) would be DIVERGENCE within the MONTHLY Pivot levels, and would follow some DIVERGENCE of last week's trade below a WEEKLY S2.

What the pivot levels do is give traders and investors a mathematically derived set of support and resistance levels.

The biases (bullish, or bearish) are established from SIMILARITY to the past, or DIVERGENCE from the past.

Last week, all equity indices tracked in the MONTHLY Pivot Matrix, traded BELOW their respective WEEKLY S2s, just like the SPY did, so there was SIMILARITY across the board.

This week's WEEKLY S1s for the INDU/DIA are 12,086/$129.91 and would be deemed important levels of support, or levels to be on the alert for DIVERGENCE to the past. Weekly R1s were traded today at

This week's WEEKLY S1s for the SPX/SPY are 1381/$138.54.

This week's WEEKLY S1 for the narrower OEX is 641.75.

This week's WEEKLY S1 for the NDX/QQQQ are 1,751.50/$43.08.

This week's WEEKLY S1 for the SMH is $33.20.

This week's WEEKLY S1 for the BIX.X is 389.50.

This week's WEEKLY S1 for the RUT.X is 769.50.

Bottom Line:

I do believe the bulk of last week's weakness in the equity indexes was "dollar related," but the ability to violated their WEEKLY S2s should have traders and investors alert to weakness.

But today's STRENGTH and SIMILARITY to early November, and POWERFUL moves back above the MONTHLY Pivots, so early should have bears showing GREATER caution.

New Plays

Most Recent Plays

New Plays
Long Plays
Short Plays
None None

New Long Plays

None today.

New Short Plays

None today.

Play Updates

Updates On Latest Picks

Long Play Updates

Amer. Electric - AEP - close: 42.28 change: +0.25 stop: 40.89

AEP is off to a good start. Shares dipped back to the $42.00 level and retested broken resistance as new support. This looks like a new entry point to go long the stock. The MACD is edging closer to a new buy signal. Our short-term target is the $44.90-45.00 range. The P&F chart points to a $50 target. FYI: We do not expect shares of AEP to move very fast so it could take a few weeks to reach our target.

Picked on December 03 at $42.03
Change since picked: + 0.25
Earnings Date 01/30/07 (unconfirmed)
Average Daily Volume: 2.0 million


ALON USA Ener. - ALJ - close: 31.30 chg: +0.60 stop: 27.75

Traders bought the dip in ALJ near its rising 10-dma and the stock rose 1.9% in spite of weakness in crude oil and the energy sector. We remain bullish on ALJ with the stock above $30.00. The next challenge is the 100-dma, which was resistance last week. More conservative traders may want to tighten their stops. The $29.00 level is short-term support. Our target is the $33.50-34.00 range.

Picked on November 21 at $30.15
Change since picked: + 1.15
Earnings Date 11/07/06 (confirmed)
Average Daily Volume: 504 thousand


Beazer Homes - BZH - close: 45.15 change: -0.69 stop: 42.99

Homebuilders struggled to build on last week's strength due to an October report out today that said pending home sales slipped 1.7%. We see today's dip as temporary and a potential buying opportunity. However, more patient traders might want to sit and wait for a potential dip back toward the $44 region. Our target is the $49.50-50.00 range. More conservative traders may want to exit at the 200-dma near $49.00. FYI: The P&F chart displays an ascending triple-top breakout buy signal with a $58 target.

Picked on December 03 at $45.84
Change since picked: - 0.69
Earnings Date 02/06/07 (unconfirmed)
Average Daily Volume: 1.2 million


Chesapeake Energy - CHK - cls: 33.70 chg: -0.39 stop: 31.99

After several days of gains crude oil futures finally hit some profit taking. This weighed on the energy sector. Yet for the most part oil stocks managed to rebound strongly from their lows of the session. We remain bullish on CHK and would use the dip as a new entry point. Our target is the $38.00-40.00 range.

Picked on November 29 at $33.98
Change since picked: - 0.28
Earnings Date 01/25/07 (unconfirmed)
Average Daily Volume: 7.5 million


Carrizo Oil & Gas - CRZO - cls: 33.27 chg: -0.12 stop: 29.75

CRZO is another oil stock that suffered an intraday set back before bouncing back into the close. We remain bullish and would still consider new positions. Our target is the $35.50-36.00 range. FYI: The P&F chart's bullish target is $49.

Picked on November 29 at $32.15
Change since picked: + 1.12
Earnings Date 11/09/06 (confirmed)
Average Daily Volume: 345 thousand


D.R.Horton - DHI - close: 26.29 change: -0.30 stop: 24.69

DHI is another homebuilder that hit some profit taking after the pending home sales figures this morning. However, the pull back in DHI stalled near its 200-dma and the $26 level, which should both act as support. We would use the dip as a new entry point to go long. Our short-term target is the $29.90-30.00 range. The P&F chart points to a $36 target.

Picked on December 03 at $26.59
Change since picked: - 0.30
Earnings Date 01/18/07 (unconfirmed)
Average Daily Volume: 3.7 million


GulfMark - GMRK - close: 40.80 change: +0.58 stop: 36.99

GMRK continues to show relative strength. The stock added another 1.44% and ignored any weakness in the energy sector on Monday. The P&F chart is very optimistic with a $67 target. We're aiming for the $42.50-43.00 range.

Picked on November 28 at $38.70
Change since picked: + 2.10
Earnings Date 01/31/07 (unconfirmed)
Average Daily Volume: 108 thousand


Noble Energy - NBL - close: 52.48 change: -0.51 stop: 48.99

NBL is another oil stock that dipped on the weakness in crude oil. Shares did bounce near the $52 level and we'd use the pull back as a new entry point to buy the stock. Or if you believe the sector is due for more profit taking then wait for a dip toward $51.00, which would also be an attractive entry point. We would expect the $50.00-51.00 region to act as new support. The P&F chart looks very bullish with a $76 target. Our target is the $57.50-60.00 range.

Picked on November 29 at $53.11
Change since picked: - 0.63
Earnings Date 01/31/07 (unconfirmed)
Average Daily Volume: 1.3 million


ONEOK Inc. - OKE - close: 44.20 change: +0.53 stop: 41.35

OKE continues to march higher and ignored any weakness in energy stocks today. Technicals are bullish and there doesn't seem to be anything in its way between here and our target in the $45.00-46.00 range.

Picked on November 28 at $42.25
Change since picked: + 1.95
Earnings Date 07/26/06 (unconfirmed)
Average Daily Volume: 547 thousand


Rowan Cos. - RDC - close: 35.31 change: -1.13 stop: 34.45

The profit taking in RDC was above average with a 3% decline compared to a 0.6% decline in the oil services index. Aggressive traders might want to buy a bounce form here near $35. We're waiting for a breakout over resistance. At this time we're suggesting a trigger to open plays at $37.05. Our target is the $41.00-42.00 range. More conservative traders may want to exit early near $40.00, which might be round-number resistance.

Picked on December xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 01/30/07 (unconfirmed)
Average Daily Volume: 3.4 million


Raytheon - RTN - close: 52.15 change: +0.85 stop: 49.85

The DFI defense index broke out to a new all-time high. Shares of RTN were contributing with a 1.6% rally and its own new record high. We don't see any changes from our previous updates. Our target is the $54.50-55.00 range.

Picked on November 29 at $51.05
Change since picked: + 1.10
Earnings Date 01/25/07 (unconfirmed)
Average Daily Volume: 1.5 million


Worthington Ind. - WOR - close: 19.09 chg: +0.67 stop: 17.85

Hmm... Monday's session was very bullish for WOR. The stock rose 3.6% and broke through multiple levels of resistance including its 100-dma, exponential 200-dma, the simple 200-dma and the $19.00 level. Yet we cannot find any specific news to account for WOR's big show of strength. Our target is the 19.85-20.00 range.

Picked on November 19 at $17.96
Change since picked: + 1.13
Earnings Date 12/19/06 (unconfirmed)
Average Daily Volume: 868 thousand

Short Play Updates

Cheesecake Factory - CAKE - cls: 27.05 chg: +0.64 stop: 27.01

We expected a bounce in CAKE and more aggressive traders might want to consider shorting a failed rally under $27.00 or $28.00. Our strategy is based on a breakdown below support near $26 and its 100-dma. We're suggesting a trigger to short the stock at $25.65. If triggered at $25.65 our target is the $22.25-22.00 range. We do expect some support near $24.00 but given the bearish technicals on the weekly chart we think any bounce at $24 would be temporary. The P&F chart currently points to a $4.00 target.

Picked on December xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 11/30/06 (confirmed)
Average Daily Volume: 1.3 million


Fannie Mae - FNM - close: 57.89 chg: +1.06 stop: 58.25

A merger in the banking sector fueled a strong rally in the financials. Shares of FNM rose 1.8% and broke out over its 10-dma. More conservative traders might want to exit early right here to limit any losses. We're going to keep the play alive for now since FNM still has potential resistance at $58.00 and its 50-dma. We're not suggesting new positions at this time given the strength in the broader market.

Picked on November 26 at $57.39
Change since picked: + 0.50
Earnings Date 00/00/00 (unconfirmed)
Average Daily Volume: 3.2 million


Imperial Sugar - IPSU - close: 22.44 change: +0.44 stop: 23.55

Watch IPSU for a failed rally under $23.00. Broken support at $23.00 should now act as new resistance. A failed rally near $23 can be used as a new entry point for shorts. More aggressive traders might want to use a wider stop loss and a lower target. We are aiming for the $20.05-20.00 range. The P&F chart is very bearish with a $15 target.

Picked on December 03 at $22.00
Change since picked: + 0.44
Earnings Date 01/27/07 (unconfirmed)
Average Daily Volume: 248 thousand


WebMD - WBMD - close: 36.70 change: +1.12 stop: 35.26

There is no change from our previous updates on WBMD. We're still waiting on a breakdown below support near $34.00. Today's 3% gain was probably short covering thanks to a widespread market rally. The stock has significant support near $34.00 so we're suggesting a trigger to open positions at $33.70, which is under the March 2006 low. The latest data only lists short interest as 2.7% of the company's eight million-share float. Yet we suspect that number is an error and that short interest is probably much higher. The risk here is that with a lot of short interest any sudden rebound can produce a short squeeze. Aggressive traders may want to use a wide stop loss to give WBMD room to move. We're going to try and limit our risk with a stop loss at $35.26. Our target will be the $30.25-30.00 range.

Picked on November xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 11/02/06 (confirmed)
Average Daily Volume: 94 thousand

Closed Long Plays


Closed Short Plays


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


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