Option Investor

Daily Newsletter, Friday, 07/04/2008

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Table of Contents

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

Market Wrap

A Bumpy Ride

Todays holiday shortened trading session was right on track with the rest of the weeks trading activity. We started the session today with a nice gap up followed by a quick sell off which pulled the Nasdaq 100 into its 1802 gap from April 16th. While we are on the subject of the Nasdaq the volume was obviously less that yesterdays action because the market only traded until 1:00 PM EST. Tuesday had strongest volume of the week at 2600 million shares traded. The 50 day moving average of the Nasdaqs volume is 2090 million shares per day. Since Tuesday gapped down from week European economic results and proceeded to close up near the days high the higher than average volume posted an accumulation day. However, on Wednesday the Nasdaq 100 dropped back to Tuesdays low on lower volume than that of Tuesdays. All the daily volume differences indicate is that yesterday wasnt a distribution day. It just wasnt fun if you were long. As for today the advance decline was negative with 1167 advancers versus 1674 decliners. Another read on the volume from yesterday is that traders left early for the holiday weekend. Dont they know that we all live for the action of trading and cant go a whole evening let alone three and a half days without trading our precious options?

The New York Stock Exchange (NYSE) internals posted at 2 to 1 decliners versus advancers ratio. The actual numbers are 1089 advancers versus 2020 decliners. The volume on the NYSE resembled the Nasdaqs weekly trendmost likely due to the shortened week. For instance, Tuesday had 2009 million shares traded versus the 50 day moving average 1610 million shares on an up day.

Out of four trading days three were up. However, the week ended down 16 points and 39 points on the S&P 500 and Nasdaq 100, respectively. Every day this week was volatile intraday due to the amount of news and economic reports from the US and ECB. This morning was no different.

The above chart is of the S&P futures contract shown on a 5 minute chart. Prior to the Unemployment Rate, Initial Claims and Nonfarm Payrolls the futures were relatively flat on the S&P and down on the Nasdaq. Then the index futures began to advance ahead of the release. As the chart shows after 8:30 am the futures initially ran to up 10 +/- prior to the open. At 404,000 Initial Claims versus the 385,000 estimate there were quite a bit more unemployed than expected. At this point in the economy we would like to see more people working and paying taxes into the system and spending money rather than deriving income from unemployment and the other government programs. In my opinion the U.S. needs the dollar to strengthen versus the Yen, Sterling and Euro in order to help reduce our costs of importing goods and therefore increasing actual inflation. The good news for those people working is that the amount earned increased 0.3%, in line with the markets and Briefings expectations. However, the length of the work week stayed constant from last month. The actual results came in at 33.7 average hours per week instead of the anticipated 33.8 average hours Briefing expected. One commentator on the news mentioned that while the employment results werent good the market has become desensitized as of late and found some good news in that the results werent as bad as they could have been. It is amazing that we are in this place againwhere bad news that wasnt all that bad is good news and good news just isnt anywhere to be found. Then the really bad news came out at 10:00 am. The ISM Services Index for June came in at 48.2 which came in 3.5 less than Mays 51.7. Junes results are far less than the 52 that Briefing expected or 51 the market that was polled expected.

General Motors (symbol: GM) continued its slide this week on a downgrade and amid rumors the company could actually go bankrupt. A Merrill Lynch analyst said bankruptcy is not impossible if the U.S. auto market further deteriorates and GM fails to raise substantial capital. The analyst believes GM needs another $15 billion to curb its failing company. Hondas small vehicle lineup is growing while the US automakers struggle to make more cars. GM responded to the bankruptcy comments by stating that it has sufficient liquidity for the remainder of 2008, but the company is already between a rock and hard place. The two largest Detroit automakers have already had their credit ratings placed on negative watch by Standard & Poor's.


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Oil continued to move upward to a high of $145.875 today. This move is making T. Boone Pickens right about his predictions on the high. The Money Flow is near 80 where we find it to be usually overbought. The Slow Stochastic closed today at 93, which is well above the 80 overbought level. A tick down both may confirm that oil is short term overbought. A week ago oil looked as though it was beginning to turn over from slowing volume but the whole picture wasnt revealed. Even now the Money Flow isnt quite overbought and the Chaikin Oscillator (not shown) is still up trending. The interesting part of the price expansion is that many of the oil driller and service stocks have began to move off their highs ahead of the commodity they covet. Stocks like Ultra Petroleum and Schlumberger have declined sharply over the last few days which have moved contrary to the commodity.

Gold advanced sharply from the 200 day moving average at 875 on June 25th to an intra day high of 949.40 today. Gold closed down 10 points to 934 an ounce after the dollar began to strengthen. Long gold and long crude has been a good pair of commodities to own. Gold helps to hedge the inherent inflationary pressures caused by the rise in oil prices. Both the RSI and Slow Stochastic have turned over therefore confirming that the commodity is short term oversold. The 89 day moving average (grey line) is the next level of support. Should gold hold that level then the 949.4 price established today will become the resistance to break out from.

The S&P 500 (SPX)

As mentioned earlier the SPX was very volatile this week and declined about 16 points from Fridays close. The SPX broke the March low today before closing up 1.37.

I mentioned a few weeks ago (at the magenta arrow) that the 89 day moving average (grey line) was the next level of support should the market sell off. Followed by that the April lows were next and did come into play as short term support in early June. However the market has sold off into a downtrend and broken all support levels. While it isnt shown above this is the third time in 2008 that the SPX has come down to these levels. Double bottoms tend to provide better odds of continued bounces while the third time isnt always the charm. However, the Slow Stochastic is oversold and has re-emerged above oversold territory to 21.08. Below, the Bollinger band chart includes the RSI indicator which closed up slightly at 18.68 but below 30, the re-emergence level.

By trading below 1256.98 the market completed the full Fibonacci retracement today. Often times when a stock, index or commodity retraces fully it tends to extend further to the 127.20% extension level. Since the SPX remains in a confirmed downtrend the next level of support, after todays low, is at 1207.13. We may see a short term bounce from these extended oversold levels to the 78.4% or 61.8% levels before possibly selling off to new lows.

The above chart shows the SPX 60 minute chart since June 17th. The 50 bar moving average has become the resistance level to test and turn over from. A break and close above the 50 bar MA should become a confirmation of a new upside move. However, a test and failure to close above would provide a good short entry opportunity. The SPX traded within a 25 point range on Tuesday, a 31 point range on Wednesday and 20 point range today.

I keep mentioning Tuesday because it provided interesting action in which the market gapped down 13 points to 1267 and then moved up to 1282.74 at 11:15 AM to be slightly. By 12:30 the SPX had dropped to 1260 and found a short term bottom from consolidating. By the close the SPX closed up over 4 points after trading down 20 at the lows. All while this was occurring, Financial Advisors that I manage portfolio models for were asking me to go to cash or at least slowing step into the positions within the various portfolio models. Also, one of them said that they decided to hedge against their long positions with the SDS just before lunch. At times the contrarian indicators reference the average mentality of the investor. From my experience, concerned for their retirement savings, the average investor calls their Financial Advisor usually at the early onset of a market decline only to be reassured that their portfolio is allocated a certain way that utilizes a balanced approach, asset allocation and diversification or modern portfolio theory. The interesting point is that the initial fear of the client is often very timely. The Financial Advisor doesnt usually want to rebalance or sell off positions because they believe they are right and that their client is overly cautious. By the time the Financial Advisor finally reaches the point that they join in their clients concern the market has already made the majority of its move. The Financial Advisor is usually the last to switch gears. Similarly, the Investors Intelligence Polls actually poll investment newsletter writers rather than actual investors for the same reason Financial Advisors provide a reliable signal.

The Nasdaq 100 (NDX)

In the above chart todays low filled in the April low of 1802. The next level of support as measured by the gaps is at 1751.99. 1776, coincidently the year of independence, it the next price support from April. Resistance is at yesterdays high and then at 1886 (the 89 day moving average). After that resistance level is broken the gap down from last Wednesday is at 1910.21. The Slow Stochastic has broken above its moving average and re-emerged out of oversold territory. The NDX made it into positive zone by the end of trading today by a huge 0.20 points.

The upper Bollinger band on the above chart is hanging onto the upside range established at the June highs. However, the lower Bollinger band has been rapidly trending lower to 1779.60. The 8 bar exponential moving average (magenta line) provided the resistance the market opened at yesterday. At just above 1850 the NDX needs to close strongly above the 8 bar EMA in order to get out of the down ward slide the tech heavy index is currently on. The RSI, at 26.12, hasnt provided any confirmation to go long either.

The CBOE Volatility Index (VIX)

As the VIXs chart shows the Stochastics has begun to roll over from todays decline. In the contrarian newsletter I write I have pointed out that the 10 and 20 day moving averages of the CBOE VIX have returned to a confirmed uptrend. The confirmation was returned because the 10 day moving average broke above the previous high established the week before. The dotted black line above represents the 200 day moving average. The long term moving average established a base line to work from and sets a target for the index to regress to. The VIX isnt really at an overbought extreme until retesting the previous highs (26.77) not seen since March. If the 26.77 price level is broken, then a test of the extreme highs over 34 that we saw in March will be the next target. I prefer to use the 10 day moving average closing below the 20 day moving average as confirmation for a long signal.

Next Tuesday begins the economic reporting with Pending Home sales and Wholesale inventories. While home related readings should be intuitive, as we saw this week, the Michigan Sentiment and Initial Claims should be more crucial to the market movement. Alcoa is the big earnings news the market is awaiting next Tuesday.

The Press Box

From up above the field we can see the big picture of the various would markets. One aspect of this view is the open interest of Index Options. While we can start looking at the Dow and Russell indices at some point, I tend to follow the S&P 500 and Nasdaq 100.

The yellow highlighter shows the next levels of resistance as shown by peak levels of open interest while the pink highlighter shows the highest level of open interest of the indexs front month options. There is peak resistance at 1400 with 177,000 options open at that strike price. However, 1400 is a long way to go in two weeks. The target I am looking at is 1300 where there are 37,000 contracts open. 1250 is the next major support level as represented by the peak open interest of 111,000 contracts. The low today was at 1252 which confirms the 1250 support.

The July open interest levels on the NDX peak at 1950 which is also a long way from 1816 in two weeks. The support at 1750 correlates with the gap from March I wrote about in the above commentary. 1825 is higher than the close today and really doesnt provide support anymore. However a break back above 1825 would put that strike as the next support level.

The Ten Year Treasury Yield (TNX)

After peaking at 4.3% the 10 year treasury yield has declined to 3.973% where it has found some support at the 200 day moving average.

The Stochastics is indicating that the yield will be advancing from the current levels. The TNX trades options but they arent very liquid. However, for those of you that trade futures you can take the short on the TY (ten year treasury futures contract) if you believe that the yield will decline. Take the long trade if you think that the Fed isnt done (which I dontthey never do what is right in a timely manner) lowering rates and believe the 10 year yield will decline to the 89 day moving average at 3.78%.

Have a happy Fourth of July.

New Plays

Most Recent Plays

Click here to email James
New Plays
Long Plays
Short Plays
COL None

Play Editor's Note: I'm starting to feel like a broken record here. Our market bias is bearish but stocks remain oversold and are way overdue for a bounce. Keep an eye on the VIX. The market may continue to drift lower until we see a spike toward the 30 region on the VIX.

New Long Plays

Rockwell Collins - COL - close: 48.64 chg: +0.79 stop: 47.45

Company Description:
Rockwell Collins is a pioneer in the development and deployment of innovative communication and aviation electronic solutions for both commercial and government applications. (source: company press release or website)

Why We Like It:
COL has had a very rough six weeks with a collapse from $65 to almost $47. Shares have spent the last several days trying to build a bottom in the $47-48 zone. We're tempted to buy the stock now. However, we want to see a little more confirmation first so we're suggesting a trigger to buy the stock at $49.25. More conservative traders may want to wait for a rise over $50.00 first. If triggered our target is the $53.50 mark. This is going to be a very short-term play. COL is due to report earnings on the morning of Friday, July 11th. We do not want to hold over the announcement. We'll plan to exit on Thursday at the closing bell.

Picked on July xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 07/11/08 (confirmed)
Average Daily Volume: 1.6 million


Trina Solar - TSL - close: 28.99 chg: +0.70 stop: 26.35

Company Description:
Trina Solar Limited, through its wholly-owned subsidiary Changzhou Trina Solar Energy Co. Ltd, is a well recognized manufacturer of high quality modules and has a long history as a solar PV pioneer since it was founded in 1997 as a system installation company. (source: company press release or website)

Why We Like It:
TSL was recently added to the Russell Global Index, which should increase some of the buying pressure for the stock as those fund managers that track this index add TSL to their portfolio. This looks like a potential bottom as TSL bounces from its March lows. Thursday's move is also a "hammer" candlestick, which can be a one-day reversal pattern. While we are suggesting new positions here more conservative traders will want to strongly consider waiting for a rally over $30.00 before initiating positions. We're suggesting a stop under Thursday's low. We have two targets. Our first target is $32.50. Our second target is $34.90.

Picked on July 03 at $28.99
Change since picked: + 0.00
Earnings Date 08/21/08 (unconfirmed)
Average Daily Volume: 1.6 million


Textron - TXT - close: 47.84 change: +0.89 stop: 46.89

Company Description:
Textron Inc. is a $13.2 billion multi-industry company operating in 34 countries with approximately 44,000 employees. The company leverages its global network of aircraft, defense and intelligence, industrial and finance businesses to provide customers with innovative solutions and services. (source: company press release or website)

Why We Like It:
Shares of TXT have been trying to build a bottom near $47.00 for over a week now. We're going to gamble that it has found a bottom here and suggest bullish positions. We'll put the stop loss at $46.89, just under last week's low. This is a gamble because the market is still in a bearish trend and not showing any signs of reversing yet. Since TXT has been trying to bottom if the market does rebound we would expect a nice bounce out of this stock. Our target is the $53.70 mark. More conservative traders may want to wait for a rally over its 10-dma or a rally over the $50.00 level before initiating positions. However, if you do wait you'll want to adjust your stop loss higher.

Picked on July 03 at $47.84
Change since picked: + 0.00
Earnings Date 07/17/08 (confirmed)
Average Daily Volume: 2.1 million


Wyeth - WYE - close: 46.99 change: +0.55 stop: 46.39

Company Description:
Wyeth Pharmaceuticals, a division of Wyeth, has leading products in the areas of womens health care, infectious disease, gastrointestinal health, central nervous system, inflammation, transplantation, hemophilia, oncology, vaccines and nutritional products. Wyeth is one of the worlds largest research-driven pharmaceutical and health care products companies. (source: company press release or website)

Why We Like It:
WYE's breakout higher in mid June was a new buy signal. The stock has spent two weeks digesting that gain and looks poised to run higher from here. We are tempted to buy the stock now near $47.00 but in this market we want to see some momentum. We're suggesting readers buy WYE at $48.31. If triggered our target is the $52.50 mark. We do not want to hold over the late July earnings report. FYI: The P&F chart has a $61 target.

Picked on July xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 07/23/08 (unconfirmed)
Average Daily Volume: 8.7 million

New Short Plays

None today.

Play Updates

Updates On Latest Picks

Click here to email James

Long Play Updates

Best Buy - BBY - close: 39.59 chg: +0.07 stop: 38.49

BBY still looks like it wants to bounce following Tuesday's test of the March lows. This remains an aggressive, higher-risk trade since BBY is still in a three-week bearish trend. The weakness in the broader market concerns us. Lack of a bounce in the S&P 500 and the action in the volatility index is not suggesting a bottom yet for stocks. Therefore we would be very cautious considering new positions here and more conservative traders may want to tighten their stops. We would wait for a move over $40.50 before considering new long positions. Our short-term target is $42.85. We will look for a failed rally in the $43.00-44.00 zone as a potential entry point to launch bearish positions.

Picked on July 01 at $39.94
Change since picked: - 0.22
Earnings Date 09/18/08 (unconfirmed)
Average Daily Volume: 6.6 million


FLIR Sys. - FLIR - close: 42.30 change: -0.34 stop: 39.49 *new*

FLIR continues to hold up relatively well. The stock dipped to $41.51 before bouncing on Thursday. The trend remains positive but we're not suggesting new positions at this time. Our target is the $44.95 mark. The P&F chart points to a $73 target. Please note that we're raising the stop loss to $39.49.

Picked on June 29 at $41.38
Change since picked: + 0.92
Earnings Date 07/24/08 (unconfirmed)
Average Daily Volume: 2.2 million


Masimo Corp. - MASI - close: 33.64 chg: -0.54 stop: 32.95

MASI is trading back down toward the bottom of its recent trading range in the $33.25-33.00 zone. We are still waiting for a breakout over resistance. The P&F chart is already positive with a $56 target. If MASI can trade over $36.00 it will produce a new P&F triple-top breakout buy signal. We are suggesting that readers use a trigger to buy MASI at $35.65, which would be above the May peak. More aggressive traders might want to jump the gun early on a move over $35.10. If triggered at $35.65 our target is the $39.95 mark. More aggressive traders could aim for the highs near $42.00 but we do not want to hold over the late July earnings report.

Picked on June xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 07/28/08 (unconfirmed)
Average Daily Volume: 461 thousand

Short Play Updates


Closed Long Plays

E*trade Financial - ETFC - close: 3.23 change: +0.00 stop: 2.99

We are suggesting readers abandon ship with ETFC. This was an aggressive play as we attempted to capture an oversold bounce. The stock almost hit our target on Wednesday. We were aiming for $3.45. Unfortunately, this week saw ETFC produce two failed rallies at its simple 10-dma, which doesn't bode well for the future.

Picked on June 29 at $ 3.10 /exiting early 3.23
Change since picked: + 0.13
Earnings Date 07/22/08 (confirmed)
Average Daily Volume: 17.4 million


AT&T - T - close: 32.58 change: -0.31 stop: 32.49

AT&T's bounce from its recent lows has failed. The stock continued to sink on Thursday and hit our stop loss at $32.49 closing the play.

Picked on June 30 at $33.69
Change since picked: - 1.11
Earnings Date 07/23/08 (unconfirmed)
Average Daily Volume: 24.4 million

Closed Short Plays


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


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