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Daily Newsletter, Monday, 08/18/2008

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Table of Contents

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

Market Wrap

Market Wrap

Market Wrap

Today began with the futures up in pre-market trading. The upside sentiment followed positive earnings from Lowes Companies Inc. (LOW). LOW posted 2nd quarter earnings per share of $0.64 and beat their estimates by $0.08. LOW also beat the revenue estimates with a total of $14.51 and a year over year increase of 2.4%. However, they guided their 3rd quarter down and affirmed the previous 2009 guidance of $1.48 1.56 versus the $1.50 consensus. Also reported in pre-market was that Brinker International (EAT) is selling its Romanos Macaroni Grill franchise. BHP Billiton (BHP) reported its sixth straight full-year profit and offered an upbeat outlook.

Except for the attention the Barrons news article about Freddie and Fannie Mae garnered, all in all it was a slow news day. The article suggested that the flailing government agencies, Fannie Mae (FNM) and Freddie Mac (FRE), are becoming increasingly likely that the Treasury will have to recapitalize them in the months ahead (read: at taxpayer's expense). The Treasury is taking advantage of powers it has been granted under the new housing bill signed into law last month. If the Treasury makes the move to recapitalize FRE and FNM that almost would certainly wipe out existing holders of the common stock. In addition, holders of the preferred stock and even holders of the two entities' $19 billion of subordinated debt may also suffer losses. An insider in the Bush administration tells Barron's Fannie and Freddie are being informally persuaded by the Treasury and their new regulator, the Federal Housing Finance Agency, to raise more equity.

The Internals

The S&P 500 (SPX) closed down 19.60 at 1278.6 and the New York Stock Exchange (NYSE) closed down 100.77 to 8281.86. Total volume on the NYSE was low at 1,230 million. The 50 day average is at 1,703 million shares. With lower volume than Friday and lower than the 50 day moving average todays decline isnt considered as a distribution day. There were 943 advancing issues versus 2213 declining issues. The NYSE had 30 New 52-Week Highs and 77 New 52-Week Lows. The ARMs Index or $TRIN ran up to 2.26. Peaks above 1.50 at the close present a short term trader with an opportunity go long the market. Since by the time you read this the only market that is open is the futures market you could buy the S&P E-Mini contract at 1282 1283. Lets assume we buy this at 1283 and set an 8 point profit target with a 4 point stop. Another trade exit method is to close out the position at the open tomorrow.

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The NASDAQ Composite (COMPQ) declined 35.54 to 2416.98 on 1,656 million shares. Todays volume was less than the 50 day moving average of 2,211 million shares. The daily volume has been below the 50 day moving average for five days and has been lower each day. There were 923 advancing issues versus 1952 declining issues and 28 New 52-Week Highs versus 49 New 52-Week Lows. The internals of both indices suggest that todays decline was not a distribution day.

The S&P 500 (SPX)

I am trying a new charting package tonight and hope that it is clear and easy to read. Basically I am trying to consolidate trading platforms. The chart below is of the S&P 500 Index. As of the close, the SPX ended the session at 1278.60 which was just below the 21 day exponential moving average (Magenta Line) at 1280. The 8 day EMA declined from Fridays close from todays decline. The SPX was showing some promise technically last week when it broke above the 100% Fibonacci retracement and up to the 127.2% Fibonacci level before selling off on Tuesday and Wednesday. The SPX did violate the 21 day exponential moving average (EMA) intraday on both of those days but managed to bounce back and close above. The 5 bar RSI began to roll over last week and continued to head down below 50. While the market may be consolidating and absorbing the daily dose of negative news from the financials the RSI is indicating that the market isnt at a high probability long entry price. I prefer to see a stock or commodities price dip below 30 and then re-emerge and close above that level prior to entry. I may miss the bottom but I can get the middle. The Slow Stochastics is also suggesting that the SPX is in decline. Last Wednesday the Stochastics line closed below its 3 bar moving average thus signaling a new potential distribution phase. In the future if the market bounces back up on lower volume and cant muster enough momentum to close above the previous days high (See Thursdays high) and get the Stochastics back above its 3 bar MA the market is probably going to sell off and retest a recent support level.

Onto the chart below that shows the 50, 89 and 200 day Simple Moving Averages (SMA) in blue, yellow and magenta, respectively. The SPX closed today just below the 50 day SMA of 1286. The recent uptrend line from the July 15th low of 1200.44 was broken through and closed under. Both downward violations place the SPX in a negative note. A short position could be traded on a test up to the 50 day moving average. The next price support level is drawn below (yellow horizontal line) at 1262.

I have zoomed the daily chart to show the Fibonacci levels so we can see some target price zones. The 38% level is at 1270 and the 50% retracement level is at 1256. Therefore a break below todays low may spur an additional selling spree into 1255 -1260.

Technical analysis is an art and science. It takes science to create the charts and indicators and art appreciation to interpret them. My guess for tomorrow is that the SPX and SPX E-Mini Futures will gap up and sell off to fill in the gap (another short term trade method we can go over later).

The NASDAQ 100 (NDX)

On the chart below the NDX looks to be in much better shape than the SPX above. While the NDX is off about 120 points the chart is in a long term consolidation. Today the NDX closed above the 8 day EMA of 1930.13. The NDXs 8 day EMA has been above the 21 day EMA since August 5th. Last Friday the NDX closed up but the RSI declined down. That is a bearish divergence. As of today the RSI is at 54.43. While it stays above 50 the NDX remains in a positive bias. Last Thursday the Slow Stochastics dipped below its 3 bar moving average and remains below it as of todays close. The 21 day EMA is at 1896 and is also advancing. The NDX is on watch for a Neutral bias and will be changed to one if the NDX closes below the 8 day EMA.

The lower NDX chart shows that the price dipped to the converging 89 and 200 day moving averages at 1914. Even though the low today was at 1920.99 both moving averages served and will serve as major near term support. A violation of these moving averages would put the NDX in a bearish note. The upside resistance resides at June 17ths high of 1993. The uptrend line from July 15th is at about 1840 and the 50 day SMA is at 1881. The Money Flow Index peaked 79.70 on Friday. When the Money Flow Index reaches to 80 the security is overbought while levels at or near 20 the security is oversold. Therefore, with the combination of Money Flow peaking along with RSI and Stochastics on the decline the NDX may drop below the 200 day SMA to 1880. The technology sector isnt directly influenced by Oil or financials. But the consequences surrounding a slowing economy make consumers decrease technology expenditures.

Open Interest

The SPX September options range further than the 200 points on the chart I constructed from downloaded data. However, the totals at the bottom represent the total open interest. There are currently 1.47 puts open for each call open. Levels near 2.0 are very bullish while levels near 1 are bearish. The peak call open interest is at 1250 with 205,849 contracts open. However, the next peak open interest level above the current price is at 1300 with 190,443 contracts open. If you assume that the open interest represents sells to open, then logic suggests that those option traders that can open 100,000 or more options have substantial capital and can therefore keep the market from going through those prices. Peak put open interest is at 1250 with 280,709 but the support nearest to the price is at the 1275 strike level.

The NDXs peak open interest on the calls is at 1950 with 14,260 contracts open. There isnt any open interest higher than the average near the technical high of 1993 this month. The next resistance level is at the 2100 call strike with 13,977 contracts open. As for support the peak open interest is at 1850 which correlates nicely with the 50 day SMA mentioned earlier. The most interesting piece of information above is the Put/Call ratio is at 1.23 which suggests that there is an increasing amount of complacency in institutional investors. I probably forgot to mention that commercial traders and institutions trade the NDX and SPX while retail traders use the QQQQ or MNX options as an NDX alternative and the OEX or SPY as a SPX alternative. Institutions are subject to herd mentality too. They just use a different game trail than the rest of use. I should also mention that Open Interest Put/Call ratios are more static than Volume and dont usually ebb and flow to the same extremes. Therefore, buy and sell triggers are fewer and subject to more false readings (because of expiration). Support is at 1850 and resistance is all the way up to 2100. One should overlay these levels on top of a normal price chart to see where there are consistencies. Then sell the call just above and the put just below where the institutions are selling. You dont have to compete with their orders that way if the position goes against you. If it is going against you it is REALLY going against them! Besides you dont need to make the returns Goldman Sachs and Hedge Funds need. Your costs should be much lower.

Economics and Earnings 101

The big earnings plays tomorrow are Hewlett-Packard (I am surprised my DELL let me type that word) and Home Depot. See the chart below for other big names that have yet to report. Because the Healthcare industry has been on a tear I thought MDT would be of interest. In the technology sector, Analog Devices and Novatel report. Retail names like Saks Incorporated and Target report tomorrow and should provide some better insight into the consumer.

There should be excitement Tomorrow morning before the bell even rings. July CPI and PPI are scheduled to report along side some housing data. The market expects so little from the housing sector that it may just be surprised.

Sector Bets

Of course I use bets loosely because we dont bet on stocks as many option naysayers claim. I like following the SPDR Select Sector ETFs to see where the money is going to and from. For instance, the Healthcare ETF (XLV) has maintained its relative strength throughout most of the year. However, as the chart below shows the early trade this year was to short the sector. The sector appears to becoming overbought here as many traders had missed the healthcare kick and loaded on at the last minute. A good entry on this sector, in my opinion, is at a test near the 21 day EMA. (Long Alert)

I still think that the energy sector was oversold and is poised for a bounce back to retrace a few steps. With that said (written) the Energy Select Sector SPDR ETF (XLE) may still have room to go down until a true bottom is set. The problem with bottoms is that you dont know it was the bottom until after the fact. China has shut down a lot of industry in Beijing during the Olympics to reduce smog. Defined: China will start using more energy resources in a week which may increase global demand. I believe that the high in oil was hit and that oil will trade between 100 and 130 for some time. Heating oil should be the next seasonal runner. We should listen closely to this winters forecasts to determine which way to go. I still like the energy long here. Another way to trade it though is buy the Proshares Ultra Long Oil & Gas ETF (DIG) that I write about so often. It is a way to leverage the move once it begins. Since IRAs cant be margined like cash accounts, it is also a way to leverage within an IRA. However, some firms have found ways to establish restricted margin accounts that allow option traders to establish most option strategies within an IRA.

The Sector to be long going into a recession is mostly cash except for the negative return from inflation. But if you want pick a Select Sector, the Consumer Staples SPDR (XLP) seems to move counter trend to the market. The ETF was down slightly today while the overall markets were in a slight freefall. Except for Utilities, there wasnt one Select Sector SPDR that closed positively today. So when the market is declining and you can only go long, buy the one that doesnt go down as much. The XLP appears to be advancing so a buy the dip with a partial position would be an initial entry into this sector. Another entry that I like is a retest of the 21 day EMA. That way a close lower than the 21 day EMA would provide quick risk management and may be a stop and reverse scenario.

Good trading to all. I have to get ready for Fay that is headed our way.
 

New Plays

Most Recent Plays

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

New Long Plays

None today.
 

New Short Plays

Bank of America - BAC - cls: 29.30 change: -1.40 stop: 31.55

Company Description:
Bank of America (NYSE: BAC) is one of the world's largest financial institutions, serving individual consumers, small and middle market businesses and large corporations with a full range of banking, investing, asset management and other financial products and services. (source: company press release or website)

Why We Like It:
The banking stocks are rolling over again and after July's huge rally short-term investors are taking profits. Friday's failed rally near $31.50 and today's close under $30.00 looks like a new entry point for traders to short BAC. There is potential support near the late July lows around $27.75 and the 50-dma near $28.00 so don't be surprised to see a bounce but look for the rebounds to fail under a new trend of lower highs. Our target is $25.25. We're going to set a secondary target of $22.50 but strongly suggest readers take some money off the table at our first target.

Picked on August 18 at $29.30
Change since picked: + 0.00
Earnings Date 10/16/08 (unconfirmed)
Average Daily Volume: 90.8 million
 

Play Updates

Updates On Latest Picks

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Long Play Updates

AMR Corp. - AMR - close: 11.43 change: +0.31 stop: *see details*

There is a good possibility that the airline stocks will see a correction before moving higher again. Right now we're suggesting readers wait for a dip back into the $8.60-8.40 zone to buy the stock. If you don't want to wait that long then really aggressive traders look for a breakdown in the current AMR up trend and short the stock down past the $9.00 level. Cover your short and then look for a dip to buy it. If we are triggered to buy AMR at $8.60 we're starting the play with a wide, and aggressive stop loss at $7.60. More conservative traders may want to use a tighter stop closer to $8.00. We're setting several targets. Our first target will be $9.90. Our second target will be $11.90. Our third target will be $14.90. Over the weekend we suggested that risk-averse traders consider a collar on this play. If you buy 100 shares of AMR then sell an out of the money call and then use the money from the call to pay for most of your purchase of a put contract to protect you. Example: If we are triggered at $8.60 you could then sell the $10 call and use the money to buy an $8.00 put. You may have to come up with more cash to buy the protective put position. In our example we would then have a covered call. If AMR rises over $10.00 you'll probably get called out and the put will be worthless. You'll make the difference between what you entered at, the $10.00 mark, and any thing extra to buy the put option. If AMR crashes lower you're partially protected with the put. In summary we are suggesting readers buy AMR at $8.60. If you're a nimble trader then use the breakdown from the current up trend to short AMR to under $9.00. Cover your short and look for bullish entry points.

Picked on August xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/15/2008 (unconfirmed)
Average Daily Volume: 24.6 million

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Axsys Tech. - AXYS - cls: 73.09 change: -0.38 stop: 71.95

AXYS continues to show relative strength. The stock only lost 0.5% versus a 1.5% drop in the S&P 500. The stock has been resistant to profit taking, which is bullish. Given this market environment and some of the waning technical indicators on AXYS we are not suggesting new bullish positions at this time. Wait for a new move over today's or Friday's high before considering new bullish positions. Our first target is $79.95. Our second target is $84.00. FYI: The most recent data available listed short interest at 8.8% of the small 9.1 million-share float.

Picked on August 12 at $75.82
Change since picked: - 2.73
Earnings Date 10/23/08 (unconfirmed)
Average Daily Volume: 207 thousand

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Esterline Tech. - ESL - close: 52.17 chg: -1.41 stop: 49.90

It was not a good day for ESL. The stock has been showing relative strength last week but shares reversed quickly today and ended the session down 2.6%. We are not suggesting new bullish positions at this time and more conservative traders may want to consider an early exit right now or a tighter stop loss near today's low (51.71). We have a very aggressive target at $57.00 and we plan to exit ahead of the August 28th earnings report. FYI: The latest data put short interest at more than 9% of the small 29 million-share float. The stock could see a short squeeze ahead of earnings.

Picked on August 12 at $52.30
Change since picked: - 0.13
Earnings Date 08/28/08 (confirmed)
Average Daily Volume: 352 thousand

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Graham Corp. - GHM - cls: 105.15 chg: + 4.28 stop: 99.95

Friday's drop in GHM was dangerous but bulls defended the stock near $100 and its rising 10-dma. Shares managed a bounce today but it was an "inside" day as the stock traded within the range of yesterday's candlestick body. Normally an inside day suggests indecision. My concern is that with the market rolling over and financials poised to fall again more conservative traders will want to strongly consider an early exit right here! We're going to keep our stop under support at $100 but we're not suggesting new bullish positions. Our target is $114.50. GHM remains a strong candidate for a short squeeze. This stock has an extremely small float of just 4.5 million shares. The short interest is over 10% of the float.

Picked on August 12 at $106.52
Change since picked: - 1.37
Earnings Date 10/27/08 (unconfirmed)
Average Daily Volume: 239 thousand

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Harley-Davidson - HOG - close: 42.44 chg: -0.12 stop: 39.45

Traders bought the dip near $40.00 twice last week and now HOG is trying to keep the bounce and the breakout alive. Right now last week's breakout is starting to feel like a trap. We remain bullish on HOG with the stock above $40.00 and today's session did see some relative strength with a minor loss. Short-term indicators are mixed. The broader market looks weak and if the S&P 500 turns lower HOG will likely follow. Readers may want to wait for yet another dip and/or bounce in the $41.00-40.00 zone before considering new positions. Our target remains the $47.50-50.00 zone, and we suggest that traders begin to lock in profits as the lower edge of that target zone is reached. The latest data lists short interest at 12% of HOG's 232 million-share float. The P&F chart is bullish with a new buy signal.

Picked on August 11 at $42.55 *triggered
Change since picked: - 0.11
Earnings Date 10/16/08 (unconfirmed)
Average Daily Volume: 2.8 million

---

Monster Worldwide - MNST - cls: 19.85 chg: -0.47 stop: 17.85

We don't see any changes from our weekend comments. MNST is still trading sideways and we're still waiting for an entry point. Currently the plan is to buy a dip in MNST in the $18.60-18.25 zone. If triggered our target is the $21.75 mark. Keep in mind that I would be hesitant to open new positions if the major market indices are careening lower.

Picked on August xx at $xx.xx <-- see TRIGGER
Change since picked: + 0.00
Earnings Date 10/23/08 (unconfirmed)
Average Daily Volume: 3.1 million
 

Short Play Updates

Capital Trust - CT - close: 14.20 change: +0.34 stop: 16.01 *new*

The path of least resistance still appears to be lower for CT. The stock remains volatile but shares have failed to bounce back above the $15.00 level the last few days. We are adjusting the stop loss to $16.01. More conservative traders may want to place their stop closer to the $15.00 region. Another failed rally under $15.00 would look like a new bearish entry point. The most recent data listed short interest at almost 28% of the small 19 million-share float. That definitely raises our risk for a short squeeze. Our first target is $12.55. Readers should definitely consider locking in partial profits as that first target is hit. Our second target is $10.25.

Picked on August 04 at $14.38
Change since picked: - 0.18
Earnings Date 07/29/08 (confirmed)
Average Daily Volume: 278 thousand

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Merrill Lynch - MER - close: 24.74 change: -1.55 stop: 27.55*new*

Financials were leading the market lower on Monday and MER was no exception. The stock gave up almost 6% and closed near its lows for the day. We are going to inch the stop loss down to $27.55. More conservative traders may want to adjust their stop closer to $27.00. Our first target is $22.50. Our second target is $20.25. The Point & Figure chart is bearish with a $7.00 target.

Picked on August 07 at $26.10
Change since picked: - 1.36
Earnings Date 10/23/08 (unconfirmed)
Average Daily Volume: 42.2 million
 

Closed Long Plays

Cal-Maine Foods - CALM - close: 47.65 change: +1.82 stop: 39.75

CALM continues to surge higher and more aggressive traders may want to let it ride. We are suggesting an early exit right here. The intraday high today was $48.80. Our second target was $49.00. That is close enough and given the market's weakness today CALM is going to look like a target for profit taking. Our first target was $44.90.

Picked on August 04 at $40.75 *early exit, 1st target exceeded
Change since picked: + 6.90
Earnings Date 07/28/08 (confirmed)
Average Daily Volume: 1.0 million

---

Juniper Networks - JNPR - close: 26.42 chg: -0.55 stop: 25.99

Warning! The three-day candlestick pattern in JNPR looks like a bearish reversal pattern. Thursday had a strong rally. Friday saw the stock spike higher and reverse. Today saw the selling continue. It just so happens that Friday's intraday rise was enough to break through resistance near $27.00 and its 200-dma. We were triggered at $27.55. Now that bullish breakout looks like a bull trap. We're suggesting an early exit now to cut our losses early. It's possible we're being too cautious and more aggressive traders may want to stick with it, especially since JNPR is still developing a bullish trend of higher lows. You could always exit now and re-enter on a new relative high.

Picked on August 15 at $27.55 *triggered
Change since picked: - 1.13
Earnings Date 10/23/08 (unconfirmed)
Average Daily Volume: 15.8 million
 

Closed Short Plays

None
 

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

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