Option Investor
Newsletter

Daily Newsletter, Wednesday, 6/24/2009

Table of Contents

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

Market Wrap

The Fed Stands Pat, the Market Gyrates on Home, Energy News

by Judy Alster

Click here to email Judy Alster
Today's FOMC meeting told us what we already know while putting changes on hold. A volatile market ended with some gains.

Market Stats

It was buy on the rumor, sell on the news, with a little help from housing and oil. After trading near 8,430, up over 100 points or about 1.26%, the Dow gave up all the day’s gains after the Federal Open Market Committee (FOMC) meeting this afternoon.

In a word, the FOMC held monetary policy steady. It said the economic recession was easing, which indicated that its worries over deflation are easing as well. The relative improvement from the last meeting was clear with the Fed describing the ongoing weakness but pointing out that the rate of deterioration is slowing. Household spending has shown further signs of stabilizing according to the Fed, (see Consumer Staples chart), but it remains "constrained" by ongoing job losses, lower housing wealth and tight credit.

Consumer Staples Index:

With the benchmark interbank lending rate virtually at zero, the Fed has focused on driving down other borrowing costs by buying mortgage-related debt and U.S. government bonds. The Fed said it was moving straight ahead with its $300 billion Treasury purchase plan.

The bleak moral seemed to be that economic conditions would continue to require a very low federal funds rate. Concluding its two-day meeting, the central bank said it had decided to hold overnight interest rates in a zero-to-0.25% range, the level it reached in December, and reiterated that rates would probably stay unusually low for some time. That means commercial banks' prime lending rate, used to determine rates on home equity loans, certain credit cards and other consumer loans, will stay around 3.25%, the lowest in decades.

The Fed acknowledged that commodity prices have risen, but that it still expects inflation to remain "subdued." (Really? With commodity prices rising? That'll be neat.)

Commodities Index Chart

Not a word was said with regard to potential future rate hikes or a change in the ongoing policy. This was met with some sullenness by investors, as witness the reversal in stock prices following the announcement. However, much of the decline was attributed to an attack on Bernanke and the Fed by Darrell Issa, R-Calif., and ranking member of the House Oversight Committee. He accused Bernanke of a cover up of details in the Bank America, Merrill Lynch deal and acted in an interview like he wanted to fire Bernanke or worse. The market did not react well to the news alert on CNBC and this was credited with causing much of the selling.

Soaring after the open, the Dow hit a high of 8428 around 10:30, tested it three times, thought better of it and fell precipitously after the meeting, making two failed late-afternoon efforts to climb back. Contributing to the demise of the morning rally was a frustrating report on new home sales and a reported buildup in petroleum products.

The Dow for today, 06/24/09 - Open: $8,297.36 High: $8,301.60 Low: $8,291.24 Close: $8,299.86. Housing and energy news kicked in by 10:30 a.m., FOMC news by 2:20 p.m.:

Dow Chart

The Nasdaq, S&P 500 and the broad based and comprehensive Wilshire 5000, while behaving similarly, all managed to close in the green.

The Fed was probably wise in not discussing any potential hikes right now. Mortgage rates have started to rise all by themselves, and even though existing home sales have improved for two consecutive months, new home sales have been fairly flat since February. Mortgage rates and new home sales, not to mention foreclosures and credit card defaults, don't need any more of a weight on their shoulders. In any event, the real risk now isn't inflation so much as an economy and a job market that continue to be anemic.

The next FOMC meeting isn't scheduled until Aug. 12, so there will be time for conditions to make a move before investors hear from the central bank once again. There's been some chatter of a likelihood of higher rates later this year, but right now it seems like the Fed is sitting tight until there are real signs of inflation pressures, or that the economy has shown some genuine change. Then they'll react. The risk, of course, is that inflation will start to take off and once it does it's tough to get it back under control. (Read why FOMC meetings are probably obsolete, later in this piece.)

It's not all grim: construction activity has picked up, granted off record lows; consumer spending has stabilized following a scary cutback late last year and layoffs are slowing. Unfortunately, the unemployment rate, now at 9.4%, is expected to climb into next year, easily hitting 10%.

Good news from today's durable goods orders report. New factory orders for durable goods -- hard goods, items expected to last more than three years -- came in unexpectedly strong for May. They increased 1.8% over the previous month, following a similar rebound in April, and well above the market forecast for a 0.5% decline. Excluding the transportation component, new durables orders posted a 1.1% boost after a 0.4% rise in April.

Durable Goods Chart

The rebound was led by machinery, up 7.7%, and transportation, up 3.6%. Also up were primary metals and computers & electronics. Declining were fabricated metals, communication equipment and electrical equipment. Moreover, order for capital goods rebounded, a cheering sign. Nondefense capital goods jumped 10% after a 2.9% drop the month before. Even excluding aircraft, nondefense capital goods orders rose 4.8% after a 2.9% drop in April. The results were largely reflected in the various indexes.

Nasdaq Transportation Index:

Year-over year, it was less chipper but still an improvement. New orders were down 23.3% from April; in 2008 May dropped 24.5%. Without transportation, orders were down 22.4% from the previous month, better than last year's 23.6%. These numbers bolster the argument that the recession's bottom is near, or maybe even upon us. We shouldn't look for a V-turn in the market, though. Bad bears usually take six to eight months, sometimes more, to form a base.

Some retail stocks liked the report. After a droopy month there were gains for Target (TGT), Macy's (M), Nordstrom (JWN), Dillard's (DDS) and Office Depot (ODP). SteinMart (SMRT) jumped $ or % after a flat month; the stock is up a startling 656% since its March low.

SteinMart, Inc.: Some retail stocks liked the FOMC report

As for potential home sales, the Mortgage Bankers' Association reported that the week ending June 19 was a good one for mortgage-purchase applications, which jumped 7% to 280.3. That's still depressed but a solid improvement for the index. It's a leading indicator (meaning it anticipates the market) for single-family home sales. The refinancing index also rose, up 6% to 2,116.3. The applications activity appears connected to a slight decrease in mortgage rates: 30-year fixed mortgages averaged 5.44 percent, down 6 basis points in the week. Home sales data in general have been firming the last couple of months, raising talk that the housing sector has finally hit bottom.

New home prices may be firming but new home sales, measuring newly constructed homes with a committed sale, fell 0.6% in May to an annual rate of 342,000, or 23,000 below expectations. In addition, there were 24,000 in downward revision to the two previous months. Sales actually rose in three of four regions during the month, but not in the South where sales fell 8.5%. New home sales in the South, at 184,000, still make up more than the other regions combined.

The median price rose strongly for a second straight month, up 4.2% in May to $221,600. Giving evidence of some stability, prices are down only 3.4% percent from a year ago. Also mercifully, supply of new homes and existing homes on the market isn't getting worse, now standing at 10.2 and 9.6 month of inventory respectively, both small improvements. Today's report helped cut short the morning rally.

Homebuilder Lennar (LEN) releases second-quarter results tomorrow and closed up 34 cents or 4.5%. Builders today were for the most part flat to down: Pulte (PHM) was down 18 cents or 2% and Centex (CTX) down 21 cents or 2.5%, but DR Horton (DHI) was up 10 cents or 1% on very good volume.

6/24/09 Lennar Corp.: earnings tomorrow.

The Energy Information Administration, who keeps tabs on energy supplies, today told us that crude oil stocks fell 3.9 million barrels in the week ending June 19 week, but it was offset by big builds in products: +3.9 million barrels for gasoline and +2.1 million for distillates, making it a draw. Refinery output, at a rising 87.1% of capacity, is what's giving us the build in product. Rising pump prices, up 10% from a month ago, are only slightly crimping demand, not surprising with summer driving season here. (Last week, within 24 hours of each other, two friends told me about the long driving trips they're planning this summer. And why not.) Demand is down from prior weeks but still up 0.4% year over year. Inventory levels generally help determine prices for petroleum products. The big product buildups, which point to an easing demand for crude, were one reason the morning rally stalled. Crude oil dropped 57 cents to $68.67 a barrel.

As is evident from the chart, crude oil stocks can fluctuate dramatically over the year. (When oil prices nearly reached $50 per barrel in August 2004, financial market players began to monitor crude oil inventories.) It is not surprising to see sharp price hikes in crude oil when inventories are falling. Conversely, one would expect price declines when inventories are rising. But not always.

Crude Oil Inventories Chart

Crude fell slightly ,

While the Amex Oil Index ($XOI), after a two-week slide, squeezed out a 0.20% gain

In earnings, chemical giant Monsanto (MON) dove $79.30 or 3.9% on a 14% slide in its third quarter profit. Its genetically modified crop seeds, with traits that improve yield and guard against pests, have been growing at double digits since 2003, but this quarter, low-cost competition continued to eat into its Roundup herbicide market share. Although beating forecasts, earnings fell year over year to $694 million or $1.25 a share from $811 million or $1.45 a share; sales slipped to $3.16 billion from $3.54 billion, and the company lowered its full-year forecast as well. It also said it would "section off" its low-margin herbicide business to focus on bioengineered crop seeds and announced a cut of 900 jobs, for a roughly-$375 million charge in the fourth quarter. Still, Monsanto has scant competition in modified seeds; it's down over 45% from its high last June.

6/24/09 Monsanto Co.: earnings and forecast down . . .

Drugstore company Rite Aid (RAD) announced this morning that it narrowed its first quarter loss but still expects a bigger deficit for the year on refinancing expenses. The company saw a loss of $98.4 million or 11 cents a share, much better than the loss of $156.6 million or 20 cents in the year-ago period; analysts were looking for a loss of 13 cents. Revenue slipped 1% to $6.53 billion on the closure of 86 stores; the company plans to shutter 117 stores to trim expenses. In good news, total same-store sales (sales in stores open at least a year) actually grew 0.6%, while prescriptions rose 2.2%, which seems to reflect what's happening throughout the sector: consumers appear to be shopping in drugstores only for, well, drugs and necessities, walking past more pricey discretionary items like hair care and cosmetics. Is this a long-term trend? The stock held steady today and at $ is up some 475% from its February low.

Rite Aid Corp.: loss narrowed, prescription sales up .

After the close, payroll and personnel services provider Paychex Inc. (PAYX) reported that fourth-quarter profit and sales declined in what the company called "one of the most challenging years in its history." The company earned $113.8 million or 32 cents per share, down 16% from $135.5 million or 38 cents year over year; revenue slid 4%. Analysts wanted 33 cents per share on sales of $510.5 million. None of which is surprising for a company like this in a recession. For the full year, Paychex earned $533.5 million or $1.48 per share, down 7% from $576.1 million or $1.56 per share, on revenue actually up 1% to $2.08 billion from $2.07 billion.

Thursday brings earnings from Accenture (CAN), ConAgra (CAG) and Micron Technology (MU), among others. Also expect reports on Gross Domestic Product (GDP), jobless claims, Corporate Profits from the Bureau of Economic Analysis, and the Natural Gas Report from the Energy Information Administration. Federal Reserve Chairman Ben Bernanke will give testimony on the acquisition of Merrill Lynch by Bank of America before the Committee on Oversight and Government Reform in the House of Representatives, which ought to be interesting.

And finally: Do we really need the FOMC? A few years ago, the CEO of software company Tibco wrote a paper arguing that the Federal Reserve ought to make its decisions in real time, not once every month or two. Real time processing, he correctly argued, is a much better system than batch processing. In batch, a business waits until the end of the month to collect and count its receipts, resulting in a big gap between sales and the point at which the business actually understands those sales. If a shoe or car or computer isn't selling, it could be months before the business digests that news and acts accordingly. Wall Street used to be the same way: information was scattered across numerous databases. Trader would collect information from here and there, collate it, analyze it, and then make a trade. Now information is consolidated into one stream and traders can collect all their data instantly.

Much of the world now runs in real time, but government runs in batch. Every few months, not every day or hour, the Fed tries to adjust. It attempts to maintain a comfortable, constant temperature in the economy, but if you were to run your thermostat the way the Fed runs the economy, every couple of months you'd be turning the heat either on or off, overheating your house when it got too cold and then underheating it when it got too warm. Why not put the economic data that the Fed uses into a big stream, Tibco's CEO argues, and write a computer program that would sift through those data the minute they’re collected and make immediate, incremental adjustments to interest rates and the money supply.

Why not? Because Ben Bernanke and his team probably wouldn't be thrilled by the idea of an automated Federal Reserve, much preferring a Fed that calls meetings, strokes its chin and "deliberates" every six weeks or so. Of course, it "deliberates" because it's six weeks behind.

Judy Alster


New Plays

Gambling, Technology, and Defense

by James Brown

Click here to email James Brown


NEW BULLISH Plays

Bally Tech. - BYI - close: 28.63 change: +0.63 stop: 27.45

Why We Like It:
Bally Technologies is part of the gambling and gaming industry. The stock has been building a bullish pattern of higher lows while it pushes against resistance in the $29.70-30.00 zone. I'm suggesting readers buy BYI at $30.10. If triggered we want to take some profits at $32.90 and then again at $34.90.

Annotated chart:

Entry on      June xx at $xx.xx <-- see TRIGGER  
Change since picked:     + 0.00   			
Earnings Date          08/19/09 (unconfirmed)    
Average Daily Volume:       859 thousand
Listed on  June 24, 2009    


Western Digital - WDC - close: 25.76 chg: +0.76 stop: 23.95

Why We Like It:
Technology is out performing the rest of the market and this hard-drive maker is poised to breakout over resistance at $26.00. The stock is a big winner for the second quarter and could see window dressing before the end of June. I'm suggesting readers buy WDC at $26.10. Our first target is $29.75.

Annotated chart:

Entry on      June xx at $xx.xx <-- see TRIGGER  
Change since picked:     + 0.00   			
Earnings Date          07/23/09 (unconfirmed)    
Average Daily Volume:       4.6 million 
Listed on  June 24, 2009    


NEW BEARISH Plays

Raytheon - RTN - close: 44.22 change: -0.53 stop: 46.55

Why We Like It:
Defense stocks have been under performing. While RTN has not declined as much as the defense sector indices have the stock could play catch up to its peers if the market slides any lower. Shares of RTN are breaking down under the 50-dma and the bounce today reversed near $45.00. I'm suggesting bearish positions now with a stop loss at $46.55. I do see some support near $42.00 but our first target is $40.25. The P&F chart is very bearish with a $13 target.

Annotated chart:

Entry on      June 24 at $44.22 
Change since picked:     + 0.00   			
Earnings Date          07/23/09 (unconfirmed)    
Average Daily Volume:       3.5 million 
Listed on  June 24, 2009    



In Play Updates and Reviews

The Bounce Fades

by James Brown

Click here to email James Brown


BULLISH Play Updates

A.O.Smith Corp. - AOS - close: 31.39 change: +1.29 stop: 29.75

Right on schedule AOS delivers a bounce and erases yesterday's decline. The stock rallied toward $32.00 before settling with a 4.2% gain. Our first target is $34.95. Our second target is $37.00.

Entry on      June 23 at $30.25 *triggered       
Change since picked:     + 1.14   			
Earnings Date          07/16/09 (unconfirmed)    
Average Daily Volume:       195 thousand
Listed on  June 20, 2009    


Bank of America - BAC - close: 12.35 change: +0.12 stop: 11.85

Financial stocks continued to bounce although BAC lagged the sector indices. The pull back toward $12.00 again looks like another bullish entry point. It is worth noting that BAC could see extra volatility as Congress investigates the Federal Reserve's role and its chairman Ben Bernanke on the BAC acquisition of Merrill Lynch. California representative Darrell Issa is claiming Ben orchestrated a "cover up" and hid material facts about the deal to other regulators. Bernanke appears before congress again tomorrow.

The plan is to sell at least half to 75% of our position at $14.20 but we need to lower this to $14.00 because the 200-dma is falling so quickly. We want to take profits before BAC hits technical resistance at its 200-dma or at its May highs near $15.00. We'll plan on exiting completely at $16.45.

Entry on      June 04 at $12.24 /gap higher entry
                              /listed at $11.87
Change since picked:     + 0.11   			
Earnings Date          07/20/09 (unconfirmed)    
Average Daily Volume:       537 million 
Listed on   May 19, 2009    


Dell Inc. - DELL - close: 13.28 change: +0.30 stop: 11.70

DELL is still looking okay here as investors buy the dip. If shares can breakout over $13.50 it will erase any worry about a bearish double top. Our first target is $14.90.

Entry on      June 09 at $12.55 
Change since picked:     + 0.73   			
Earnings Date          08/27/09 (unconfirmed)    
Average Daily Volume:        29 million 
Listed on  June 06, 2009    


3x Energy Bear ETF- ERY - close: 23.67 change: -0.22 stop: 19.95

The action in the oil sector was mixed and shares of ERY delivered a volatile day. This triple leveraged ETF dipped to $22.36 before bouncing back to its 50-dma near the $24 region. I'm not suggesting new positions at this time. ERY has already hit our first target at $24.00. Our second target to exit completely is $27.50. More aggressive traders may want to aim for the $30.00 region.

This is a VERY volatile triple-leveraged ETF that moves higher as oil stocks move lower. The ERY moves based on the Russell 1000 Energy index. This is a very aggressive trade. I'm suggesting readers trade smaller than normal position sizes.

Entry on      June 16 at $20.10 /gap higher entry
                              /originally listed t $19.68
Change since picked:     + 3.57
                              /1st target hit @ 24.00 (+19.4%)
Earnings Date          00/00/00 
Average Daily Volume:       2.7 million 
Listed on  June 16, 2009    


Joy Global - JOYG - close: 36.28 change: +1.09 stop: 28.70

JOYG delivered a nice bounce today (+3%) but it stalled near its 10-dma and the $38 level. Our plan is to buy JOYG on a dip at $31.00 but more aggressive traders may want to jump in on another dip near $33.00 instead. If triggered our first target is $36.40.

Entry on      June xx at $xx.xx <-- see TRIGGER  
Change since picked:     + 0.00   			
Earnings Date          09/03/09 (unconfirmed)    
Average Daily Volume:       5.3 million 
Listed on  June 23, 2009    


Morgan Stanley - MS - close: 27.65 change: -0.05 stop: 24.40

Again I'm tempted to buy MS right here. The stock tried to rally this morning but slipped to $27.26 this afternoon. The plan is to buy MS on a dip in the $25.50-24.50 zone. If triggered our target is the $29.00-30.00 zone.

Entry on      June xx at $xx.xx <-- see TRIGGER  
Change since picked:     + 0.00   			
Earnings Date          07/22/09 (unconfirmed)    
Average Daily Volume:      29.4 million 
Listed on  June 23, 2009    


Pharma Prod. Dev. - PPDI - close: 22.67 chg: +0.32 stop: 21.75

PPDI is still holding on to its 10-dma and 100-dma but volume remains light. This bounce could be used as a new entry point. Our first target is $25.90 (or its 200-dma). FYI: The Point & Figure chart is bullish with a $31.00 target.

Entry on      June 18 at $23.38 /gap higher entry
                              /originally listed at $23.05
Change since picked:     - 0.64   			
Earnings Date          07/21/09 (unconfirmed)    
Average Daily Volume:       1.5 million 
Listed on  June 18, 2009    


Wellpoint Inc. - WLP - close: 49.36 change: +0.53 stop: 47.25

WLP managed a 1% rebound and looks like it's building steam for another rally past $50.00. I would open positions now. Our first target is $54.00. Our second target is $57.40.

Entry on      June 22 at $49.25 *triggered       
Change since picked:     + 0.11   			
Earnings Date          07/29/09 (unconfirmed)    
Average Daily Volume:       4.4 million 
Listed on  June 20, 2009    


BEARISH Play Updates

DuPont - DD - close: 24.83 change: +0.43 stop: 27.05

DD is still trying to bounce and gained 1.7%. Look for a failed rally near $26.00 as a potential entry point. Our first target $22.25. Our second target is $20.25.

Entry on      June 16 at $25.20 
Change since picked:     - 0.37   			
Earnings Date          07/21/09 (unconfirmed)    
Average Daily Volume:       9.1 million 
Listed on  June 16, 2009    


iShares Mexico - EWW - close: 35.32 change: +0.55 stop: 37.05

The action today looks like the failed rally I suggested readers use as a new entry point. Our target is $30.25. Traders need to be aware of the 100-dma and 200-dma, which might offer some support.

Entry on      June 22 at $34.92 
Change since picked:     + 0.40   			
Earnings Date          00/00/00 
Average Daily Volume:       3.9 million 
Listed on  June 22, 2009    


Gamestop - GME - close: 21.83 change: -0.03 stop: 25.05

GME failed to participate in the market's bounce today. Bears are still in control. I'm not suggesting new positions at this time.

Our second target to take profits is $20.25. Our third target is $18.15.

Entry on      June 02 at $24.32 
Change since picked:     - 2.49
                              /1st target hit @ 22.05 (-9.3%)
Earnings Date          08/20/09 (unconfirmed)    
Average Daily Volume:       6.3 million 
Listed on  June 02, 2009    


Gen-Probe - GPRO - close: 42.81 change: +1.17 stop: 44.05

GPRO is bouncing back toward its bearish trend of lower highs. Wait and watch for the rebound to fail under $44.00 and use it as our next entry point. FYI: The stock did gap higher this morning. We've adjusted our entry point. Our first target is $38.05. Our second target is $35.25. The Point & Figure chart is forecasting a $32.00 target.

Entry on      June 23 at $42.03 /gap higher entry
                             /originally listed at $41.64
Change since picked:     + 0.81   			
Earnings Date          07/30/09 (unconfirmed)    
Average Daily Volume:       449 thousand
Listed on  June 23, 2009    


iShares Materials - MXI - close: 45.86 change: +0.71 stop: 48.55

The MXI is bouncing after an $8.00 correction. Material and commodity stocks were rebounding but it is worth noting that the volume today was pretty light. Wait and watch for a failed rally under $48.00 as a new entry point. Our second target is $41.00.

Entry on      June 16 at $47.55 
Change since picked:     - 2.40
                              /1st target hit 44.00 (-7.4%)
Earnings Date          00/00/00 
Average Daily Volume:       170 thousand
Listed on  June 16, 2009    


Pulte Homes - PHM - close: 8.47 change: -0.18 stop: 9.75

The new home sales figures were a disappointment. PHM slipped toward the bottom of its trading range. I'm not suggesting new positions at this time.

Our target to exit is $7.25. More conservative traders may want to exit at $7.80 instead.

Entry on       May 20 at $ 9.38 /gap down entry
                              /originally listed at $9.52
Change since picked:     - 0.91   			
Earnings Date          07/23/09 (unconfirmed)    
Average Daily Volume:        11 million 
Listed on   May 20, 2009    


Homebuilders ETF - XHB - close: 11.33 change: +0.06 stop: 12.55

The XHB managed a little oversold bounce but it stalled near its 10-dma. I'm not suggesting new positions at this time.

Our target is $10.10. I am tempted to set a longer-term target in the $9.00-8.00 region.

Entry on       May 23 at $11.96 
Change since picked:     - 0.63   			
Earnings Date          00/00/00
Average Daily Volume:        10 million 
Listed on   May 23, 2009