Option Investor
Newsletter

Daily Newsletter, Tuesday, 9/7/2010

Table of Contents

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

Market Wrap

Labor Day Hangover

by James Brown

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Market Stats

Stocks faced a Labor Day weekend hangover as the major U.S. averages lost just over 1%. Investors were yet again facing concerns over the strength of Europe's banking system and renewed worries over a potential default. Strikes in France and London only intensified the focus on Europe. The U.S. dollar strengthened against the euro and money rushed back into the U.S. bond market after last week's sell-off. The yield on the 10-year note dropped to 2.6%. Gold gapped open higher and closed near all-time highs at $1,259 an ounce. Crude oil slipped -0.6% to $74 a barrel. It was a bullish day for some of the agriculture commodities with coffee futures up +2.8%, oats +2.7%, and sugar up +4.1%.

Asian markets were mixed. Investors were reacting to news that both the Bank of Japan (BoJ) and the Central bank of Australia both decided to leave rates unchanged (versus raising them) due to fears of a second half slow down. Both countries pointed to weakness in the U.S. as a concern. Australia was also causing a stir after Prime Minister Julia Gillard was re-elected for a second term and promised to raise taxes on companies with mining operations in Australia. Mining stocks naturally turned lower on the news.

Politics were also fueling uncertainty in Japan as the markets wait for the Democratic Party's leadership election on September 14th. The Japanese NIKKEI index snapped a four-day winning streak with a -0.8% decline. The Hong Kong Hang Seng index gained +0.22% while the Chinese Shanghai index closed virtually unchanged at +0.08%.

Profit taking was worse in Europe. Germany reported that factory orders declined -2.2% in July from an upwardly revised +3.6% gain in June. Economists were expecting a +0.5% rise. While this is the biggest one-month drop in over a year keep in mind that Germany just had its best quarterly growth in 20 years. Orders were still up +18% compared to a year ago. The German DAX index closed down -0.6%.

Millions of workers went on strike in France today protesting various austerity measures and a government proposal to raise the retirement age from 60 to 62. France's Interior Ministry put the number of demonstrators at 1.1 million while the CFDT union said it was closer to 2.5 million. French leaders argued that it could be worse with several neighboring countries thinking about raising the retirement age to 67 or 68 years old. Meanwhile in London most of the subway system was shutdown as workers launched a 24-hour strike over job cuts. It was a busy day for the bus system. Unfortunately for Europe there are more strikes to come. This Wednesday there will be a strike by transportation workers in Greece. On September 21st there is a protest planned in the Czech Republic over a 10% pay cut for government employees. On September 29th Spain is expecting another labor strike. In spite of the strikes the biggest story on Wall Street was concern over the European banks but more on that in a moment. At the end of the day the English FTSE lost -0.58%. The French CAC-40 fell -1.1%, both ending a multi-day winning streak.

The big story today was concern for the European banking system as word surfaced that the highly questionable stress tests over the summer masked how much risk the banks actually had to toxic sovereign debt. You may recall that the European stress tests this past summer were big on hype and low on details. They were widely panned as being too lenient. Of the 90 banks reviewed only 7 of them failed the test.

Now it seems the largest banks may need to raise another 134 billion euros worth of capital to cover potential losses from their risky sovereign assets (mostly Greek, Portuguese, and Spanish bonds). Over the summer there was rising concern as European banks were unwilling to lend to each other. If the banks don't trust each other why should investors? Investors are once again voting with their money. The yield on a 10-year Greek bond has surged to more than 11.2%, which is a clear indication that investors are demanding more reward for the substantial risk that Greece may eventually default. Yields on Greek bonds haven't been this high since just before the EU and IMF agreed on a bailout for Greece.

Doubts are also rising for Ireland with yields on Irish bonds surging. The spread between Irish bonds and German bonds has hit 20-year highs. There is growing concern that a single default by one country (whether that's Greece, Portugal, Spain, Ireland, or Italy) will create a domino effect that will wipe out the banks and spark additional sovereign defaults. Unfortunately the IMF claims European banks continue to look weaker than their U.S. rivals since Europe's banks have only written down about 3% of their troubled assets versus 7% for U.S. banks.

Back at home in the U.S. the markets were digesting President Obama's Labor Day speech at a rally in Milwaukee. Obama is proposing a $50 billion, six-year plan to overhaul the U.S. transportation system. Eventually the overhaul would cost more than $50 billion but it would rebuild 150,000 miles of roadway, build or repair 4,000 miles of railroad, build or renew 150 miles of airport runways and provide better air-traffic control systems. The plan also wants to develop a high-speed train system. The President claims this new transportation plan will create jobs and will not increase our deficit but he failed to outline how many jobs it would create or how we could pay for it.

The initial reaction to the six-year overhaul seemed doubtful that Obama could get this plan passed through Congress. However, Wall Street was naturally more optimistic about his proposed tax cuts. The President will speak tomorrow in Cleveland where he will outline new rules that enhance a business' ability to depreciate equipment. Obama is also set to propose a permanent extension to the research tax credit.

The most sensational headline today was news that technology giant Hewlett-Packard (HPQ) is filing a lawsuit against its previous president Mark Hurd. A few weeks ago Hurd resigned from HPQ over sexual harassment accusations. Yesterday Oracle (ORCL) announced it was hiring Mark Hurd as president of the company to report only to Larry Ellison and the Board of Directors. HPQ immediately filed a lawsuit to prevent Hurd from accepting this job. Hewlett claims that as the previous president of HPQ and as the new president of ORCL it would be impossible for Hurd to not "utilize" or "disclose" sensitive trade secrets he knows from working at HPQ. Thanks to Hurd's leadership HPQ has grown from a major hardware producer to include data-center technology and other enterprise solutions - two areas that bring it head to head with ORCL. Shares of HPQ were down -1% while shares of ORCL rallied +5.8%.

After hours shares of ZymoGenetics (ZGEN) almost doubled with a rally to $9.80 a share on news that BristolMeyers Squibb Co (BMY) was buying the company for $9.75 a share (about $885 million). Shares of BMY are not moving on the news but look poised to breakout over resistance near $26.75. In other news Altera (ALTR) is showing some after hours strength after the company raised its third-quarter revenue guidance from +4%-8% to +10%-14%. Shirt-maker Phillips-Van Heusen (PVH) reported better than expected earnings after the closing bell. Wall Street was looking for a profit of 54 cents. PVH delivered 72 cents a share on revenues of $1.1 billion. PVH also raised their EPS guidance to $3.70-3.80 for 2011 versus consensus estimates of $3.62. The stock is not seeing much of a move in after hours.

Technically the market was looking a little short-term overbought with a rally from 1040 to 1105 (+6.2%) in the S&P 500 in the previous four days. Giving back a -1.1% decline isn't that bad but it does look like the S&P 500 is failing at its simple 100-dma. If you're market outlook is bullish then watch for support near 1080. Not only is the 1080 level previous support and resistance but it is also a 38.2% Fibonacci retracement of the S&P 500's early September rally. If the 1080 level fails then look for support near 1065.

Intraday Chart of the S&P 500 index:

Daily Chart of the S&P 500 index:

The NASDAQ's rally has failed near the bottom of its early August gap down. The 2200 level should offer some short-term support and if that fails then the 2150 and 2100 levels. Technicals on the NASDAQ are mixed. I would keep an eye on the SOX semiconductor index as a leading indicator. The SOX has been trying to find a bottom the last couple of weeks but it looks like the oversold bounce is failing near prior support (now new resistance).

Chart of the NASDAQ index:

Chart of the SOX semiconductor index:

The small cap Russell 2000 index, which saw a rally from 590 to 643 (+8.9%) was one of the worst performers with a -2.1% decline on Tuesday. A traditional pull back toward the 38.2% Fibonacci retracement would suggest a dip to 622 while a 50% correction would bring the $RUT back to 616. Personally, since the $RUT tends to be more volatile than the rest, I would look for a pull back toward 616 or 610.

Chart of the Russell 2000 index:

Tomorrow afternoon the market could move on the Federal Reserve's Beige Book report. The report is only published eight times a year and provides anecdotal evidence of business activity for each Fed district. The last report said economic activity has continued to increase but gains were "modest". Here's a link to the last report from July 28th, 2010.
Most Recent Fed Beige Book Report

Markets will also be focused on Thursday's weekly initial jobless claims. Economists are expecting 470,000 new claims compared to 472,000 the prior week.

Overall it looks like stocks were due for a little pull back after last week's impressive bounce. The question is will traders buy the next dip? After a frustrating summer the better question might be, are fund managers in a mood to buy stocks or clear their books (sell) and wait for the next entry point? This will depend on economic data and the elections. If economic data improves and the threat of a double-dip recession recedes then stocks will likely climb. If economic data disappoints then investors will struggle for a reason to buy. Yes, it's true that on a valuation basis the S&P 500 is cheap at 12 times earnings but that doesn't mean it can't get cheaper. Given the trend of analysts lower their second half 2010 and full year 2011 estimates I think odds are pretty good we might see another decline ahead of the November elections. Then again stocks might be range bounce until the mid-term elections. The stock market hates uncertainty and until the votes are counted there will be an incentive to sit on the sidelines. After the elections, assuming economic data isn't unraveling, the market should have a bullish bias.

-James


New Plays

Long Candidate

by Scott Hawes

Click here to email Scott Hawes


NEW BULLISH Plays

Power-One, Inc - PWER - close 10.75 change -0.40 stop 9.72

Company Description:
Power-One, Inc. (Power-One) is a designer and manufacturer of energy-efficient power conversion and power management solutions for renewable/alternative energy, routers, data storage, servers and data centers, wireless communications, optical networking, semiconductor test equipment, industrial markets and custom applications. Its products convert, process and manage electrical energy, in both alternating current (AC) and direct current (DC) form. In the renewable energy market, it sells a range of products of high-efficiency inverters. The Company designs, sells and services its products globally and has resources in Europe, North America and the Asia-Pacific region.

Target(s): 12.50, 11.60
Key Support/Resistance Areas: 13.00, 11.75, 50-day, 9.50
Time Frame: 1 to 3 weeks

Why We Like It:
Take a look at the grey volume bars on the chart below. It is clear PWER is being accumulated with institutional money as the price has risen over the past 18 months. I like PWER's business and believe this stock will continue to get bought if the market cooperates. I suggest readers use a trigger of $10.55 to enter long positions and target a move back towards the stock's recent high. This is above the stock's upward trend line and the 50-day SMA. Our initial stop will be below both of these at $9.68.

Suggested Position: Long PWER stock if it trades to $10.55

Options Traders: Buy October $11 CALL, current ask $0.95

Annotated daily chart:

Entry on September XX
Earnings 10/21/10 (unconfirmed)
Average Daily Volume: 5.3 million
Listed on September 7, 2010


In Play Updates and Reviews

Stocks Retrace

by Scott Hawes

Click here to email Scott Hawes
Current Portfolio:


BULLISH Play Updates

The Andersons, Inc - ANDE - close 36.99 change -0.52 stop 34.45

Target(s): 38.95, 39.90, 41.50
Key Support/Resistance Areas: 41.50, 40.50, 39.20, 38.00, 35.50
Current Gain/Loss: -0.08%
Time Frame: 1 to 3 weeks
New Positions: Yes

Comments:
9/7: ANDE keeps getting smacked down at $37.50. If it breaks out our targets could be reached quickly and I suggest using any breakout to take profits or tighten stops to protect them.

9/4: My comments below remain the same. I'm looking for ANDE to breakout higher but there could be some weakness early this week but I do not expect too much.

9/1: ANDE remains in a high tight bull flag. If the broader market strength continues the stock should break higher and head towards our targets. All of my comments below remain the same.

Current Position: Long ANDE stock, entry was at $37.02

Options Traders: Buy December $40.00 Calls, current ask $2.10

Entry on August 19, 2010
Earnings 10/28/2010 (unconfirmed)
Average Daily Volume: 180,000
Listed on August 18, 2010


Brocade Communications - BRCD - close 5.91 change +0.30 stop 4.95

Target(s): 5.95, 6.20, 6.50
Key Support/Resistance Areas: 6.60, 6.20, 6.00, 5.75, 5.40, 5.00
Time Frame: 1 to 3 weeks

Comments:
9/7: BRCD came with 4 cents of reaching our trigger to enter long positions. The stock turned on a dime and closed +7% off of its lows. I suggest we look for a retracement to $5.75 and use it as our trigger to enter long positions. This is a 50% retracement of today's +5% gains.

9/4: Data center networking and storage is the hot technology sector as of late with M&A activity continuing to gain energy. Companies like Dell, HPQ, and MSFT have cash and want to expand their services. Companies like BRCD are good takeover targets. BRCD has been pummeled since its highs near $10 in late 2009 and now trades at a discounted PE when compared to many of its peers. Technically, the stock has broken through and closed above two primary downtrend trend lines. I suggest readers initiate long positions on any weakness in the stock early this week. Our official trigger will be $5.46 which is also near its recent upward trend line and a prior resistance level. There has also been a huge amount of call buying in the September and October strikes over the past few days. Our stop is $4.95. NOTE: This is a cheap stock so expect volatility. We are looking for a 50 cent to 1 dollar move higher.

Suggested Position: Long BRCD stock if it trades to $5.75

Options Traders: Buy October $6 CALL, current ask $0.23

Entry on September XX
Earnings 11/23/10 (unconfirmed)
Average Daily Volume: 12.7 million
Listed on September 4, 2010


Coeur d'Alene Mines - CDE - close 17.91 change +0.23 stop 15.90

Target(s): 18.95, 19.95
Key Support/Resistance Areas: 20.00, 19.00, 17.80, 16.70
Current Gain/Loss: +0.06%
Time Frame: 1 to 3 weeks
New Positions: Yes

Comments:
9/7: CDE broke out today so we are long the stock at $17.90. I expect any pullbacks in the stock to be bought and with broader market strength the stock could trade up towards our targets relatively quick.

9/4: We missed our lower trigger to enter long positions in CDE by 17 cents. CDE proceeded to close +4% off of its lows on Friday. The chart looks strong and the story is solid with silver breaking out to new 52-week highs and approaching new all-time highs. Let's move up the lower trigger to $17.10. We may get a pullback early this week to take advantage of it. The breakout trigger at $17.90 also remains.

9/2: Demand for industrial metals such as silver is increasing and prices are rising. CDE has broken out of a longer term downtrend line from its October highs and price is now consolidating above it. The stock is forming a bull flag and is above all of its moving averages. I suggest we buy CDE on a breakout if it trades to $17.90 or on pullback to $16.90 which is just above the stock's 200-day SMA. Our initial stop will be $15.90 but it will be adjusted once we are in the position.

Suggested Position: Long CDE stock if it trades to $17.90 or $17.10

Options Traders: Buy October $18 CALL, current ask $1.25

Entry on September 7, 2010
Earnings 11/4/10 (unconfirmed)
Average Daily Volume: 2.0 million
Listed on September 1, 2010


Dr. Pepper Snapple Group - DPS - close 38.19 change -0.11 stop 35.93

Target(s): 38.85, 39.95
Key Support/Resistance Areas: 40.00, 38.90, 37.25, 36.25
Time Frame: 1 to 2 weeks

Comments:
9/7: DPS came with 3 cents of our trigger to enter long positions before reversing. I've raised the trigger to $37.90 and am looking for a move up towards it its 52-week highs.

9/4: We missed our trigger to enter long positions by 7 cents on Thursday. DPS has proceeded to gain almost $1 since that low. I expect some weakness early this week which should give us another opportunity to enter long positions. In a strong market DPS should easily retest its 52-week highs. Let's move the trigger up to $37.85 which is Friday's low and just above the 50-day SMA.

9/1: DPS has been a relative strong performer throughout the recent market sell-offs and has also been the subject of takeover chatter in recent months. Technically, the stock has formed rounded bottom over the past month which signals a shift from sellers to buyers. The stock is on the verge of breaking out higher and I suggest readers initiate long positions in the stock on any weakness using $37.30 as a trigger. Our targets are +4% and +7% higher. Our stop is below the recent swing low at $35.93.

Suggested Position: Long DPS stock if it trades to $37.90

Entry on September XX
Earnings 11/4/10 (unconfirmed)
Average Daily Volume: 2.6 million
Listed on August 31, 2010


Rackspace Hosting, Inc - RAX - close 20.07 change -0.72 stop 17.95

Target(s): 20.75(hit), 21.30, 23.00
Key Support/Resistance Areas: 23.50, 21.40, 20.00, 19.50, 19.00, 18.00
Current Gain/Loss: +2.14%
Time Frame: 3 to 5 weeks
New Positions: Yes

Comments:
9/7: RAX drifted lower all day and broke an intraday trend line. However, RAX closed above the pivotal $20.00 support level and also has all of its major moving averages below. New positions can be considered now, especially on any further weakness. The next level of support below $20.00 is near $19.50.

9/4: RAX consolidated gains today and finished relatively flat after selling off early in the session. New positions can be considered on pullbacks. I've added a $21.95 target and I think this will get hit later this week after a possible dip early.

9/2: This marks the second time our first target has been hit. My comments from remain the same. Also, if tomorrow's employment report is bad readers should consider closing positions.

Current Position: Long RAX stock, entry was at $19.65

Options Traders: Long December $21.00 CALL

Entry on August 25, 2010
Earnings 11/9/2010 (unconfirmed)
Average Daily Volume: 1.75 million
Listed on August 25, 2010


Ultrashort MSCI Europe - EPV - close 19.53 change +0.77 stop 17.78

Target(s): 19.40 (hit), 19.75, 20.20
Key Support/Resistance Areas: 18.00, 19.40, 20.25, 20.60
Current Gain/Loss: +3.33%
Time Frame: 1 week
New Positions: Aggressive traders only

Comments:
NOTE: This is an double inverse ETF and a bearish play on European equities. Expect volatility and use small position size to manage risk.

9/7: EPV gained +4% today due to the weakness in European equities. Our first target has been hit. I've adjusted the next two targets and suggest readers take profits or tighten stops as they approach.

9/4: We got the pullback in EPV and are playing for bounce in the ETF which means European equities need to pullback. I've listed three immediate targets above which are areas readers should use to take profits or tighten stops to protect them. These levels could come fast so be ready or simply place GTC orders to take profits. Our most aggressive target is near the 20-day SMA.

Current Position: Long EPV stock, entry was at $18.90

Entry on September, 3, 2010
Earnings N/A
Average Daily Volume: 259,000
Listed on August 31, 2010


BEARISH Play Updates

Automatic Data Processing - ADP - close: 39.68 change: -0.40 stop: 40.16 *NEW*

Target(s): 39.75 (hit), 39.45, 39.20, 38.85 (hit)
Key Support/Resistance Areas: 41.00, 39.00, 37.30
Current Gain/Loss: -2.40%
Time Frame: Several weeks
New Positions: No

Comments:
9/7: ADP lost -1% today and closed just above its 20-day SMA. Our immediate target has been hit. I do not think this weakness will last too long so I have tightened the stop to just above today's highs. My comments from below remain valid. We've got 3 tight near term targets and I suggest being ready to close positions or tighten stops as they approach.

9/4: ADP opened at its highs and sold off the remainder the day on Friday. Buyers stepped in late but and the stock gained less than 1% while the broader indexes performed much better. Nonetheless, we need to look for an exit in this trade as I have been advocating the past several days (see below). $38.85 was probably the right exit on 8/31 but we need to adjust now. I've listed 3 tight near term targets. I suggest being ready to close positions or tighten stops as they approach.

9/1: ADP double topped with the high on 8/23 before pulling back. My comments from below remain valid in regard to exercising caution with this trade. Our stop is above the 20-day and 50-day SMA so we need this bounce to be short lived if our targets are going to be met.

8/31: ADP is moving slow and I am concerned of a broader market bounce in equities. We have a small gain in this trade and I suggest readers use caution. I've added a target of $38.05 and have lowered the stop to $40.75.

Current Positions: Short ADP stock, entry was at $38.75

Option Traders: Long November $37.00 puts

Entry on August 24, 2010
Earnings Date 10/28/10 (unconfirmed)
Average Daily Volume: 3.2 million
Listed on August 19, 2010