Option Investor
Newsletter

Daily Newsletter, Monday, 10/4/2010

Table of Contents

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

Market Wrap

Dow Downgrades Lead To Gloomy Monday

by Todd Shriber

Click here to email Todd Shriber
The first full trading week of October, another month not known for being kind to the bulls, got off to a sluggish start as a couple of downgrades for some Dow stocks and negative earnings revisions led to a weak-volume sell-off that sent the S&P 500 lower by 0.8%. The Dow Jones Industrial Average was hardly better, absorbing a loss of 0.72% and the Nasdaq really took it on the chin, slipping by 1.11%.

Stats Table

Monday brought another day of so-so economic data. For those wearing rose-colored glasses, the data was certainly less bad, but it certainly did not motivate buyers to do much buying. Capital good orders, excluding planes, jumped 5.1% in September, well above the expected rise of 4.1%, good for the biggest monthly gain since March, according to the Commerce Department.

Factory orders may have contributed to the sell-off in stocks. New orders for manufactured goods fell $2.2 billion, or 0.5%, to $480.9 billion in August, the Census Bureau reported. That is good for the third decline in the past four months. Shipments dropped $2.5 billion, or 0.6%, to $415.1 billion in August, also the third drop in the past four months.

The National Association of Realtors (NAR) chimed in with August Pending Home Sales Data, telling us that the number was up 4.3% on a seasonally adjusted basis in August. Sounds good, right? Not so fast. That reading is still 20.1% below the level seen in August 2009. On a non-seasonally adjusted basis, pending home sales were up 6.4% in August, but still 18.4% below where they were in August 2009.

The NAR said that while ''attractive'' pricing and record low mortgage interest rates are helping bring some buyers back into the market, ''the pace of a home sales recovery still depends on job creation and the accompanying rise in job creation.'' I seriously doubt that qualifies as surprising information.

Home Sales Chart

It was an ideal day for the dollar to rise and that is exactly what the greenback did, fueled by lingering sovereign debt concerns in the Eurozone. If you think the economic data here in the U.S. is glum, try 4 million unemployed in Spain, a country with a population of less than 46 million. The Bank of Ireland added to the pain by paring its growth forecast for Ireland. Gold and oil took breathers on Monday and that helped the dollar cacth a bid, as did speculation about what the Bank of Japan will do at its upcoming meeting to weaken the yen.

Dollar Index Chart

All of those factors contributed to a tough day for stocks, but the big problem was analysts paring their ratings on individual stocks along with earnings estimates on the S&P 500. Analysts are cutting forecasts for S&P 500 companies for the first time in a more than a year, which would jeopardize the impressive gains notched by equities last month, Bloomberg News reported.

Estimates for the combined 2011 profits of S&P 500 constituents fell to as low as $95.17 a share from an August peak of $96.16, representing the first quarterly reduction since June 2009, according to Bloomberg data. That was enough to send all 10 industry groups in the S&P 500 lower on the day.

Earnings season gets rolling in earnest on Thursday when aluminum giant and Dow component Alcoa (AA) delivers third-quarter results and in what has become some kind of sport, a Wall Street firm lowered its rating on Alco just days before the earnings report. Seriously, this seems to happen almost every quarter.

Today it was Deutsche Bank adding shares of the biggest U.S. aluminum maker to the bank's short-term sell list. That sent Alcoa shares lower by 2.5% and helped materials producers to a loss of 1.4% as a group, making them the worst performers in the S&P 500.

Speaking of Dow components that were hit by a downgrade, Microsoft (MSFT) tumbled almost 2% after Goldman Sachs pared its rating on the software maker to ''neutral'' from ''buy,'' citing Mr. Softy's inability to claim noteworthy market share in the mobile device market. The Goldman report also noted that PCs are not being replaced at a rapid pace and tablet devices using software not made by Microsoft present another problem for the company.

Microsoft Chart

Staying in the tech sector, there was an interesting rumor floating around today involving AOL (AOL) and Yahoo (YHOO). The Silicon Alley Insider reported, citing what it deemed an unidentified ''plugged -in source'' that private equity firms have approached AOL CEO Tim Armstrong about leading a combined AOL/Yahoo which said PE firms would take private.

File this under ''two Internet has beens don't make a right'' because investors did not seemed to be impressed by this news. You might think that at least one of AOL or Yahoo would have closed higher on this news and that was the case. Yahoo gained a whole penny while AOL slipped by 3.2%. Somewhere in the valley Google (GOOG) is laughing and probably hoping that AOL and Yahoo find their way to the altar because the bottom line is that combined these two companies are doubtful to be anymore of a problem for a Google than they are on their own.

AOL Chart

Keeping with the private equity theme, there is the curious case of Sara Lee (SLE). I am not going to make any puns related to the old Sara Lee ad campaigns that said ''Nobody doesn't like Sara Lee,'' which by the way is a double negative, but is clear that Sara Lee is well-liked in the private equity world.

Sara Lee has been shedding non-essential businesses to perhaps make it more attractive to potential suitors surged 7.2% today on volume that was more than quadruple the daily average after the New York Post reported that Sara Lee rebuffed a $12 billion takeover from private equity giant KKR. The Post also said Anglo-Dutch consumer products firm Unilever (UN) could be interested in Sara Lee as well. Remember, Unilever is looking to bolster its presence in North America as highlighted by last week's announcement that it will acquire Alberto Culver (ACV) for $3.7 billion.

Adding to the intrigue is a Bloomberg report that says Sara Lee held talks with private equity firm Apollo Global Management. What is odd about all this is that Sara Lee did not disclose these talks sooner, something that I would find perturbing if I was long the stock. I will give Sara Lee this much: In the past year, it has sharply outperformed other food-related stocks like Unilever, PepsiCo (PEP), General Mills (GIS), Kellogg (K) and Smucker (SJM).

On the other hand, take the holding period out to two years, and Sara Lee shares are flat. Take the holding period out to five years and Sara Lee is down more than 20% while the rest of the aforementioned rivals are up at least 20%. The point being is that consumer staples like these are often held by investors for lengthy periods of time and I find it odd that Sara Lee did not brag a little more about the interest it is receiving from potential suitors. I am sure Sara Lee shareholders would have appreciated it.

Sara Lee Chart

In after-hours news, Mosaic (MOS), the second-largest North American fertilizer maker, said its fiscal first-quarter profit nearly tripled to $297.7 million, or 67 cents a share, from $100.6 million, or 23 cents a share, a year earlier. Revenue jumped 50% to $2.19 billion. Analysts were expecting a profit of 70 cents a share on sales of $1.97 billion.

Mosaic said phosphate prices rose in the quarter, but potash prices slumped. The company said it is seeing strong demand for crop nutrients, ''creating a positive outlook for Mosaic.'' Mosaic said it sold 3.1 million tons of phosphate and 1.7 million tons of potash during the quarter. Investors do not appear to be impressed as the stock is down almost 1.4% in the after-hours session.

Mosaic Chart

Looking at the charts, the S&P 500 could not even muster a run at 1150 today and is now hovering just above near-term support at 1135. The more important support level is 1120. There are a couple of big names reporting earnings this week, Marriott (MAR), Monsanto (MON) and PepsicCo (PEP) to name a few, that could help the S&P 500 regroup for another run at 1150. A close above that important level puts the bulls firmly in charge.

S&P 500 Chart

The situation is similar with the Dow as today's sell-off has the index flirting with near-term support at 10,750, but the more important number is 10,550. Alcoa's earnings report and its ensuing impact on the Dow is always overrated because this is the lowest-priced stock in a price-weighted index, so I do not expect that stock to lift the index, regardless of how good the numbers are.

The Dow could get a small pop tomorrow on news that Chevron (CVX) will start repurchasing $500 million to $1 billion of its own stock in the current quarter in what will be an ongoing buyback plan. Resistance for the Dow is still 10,875.

Dow Chart

The Nasdaq showed signs of slowing last week, failing at 2400 and the sellers took the index below initial support at 2350 today. Now 2325 becomes a concern, but perhaps the bigger issue is the fact that the Nasaq-100 has violated support at 1985, closing just over 1975 today. I would be careful with tech here.

Nasdaq Chart

What a tease the Russell 2000. The small-cap index pushed above resistance at 675 on Friday to close near 680, but gave up all those gains on Monday to drop below 670. So we are back to 675-680 as resistance and 650 as support.

Russell 2000 Chart

In summary, I am concerned that the Nasdaq failed at 2400 and the S&P 500 has consistently had problems at 1150. Economic data remains tepid and now analysts are taking down 2011 earnings estimates. Yes, there are some noteworthy earnings reports this week, but I think we are in for some sluggish, sideways trading heading into Friday's jobs numbers. Obviously, I am not going out on a limb when I say that will be the most important data point, earnings or otherwise, the market deals with this week.


New Plays

Industrial Technology

by Scott Hawes

Click here to email Scott Hawes


NEW BULLISH Plays

Itron, Inc - ITRI - close 59.83 change -0.17 stop 34.40

Target(s): 63.75, 65.00
Key Support/Resistance Areas: 42.00, 40.75, 39.50, 37.38, 34.70
Time Frame: 1 to 3 weeks

Company Description:
Itron, Inc. (Itron) provides a portfolio of products and services to utilities for the energy and water markets worldwide. The Company, along with its subsidiaries, is a provider of metering, data collection, and utility software solutions. It has two segments: Itron North America and Itron International. Itron offers meters and data collection and communication systems for electric, gas, and water utilities. Collection and communication systems include advanced metering infrastructures/automated meter reading (AMI/AMR) systems and a range of utility software and services.

Why We Like it:
We are adding a long candidate engaged in the smart grid technology industry. This will also provide more balance in our portfolio as we currently have a firm short bias. ITRI has broken a downtrend line from its April highs and looks poised to make a run higher. The stock is consolidating above its 50-day and rising 20-day SMA's which should also provide support. ITRI has solid support near $59.00 so let's use a trigger of $59.35 to enter long positions. More nimble traders may want to consider a deeper pullback to the $58.00 area but I'm not convinced the stock will trade there prior to moving higher. If triggered our profit targets are +7% and +9.5% higher.

Suggested Position: Long ITRI stock if it trades up to $59.35

Options Traders: Buy November $60.00 CALL, current ask $1.60

Annotated chart:

Entry on October XX
Earnings 10/28/2010 (unconfirmed)
Average Daily Volume: 412,000
Listed on October 4, 2010


In Play Updates and Reviews

Stopped Out of Nat Gas Play

by Scott Hawes

Click here to email Scott Hawes

Editor's Note:
Good evening. We were stopped out of CLNE today for a disappointing loss as important support was broken. I continue to favor a healthy correction in the market but it could come fast so be prepared to take profits or tighten stops on bearish positions.

Current Portfolio:


BULLISH Play Updates

CLNE - The stock broke support and we were stopped out. The closed play is listed below.

LOGI - We are waiting to be triggered at $16.60 to enter long positions. Please refer to Saturday's play release for details.

NE - We are likely going to get stopped out of NE at $32.85 if there is any weakness in the oil services sector tomorrow. I suggest readers use caution. Honor stops or use bounces as opportunities to exit positions. I've added 33.95 and 34.70 as immediate targets to consider exiting positions.

VXX - VXX is moving in our direction as the market sold off today. I suggest picking your exit and sticking with it. My primary targets are $18.45 and $19.25. If a market correction gains momentum VXX may surge higher than these targets but tightening stops and protecting profits at these levels is suggested.


BEARISH Play Updates

FLIR - The stock got hit hard today closing down -2.64%. I suggest we lower the trigger to enter short positions to $26.20 which should act as a brick wall. If we are patient the trade should pay off.

QQQQ - We are short the Q's as of today's open at $48.86. Our immediate target is $47.25.

SF - SF remains weak and hit our second target of $45.05 today. If the broader market heads lower SF should trade to our final target of $44.05 fairly quick.

XLF - XLF has been stubbornly clinging to its 50-day SMA. We are playing for a quick correction with $13.85 and $13.55 the primary targets.


CLOSED BULLISH PLAYS

Clean Energy Fuels - CLNE - close 13.26 change -0.52 stop 13.90

Target(s): 16.15, 16.80
Key Support/Resistance Areas: 17.00, 16.20, 14.80
Final Gain/Loss: -8.25%
Time Frame: 1 to 3 weeks
New positions: Closed

Comments:
10/4: CLNE broke through support and hit our stop today so we are flat the positions for a disappointing loss. There was no news I could find as to why the stock sold off. There were most likely stop orders below $14 which created a wave selling pressure. It looks like there could be more selling ahead into the $11.50 to $12.50 area.

Closed Position: Long CLNE stock at $13.90, entry was at $15.15

Annotated chart:

Entry on September 23, 2010
Earnings 11/9/2010 (unconfirmed)
Average Daily Volume: 973,000
Listed on September 13, 2010