Option Investor
Newsletter

Daily Newsletter, Monday, 5/23/2011

Table of Contents

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

Market Wrap

Good Grief, Now Italy?

by Todd Shriber

Click here to email Todd Shriber
The “I” PIGS, that being Italy, took its turn in the European sovereign debt crisis spotlight today, roiling global equity markets after Standard & Poor's pared its credit rating outlook on the country to “negative from “stable.”


To its credit and despite anemic growth (first-quarter GDP increased just 0.1%), Italy has been able to, at the very least, appear a bit stronger than its PIGS brethren. That said, there are obviously dour consequences to seeing a credit rating downgrade come Italy's way. I have not been shy about my wonderment and dismay that the likes of Portugal and Greece could have such a negative impact on global equity markets.

With regards to Italy, it is not a surprise markets would react poorly to the S&P news. After all, this was the tenth-largest economy in the world last year, according to IMF data. That puts Italy well-ahead of Greece and Portugal and three spots above Spain. While S&P did affirm Italy's A+ rating, the fifth-highest investment-grade rating, over the weekend, the move to “negative” from “stable” on the credit rating outlook means there is a one-in-three chance the country's credit rating is lowered at some point over the next two years.

Oddly enough, open interest in both puts and calls on the iShares MSCI Italy Index Fund (EWI) remains almost non-existent. No strike on either side has open interest of more than 72 contracts, but a look at the chart shows EWI is not the prettiest of ETFs out there right now. With oil plunging and Eni SpA (E) accounting for nearly 19% of EWI's weight, messing with this ETF could be quiet dangerous in the near-term.

Italy ETF Chart

Speaking of oil, as if the news out of Europe was not bad enough (it was), China's purchasing manager's index slid to 51.1 in May from 51.8 last month, compounding concerns that the world's fastest-growing major economy is not expanding fast enough to satisfy investors. Weak Chinese growth and the European debt crisis serve as a double-whammy for risky assets. Stuff like oil and stocks get whacked on days like today and that is just what happened with crude. Still, $95 appears to be holding as support, though a fall beneath that level could encourage fresh selling pressure. For more news and commentary on the energy sector, register for a free trial of the OilSlick daily newsletter (HERE).

Oil Chart

In stock-specific news, LinkedIn (LNKD) spent its last day as a stock that cannot be shorted trading in a range of almost $6 before finishing lower by 5.15% at $88.30. Short-selling restrictions on the stock are lifted tomorrow, but I do not expect LinkedIn to fall because of this. The float is only 9 million shares, so assuming the shares can even be found to borrow, they will most likely be home to some nasty hard-to-borrow fees.

This stock does not need anyone shorting it for it to fall. In just a few days, Linked has gone from a flirtation with $123 to around $88. Reasons are abound as to why this stock could fall even more and none of them involve short sellers. It is a terrible market environment for a company with such a lofty valuation to come public in. A market cap of $8 billion coming into today for a company with a 2010 profit of $15 million conjures up images of Silicon Valley circa 1999-2000. Traders may be using LinkedIn to keep themselves occupied until Facebook and Groupon grace us with their presences as public companies.

LinkedIn deserves credit for being a profitable company, something dozens of other tech/Internet companies that are no longer with us could not say when they went public in the 1990s. This just is not the time to be running into stocks that trade for 25 times this year's revenue as LinkedIn was the start of trading today.

LinkedIn Chart

You know it is crazy day for the market when... A plethora of a humorous quips can be inserted there, but I am not joking when I tell you that Krispy Kreme Doughnuts (KKD), once a high-flier in its own right, was the third-best performing stock on U.S. exchanges today. Shares of Krispy Kreme surged almost 26% after the company said its first-quarter profit more than doubled to $9.2 million, or 13 cents a share, from $4.5 million, or 6 cents a share, a year earlier. Revenue jumped 13.6% to $104.6 million. Analysts were expecting a profit of 9 cents on revenue of $96.5 million. Krispy Kreme reaffirmed fiscal 2012 operating income guidance of $22-$24 million.

Forget LinkedIn setting the stage for Facebook and Groupon. Maybe Krispy Kreme is setting the stage for Dunkin Donuts, another widely anticipated IPO expected to roll out this year.

Krispy Kreme Chart

In the ''Everything Comes Full Circle'' category, International Business (IBM) has surpassed fellow Dow component and old rival Microsoft (MSFT) in market value for the first time since 1996. IBM is now the fourth-largest U.S. company by market value behind XOM, AAPL and GE.

As the chart below illustrates, MSFT's slide in market value since the bursting of the tech bubble has been nothing short of epic. As an interesting personal aside, I gave a presentation in a college class during my last semester in 2000, just a couple of months before the tech party really stopped, about why Microsoft would become the first company with a trillion market cap. I got a ''B'' on that project, but apparently that was an act of generosity on the part of my professor. Fortunately, that was for a journalism class, not a business class.

Kidding aside, an investor putting $100,000 into both stocks 10 years ago would now have about $143,000 in IBM stock and about $69,000 in Microsoft stock, Reuters reported, and that is all we really need to know.

Microsoft Market Cap

Last week's market decline was the third in as many weeks and with the ominous start to this week, looking at the charts will not be too pleasant today, but here we go. The S&P 500 had been obeying a tight range between 1330 and 1340 for a week or so, but that party ended with a thud today with a fall to 1317. Multiple attempts to crack the 1340 resistance failed and now the index is resting around another support area. Further declines could very well take the S&P 500 to 1290-1295.

S&P 500 Chart

The situation on the Dow is not much better as the chart is marked by the same ominous series of lower highs and lower lows that can be seen on the S&P 500 chart. Support at 12,400 looked firm, but a close nearly 20 points below that level today could portend more declines. Yes, the Dow is the blue-chip index, but it is also possible to parse through each of its 30 constituents and find some kind of headwind for nearly all of them.

Oil's decline and the move away from high-beta fare are killers for XOM, CVX and CAT. Financials are a mess. CSCO and MSFT wreak of dead money. I could go on. Only one Dow stock was higher today. Congrats to McDonald's (MCD).

Dow Chart

The Nasdaq was easily the worst performer of the Big Three Indexes today. Forget that psychological support at 2800. The Nasdaq had previously bounced off 2760, but closed below that area today. Below 2750, there is plenty of room for the Nasdaq to retreat all the way back to 2700. I suppose it can be argued that Apple held up relatively well today, losing just 0.24%. On the other hand, the stock is down more than 5% in the past month, while the Nasdaq itself is down less than 3% over the same time.

Nasdaq Chart

If the Russell 2000 was not officially a mess prior to today, it is now. Its 1.8% slide today made it the worst performer among the the major indexes and support at 820 did not hold with the index closing at 814. That also took the index below the 100-day line at 817 and from here, it is not out of the realm of possibility that the Russell 2000 sheds another 30-40 points.

Russell 2000 Chart

I am not opposed to a ''buy the dips'' approach because it has worked countless times over the past couple of years. That said, caution is needed here and with more dips likely on the way, eager buyers might do well to sit on their hands and wait for another 20-30 S&P 500 points to evaporate before rushing into new long positions.


New Plays

A Few Relative Strength Candidates

by James Brown

Click here to email James Brown

Editor's Note:

Looking at the stock market since its early May highs the major indices just produced a new lower low in its three-week bearish trend. Now the S&P 500 and the NASDAQ composite sit on technical support at its 100-dma. Will they bounce or will the breakdown?

I am not adding any new candidates tonight. Instead, I'm providing a small watch list of stocks that caught my eye today.

CPO - Corn Products Intl. has been bouncing from its rising 40-dma for the last five days in a row. Shares managed to post another gain today. This might be a buy on a move past the $55.00 level.

DRI - Darden Restaurants tagged new all-time highs this past week. Readers may want to consider buying a dip or a bounce near the $50.00 level.

S - Sprint Nextel displayed relative strength today. The stock broke out from a trading range on Friday and closed at new two-year highs today.

WAG - Walgreen Co. displayed relative strength today. Shares are consolidating sideways near $44.

- James


In Play Updates and Reviews

Widespread Weakness on Monday

by James Brown

Click here to email James Brown

Editor's Note:
Investors were in a selling mood on Monday. Stocks were down across the board. Our COV trade has been stopped out. Plus, bearish trades on AON and VLO have been triggered.

-James

Current Portfolio:


BULLISH Play Updates

Cheesecake Factory Inc. - CAKE - close: 30.98 change: -0.22

Stop Loss: 28.95
Target(s): 33.95, 37.00
Current Gain/Loss: - 1.7%
Time Frame: 8 to 10 weeks
New Positions: see below

Comments:
05/23 update: CAKE managed a bounce off its morning spike lower but still closed down -0.7%. Given the market's current weakness readers may want to wait for a dip near $30.00 in CAKE before considering new bullish positions. The $30 level should be underpinned by its 50 and 100-dma.

Keep in mind that CAKE doesn't move very fast (at least not normally) so we'll need some patience for this trade to work. FYI: The Point & Figure chart for CAKE is bullish with a $59 target.

Current Position: Long CAKE stock @ $31.53

- or -

Long the July $33 call (CAKE1116G33) Entry @ $0.75

Entry on May 20 at $31.53
Earnings Date 07/21/11 (unconfirmed)
Average Daily Volume: 1.0 million
Listed on May 19th, 2011


Capital One Financial - COF - close: 54.09 change: -0.98

Stop Loss: 51.75
Target(s): 57.00, 59.50
Current Gain/Loss: + 1.9%
Time Frame: 4 to 8 weeks
New Positions: see below

Comments:
05/23 update: I cautioned readers to expect a dip back toward $54.00. This should be short-term support. If this level fails then COF is probably looking at another test of its 50-dma (currently near $52.50). I am not suggesting new positions at current levels.

Current Position: Long COF stock @ $53.07

- or -

Long the June $55 calls (COF1118F55) Entry @ $0.96

05/17 New stop loss @ 51.75

Entry on May 5 at $53.07
Earnings Date 07/21/11 (unconfirmed)
Average Daily Volume: 3.7 million
Listed on May 4th, 2011


Discover Financial Services - DFS - close: 24.43 change: -0.49

Stop Loss: 23.90
Target(s): 27.25
Current Gain/Loss: + 1.3%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
05/23 update: Hmm... Friday's big drop and today's decline is starting to make last week's breakout past resistance look like a bull-trap pattern. More conservative traders may want to exit early. I am not suggesting new positions at this time.

(Small Positions)

Current Position: long DFS stock @ $24.10

05/19 exit May calls. closed @ $1.55 (+210%)
05/18 Plan on exiting May $24 call at Thursday's close
05/17 New stop loss @ 23.90
05/04 Triggered at $24.10.
04/30 Added an alternative entry point @ $25.25
04/26 New trigger @ 24.10, New stop loss @ 23.40

Entry on May 4 at $24.10
Earnings Date 06/23/11 (unconfirmed)
Average Daily Volume: 5.9 million
Listed on April 12th, 2011


Danaher Corp. - DHR - close: 53.72 change: -0.94

Stop Loss: 52.65
Target(s): 58.00-60.00 zone
Current Gain/Loss: - 2.6%
Time Frame: 8 to 10 weeks
New Positions: see below

Comments:
05/23 update: It seems the popular move today was a gap open lower. DHR followed the crowd and settled with a -1.7% decline. Shares look headed for potential support near $53.00 and its 50-dma. I would wait for that dip or better yet a bounce near this area before considering new positions. DHR doesn't move super fast so we'll need patience. Our target is the $58-60 range.

Current Position: Long DHR stock @ $55.17

- or -

Long the Sept. $57.50 call (DHR1117I57.5) Entry @ $1.90

Entry on May 19 at $55.17
Earnings Date 07/21/11 (unconfirmed)
Average Daily Volume: 3.5 million
Listed on May 18th, 2011


Dr. Pepper Snapple Group - DPS - close: 41.90 change: -0.20

Stop Loss: 37.90
Target(s): 44.90
Current Gain/Loss: unopened
Time Frame: 8 to 10 weeks
New Positions: Yes, see trigger

Comments:
05/23 update: DPS only saw a minor decline and managed an intraday bounce from its 10-dma. We're waiting for a dip towards $40.00, which should be new support. I'm suggesting a buy-the-dip entry point at $40.25. If triggered we'll use a stop loss at $37.90. Our target is $44.90.

buy-the-dip Trigger @ $40.25

Suggested Position: buy DPS stock @ $40.25

- or -

Buy the August $45 call (DPS1120H45) current ask $0.80

Entry on May x at $xx.xx
Earnings Date 07/28/11 (unconfirmed)
Average Daily Volume: 2.1 million
Listed on May 14th, 2011


Ecolab Inc. - ECL - close: 52.67 change: +0.29

Stop Loss: 50.95
Target(s): 57.00, 59.90
Current Gain/Loss: unopened
Time Frame: 6 to 8 weeks
New Positions: Yes, see trigger

Comments:
05/23 update: Positive analyst comments helped ECL buck the trend and post a gain today. We are still waiting for a breakout past resistance. Currently our plan is to launch bullish positions at $53.35. If triggered we'll use a stop loss at $50.95. Our targets are $57.00 and $59.90.

Trigger @ 53.35

Suggested Position: buy ECL stock @ 53.25

- or -

buy the July $55 call (ECL1116G55) current ask $0.60

Entry on May x at $xx.xx
Earnings Date 07/26/11 (unconfirmed)
Average Daily Volume: 1.5 million
Listed on May 18th, 2011


EMC Corp. - EMC - close: 27.44 change: -0.62

Stop Loss: 26.45
Target(s): 29.95, 32.25
Current Gain/Loss: - 0.4%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
05/23 update: Ouch! Profit taking pushed EMC to a -2.2% decline. Shares are testing their short-term trend of higher lows. I am still not suggesting new positions at this time.

Current Position: Long EMC stock @ $27.55

- or -

Long the June $27.00 calls (EMC1118F27) Entry @ $1.35

Second Option Position (listed 05/12/11)

Long the June $29.00 calls (EMC1118F29) Entry @ $0.45

05/12 New entry point. Added second option position.

Entry on May 3 at $27.55
Earnings Date 04/20/11
Average Daily Volume: 21.4 million
Listed on April 27th, 2011


Expedia Inc. - EXPE - close: 27.55 change: -0.02

Stop Loss: 24.74
Target(s): 27.75, 29.75
Current Gain/Loss: + 6.5%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
05/23 update: Lack of any serious profit taking in EXPE is impressive. Shares gapped open lower and then rallied back to virtually unchanged. I would still expect a pull back soon. I am not suggesting new positions at this time. Our final target is $29.75.

Current Position: Long EXPE stock @ 25.85

- or -

Long the June $25 call (EXPE1118F25) Entry @ $1.20

- or -

Long the July $27 call(EXPE1116G27) Entry @ $0.95

05/21 New stop loss @ 25.40
05/20 1st Target Hit @ 27.75 (+7.3%), June $25 call @ $2.70 (+125%), July $27 call @ $1.40 (+47.3%)

Entry on May 18 at $25.85
Earnings Date 07/28/11 (unconfirmed)
Average Daily Volume: 5.5 million
Listed on May 17th, 2011


Kansas City Southern - KSU - close: 55.53 change: -1.27

Stop Loss: 53.45
Target(s): 59.75, 63.50
Current Gain/Loss: - 1.5%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
05/23 update: Railroad stocks were not immune to the sell-off today. As expected KSU dipped toward the $55 level. Normally this intraday bounce from support would look like an entry point but I'm concerned the market's decline isn't over yet. Readers may want to wait for a dip closer to $54 before considering new bullish positions here. Our upside targets are $59.75 and $62.50.

Current Position: Long KSU stock @ $56.39

- or -

Long the June $60 call (KSU1118F60) Entry @ $0.53

Entry on May 19 at $56.39
Earnings Date 07/27/11 (unconfirmed)
Average Daily Volume: 1.0 million
Listed on May 18th, 2011


Riverbed Technology, Inc. - RVBD - close: 37.55 change: -0.62

Stop Loss: 34.95
Target(s): 39.90, 43.00
Current Gain/Loss: + 0.8%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
05/23 update: RVBD gave up -1.6%. Shares look like they're headed back toward short-term support near $36.00. More conservative traders may want to tighten their stops. I'm not suggesting new positions at this time. Let's see if RVBD can bounce at the $36 level.

Current Position: Long RVBD stock @ $37.25

- or -

Long the June $40 call (RVBD1118F40) Entry @ $1.15

Entry on May 12 at $37.25
Earnings Date 07/21/11 (unconfirmed)
Average Daily Volume: 5.1 million
Listed on May 11th, 2011


SAIC, Inc. - SAI - close: 17.31 change: -0.20

Stop Loss: 17.15
Target(s): 18.40
Current Gain/Loss: - 0.1%
Time Frame: 8 to 9 weeks
New Positions: see below

Comments:
05/23 update: SAI gapped open lower and closed down -1.1%. Shares are in the middle of their $17.20-17.60 trading range. I am not suggesting new positions at this time.

Current Position: long SAI stock @ $17.33

- or -

Long the August $18.00 call (SAI1120H18) entry @ $0.55

05/21 New stop loss @ 17.15
04/30 Warning, SAI has produced a reversal. consider an early exit
04/27 New stop loss @ 16.95

Entry on April 6 at $17.33
Earnings Date 06/02/11 (unconfirmed)
Average Daily Volume: 2.4 million
Listed on April 5th, 2011


Semiconductor HOLDRs - SMH - close: 35.20 change: -0.70

Stop Loss: 35.49
Target(s): 39.95
Current Gain/Loss: unopened
Time Frame: 8 to 12 weeks
New Positions: Yes, see trigger

Comments:
05/23 update: Semiconductor stocks struggled on Monday. Many gapped open lower this morning. The SMH is on the verge of breaking down under technical support at its 50 and 100-dma. If we see the SMH close under $35.00 we will drop it as a bullish candidate. I am not suggesting new positions at this time. Currently our plan is waiting for a breakout past $37.00 but we might consider buying a bounce if SMH rallies from support.

The SMH doesn't move very fast so it could take several weeks for this play to work out. Our first target is $39.95. The Point & Figure chart for SMH is bullish with a $61 target.

FYI: The top ten components in the SMH are: TXN, INTC, AMAT, ALTR, ADI, LLTC, XLNX, KLAC, BRCM, and ATML.

Trigger @ 37.05

Suggested Position: buy the SMH @ $37.05

- or -

Buy the August $40 calls (SMH1120H40) current ask $0.61

Entry on May x at $xx.xx
Earnings Date --/--/--
Average Daily Volume: 9.8 million
Listed on May 12th, 2011


DENTSPLY Intl. - XRAY - close: 38.68 change: -0.60

Stop Loss: 37.30
Target(s): 42.00, 44.50
Current Gain/Loss: - 0.8%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
05/23 update: There are no surprises here. We were expecting a dip into the $39-38 area. I'd wait for a bounce near $38.00 before considering new positions. Our profit targets are $42.00 and $44.50. FYI: The Point & Figure chart for XRAY is bullish with a $59 target.

NOTE: Readers may want to avoid the options. XRAY doesn't have a lot of option volume and the spreads are wide, which puts traders at a disadvantage.

Current Position: Long XRAY stock @ 39.00

- or -

Long the June $40 call (XRAY1118F40) Entry @ 0.60

Entry on May 12 at $39.00
Earnings Date 07/25/11 (unconfirmed)
Average Daily Volume: 904 thousand
Listed on May 7th, 2011


BEARISH Play Updates

Aon Corp. - AON - close: 51.83 change: -0.40

Stop Loss: 53.05
Target(s): 46.50
Current Gain/Loss: - 0.4%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
05/23 update: Our new trade on AON is open. Shares gapped open lower at $51.61. The trigger to open bearish positions was $51.75. The afternoon bounce lifted AON back toward $52.00, which should be new resistance. I would still consider new bearish positions now if you missed the entry this morning.

Our target is the $46.50 level. I would expect some support near $50.00 and the 100-dma so don't be surprised to see an initial bounce near this area. NOTE: The option spreads on AON are a little wide. Conservative traders may not want to play the options.

(small positions only)

Current Position: short AON stock @ 51.61

- or -

Long the June $50 PUT (AON1118R50) entry @ $0.45

05/23 gap down entry @ 51.61

Annotated chart:

Entry on May 23 at $51.61
Earnings Date 07/29/11 (unconfirmed)
Average Daily Volume: 1.7 million
Listed on May 21st, 2011


LyondellBasell Industries - LYB - close: 38.90 change: -1.10

Stop Loss: 42.05
Target(s): 36.00, 33.00
Current Gain/Loss: + 0.0%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
05/23 update: The gap down this morning has impacted our entry point. LYB opened at $38.91 and after a brief dip near $38.00 shares closed virtually where they opened with a -2.7% loss. I would be tempted to wait for a new failed rally move near $40 or even the 50-dma before initiating new positions. The plan was to keep our bearish positions very small to limit our risk. Our targets are $36.00 and $33.00 (or the simple 200-dma).

NOTE: While the options are likely to be very volatile you can limit your risk easier than shorting LYB stock. Buying a put limits your risk to what you paid for the option.

-Small Bearish Positions-

Current Position: short LYB stock @ $38.91

- or -

Long June $40 PUT (LYB1118R40) Entry @ $2.25

05/23 Gap down entry @ 38.91

Entry on May 23 at $38.91
Earnings Date 05/02/11 (confirmed)
Average Daily Volume: 5.0 million
Listed on May 21st, 2011


St. Jude Medical - STJ - close: 49.30 change: -1.52

Stop Loss: 52.26
Target(s): 47.00
Current Gain/Loss: + 3.3%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
05/23 update: STJ is accelerating lower. The close under the $50.00 level is bearish. The stock lost almost -3% today. I am not suggesting new positions at this time. We can wait for a new failed rally pattern under $51.00 before considering new positions. Please note our new stop loss at $52.26. Currently our target is $47.00. More aggressive traders may want to aim lower.

Earlier Comments:
We wanted to keep our position size small (about half or less than a normal trade) to limit our risk.

(Small Positions)

Current Position: Short STJ stock @ 51.00

- or -

Long the June $50 PUT (SJT1118R50) Entry @ $1.00

05/23 New stop loss @ 52.26

Entry on May 20 at $51.00
Earnings Date 07/21/11 (unconfirmed)
Average Daily Volume: 2.6 million
Listed on May 16th, 2011


Valero Energy - VLO - close: 25.93 change: -0.12

Stop Loss: 27.05
Target(s): 23.00
Current Gain/Loss: - 1.7%
Time Frame: 3 to 4 weeks
New Positions: see below

Comments:
05/23 update: VLO spiked down to a new relative low this morning. Shares hit $25.21 before trimming its losses to just -0.4%. Our trigger to open bearish positions was hit at $25.49. I would still consider new positions now or you could wait for a new failed rally under the 10-dma. Our target is $23.00 near the 200-dma.

Current Position: Short VLO stock @ $25.49

- or -

Long June $25 PUT (VLO1118R25) Entry @ $0.90

05/23 Triggered @ 25.49.

chart:

Entry on May 23 at $25.49
Earnings Date 07/27/11 (unconfirmed)
Average Daily Volume: 11 million
Listed on May 14th, 2011


CLOSED BULLISH PLAYS

Covidien Plc. - COV - close: 55.39 change: -1.52

Stop Loss: 55.40
Target(s): 63.50
Current Gain/Loss: - 3.3%
Time Frame: 6 to 8 weeks
New Positions: see below

Comments:
05/23 update: After the bell there was a headline that Applied Medical had filed a patent infringement lawsuit against COV. Now we don't know if this news hit the market this morning or after the closing bell. Shares were weak this morning with a gap open lower and a drop past its 20-dma, which had been recent support. Our stop loss was hit at $55.40.

closed Position: Long COV stock @ $57.34, exit $55.40 (-3.3%)

- or -

July $60 call (COV1116G60) Entry @ $0.65, exit 0.20 (-69.2%)

05/23 stopped out @ 55.40 (-3.3%), option @ -69.2%

chart:

Entry on May 19 at $57.34
Earnings Date 07/28/11 (unconfirmed)
Average Daily Volume: 3.5 million
Listed on May 18th, 2011