Option Investor
Newsletter

Daily Newsletter, Monday, 12/3/2012

Table of Contents

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

Market Wrap

Bears Maul the Gap Up

by Keene Little

Click here to email Keene Little
An overnight rally in equity futures led to a nice gap up and the bears decided it was a nice treat for them too. By the end of the day the gap up turned into key reversals to the downside.

Market Stats

I'm filling in for Linda today, who will be back with you next week.

It was a relatively quiet day in the markets today and the only disappointing thing for the stock market bulls was that a gap up to start the day was immediately sold into. And it was just the opposite for bonds, which gapped down and then rallied for the rest of the day in an attempt to close its gaps. The worrisome thing for the bulls at the moment is the fact that the reversal of the gaps, with the close below Friday's close, gave us key reversals in most indexes.

I went looking for news to see what might have been acting as a catalyst for today's moves but there really wasn't any, which explains why the market wasn't able to make it too far in either direction. The overnight gap up in the stock market came from traders hoping we'd see some bullish follow through to last week's rally as well as some positive news out of China and Europe.

Chinese manufacturing improved and its index rose from 49.5 to 50.5, putting it marginally back into growth instead of contraction. That didn't help the Chinese stock market, which closed down about -1% but U.S. equity futures continued to hold up.

Greece believes it will be able to get about half of the private investors holding Greek bonds to sell the bonds back at 34.1 cents on the dollar (the bonds are currently trading for 30-35 cents. Greece is hoping to use a Dutch auction to buy back an estimated 62B to help lower their huge debt, which then puts it in a position to borrow more from the IMF/ECB. What a country.

Spain has formerly requested 40B euros from the European bailout funds (EFSF/ESM) to help its banks' capitalization but this doesn't trigger the need for the ECB to step in with its OMT program (Outright Monetary Transactions).

All of these actions were treated as a reason to rally by the European markets (before selling off in their afternoon sessions) and that helped boost U.S. equity futures higher into the open. I guess it will take a new global central bank program to help bail out the banks, named the Outright Money Grab (OMG), before we see the stock market react negatively to all these debt-relief programs. Oh wait, that program has been in existence for years now; the market is just too blind to see it.

At 10:00 AM the market got a little jolt to the downside when we got the ISM index, which was not good. From October's 51.7 the market was expecting a minor drop to 51.2 but instead it dropped into contraction territory at 49.5, which is the lowest level in the past three years. But hey, that should have been good news because now the Fed will amp up the money supply for the stock market. Maybe everyone will come to their senses on Tuesday (wink).

The other 10:00 report was Construction spending and it ticked up nicely from September's +0.6% (revised up from +0.5%) to +1.4% for October. But this data is old and the market doesn't pay much attention to it. Other than those two reports we were supposed to get auto/truck sales this afternoon but I haven't seen any numbers. Maybe tomorrow.

Starting off tonight's chart review with the DOW, its daily chart is showing a bearish setup at the moment but the bulls could save this, at least for a little bit longer, if they come back in to do some buying on Tuesday. A H&S pattern, with the neckline running from September 4th through the October 26th low, was back tested today with this morning's gap up. The immediate selloff from the back test leaves a bearish kiss goodbye at the moment. A gap up to a new high followed by a close below Friday's close leaves an outside down day for what could be a key reversal day. Today's candle is a bearish engulfing candlestick pattern that engulfs Thursday's and Friday's candles and the close is below the 200-dma at 12996 and slightly below price-level support/resistance near 12975. This can be saved by the bulls but they'll need to step back in quickly on Tuesday, in which case a rally to the 13300 area remains the upside potential for now (possibly much higher). But no delays from the bulls -- if they don't start buying immediately we could be looking at the start of the next decline (or at least a deeper pullback).

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- bullish above 13,100
- bearish below 12,765

The weekly chart of the DOW keeps the moves in perspective and the chart below shows the bounce off the November low testing the H&S neckline but on a weekly basis that looks like weak resistance. Stronger resistance would be a back test of its broken uptrend line from October 2011, near 13300 at the end of this week.

Dow Industrials, INDU, Weekly chart

Like so many indexes today, SPX hit its 50-dma at this morning's open but was immediately knocked back down, which clearly is not bullish. The risk is for bearish follow through on Tuesday and a drop below 1400 would be a break of Fib support (50% retracement at 1403.68) as well as its H&S neckline that it climbed above last Wednesday, which is currently near 1407. There are a couple of short-term Fib price projections for the consolidation/pullback from Thursday that point to 1406-1407 to complete the pullback. Therefore a drop below 1406 would be a bearish heads up and below 1400 would confirm the rally leg from November's low has very likely finished. It takes a drop below last Wednesday's low to confirm the bounce high is in place. If it starts back down from here it will be the pattern of the decline that will provide some needed clues about whether we should expect just a pullback before heading higher again or a more serious decline instead.

S&P 500, SPX, Daily chart

Key Levels for SPX:
- bullish above 1424
- bearish below 1385

Today SPX closed slightly below its uptrend line from November 16th but could quickly be recovered if 1406-1407 holds and we see it immediately start back up. Assuming it will not break down from here I see upside potential to at least the 1434 area, possibly 1440-1450. Higher than 1450 would confirm a bullish pattern that could take us to new highs into the new year. But if this morning's high is a truncated finish to the double zigzag wave count (a-b-c-x-a-b-c) for the bounce off the November 16th low then it's even more bearish since it shows extreme weakness in the bounce attempt. Considering the downside risk for a strong decline to at least the 1290 area this month it's a time for caution if thinking about the long side. Respect your stops.

S&P 500, SPX, 60-min chart

NDX also presents a bearish picture on its daily chart but one with hope for the bulls. It's another bearish engulfing candlestick following a gap up to its 50-dma and then a close below Friday's. It looks like another key reversal day in the making. But bearish follow through will be key here and since NDX was able to hold its 200-dma at 2670 there remains the potential for the bounce to continue. It's clearly a battle between the 50- and 200-dmas and remember that it's the closing price that matters. Intraday breaks don't count (too much HFT activity driving the market in one direction that doesn't necessarily mean anything -- they're out by the close).

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- bullish above 2700
- bearish below 2613

Another index, another bearish daily chart. The RUT gapped up to its broken uptrend line from October 2011 and peeled away and closed below Friday's close. It's another key reversal at resistance and this time it follows the 3rd day in a row that the RUT back tested its broken uptrend line. Three drives to a high is a common reversal setup so the bulls need to step back in right now in order to save this. Any further decline will be a drop into last Thursday's gap up, in which case I suspect we'd see a quick closure of that gap. If that happens I would then look for a drop back down to the broken downtrend line from September, currently near 810, to see if it will provide support to launch another rally leg.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- bullish above 827
- bearish below 798

Bonds did the opposite of what stocks did today by gapping down and then rallying the rest of the day. This of course had yields doing the opposite and bond yields mirrored the stock market's pattern. At this morning's high the 30-year yield (TYX) came very close to its 50-dma and then dropped back down and almost closed the morning gap and finished near the low of the day. I see a little more upside potential though and two equal legs up for its bounce off the November 16th low would have it up to 2.89% and would match its 200-dma in the next day or two. That would result in a small break of its downtrend line from June 2011 so much higher than 2.9% would have me thinking a little more bullish about TYX (bearish on bond prices, bullish on stocks) but not yet.

30-year Yield, TYX, Daily chart

While the shorter-term pattern for bonds is difficult to decipher (there's a lot of sideways chop since August) it's the longer-term pattern that keeps me bearish yields right now. The weekly chart below keeps all of this in perspective and I think it's due another leg down to complete the descending wedge pattern from 2010-2011. I would feel much less sure of this pattern if TYX rallies above 3.01% and it would be negated with a rally above 3.11%

30-year Yield, TYX, Weekly chart

The banking index, BKX, is stuck between two key levels following the November low where it failed to drop through support at its uptrend line from October 2011, and then failure to get through price-level resistance at 49 last week. If the bears can close the November 19th low, at 47.15, which would also be a break of its uptrend line from October 2011, then I think we'll see much lower lows. If the bulls can break BKX above its 50-dma, at 49.50, which would be a break of its downtrend line from October 5th that would increase the probability for a run up to a new high in the new year. Mind the chop in between.

KBW Bank index, BKX, Daily chart

Today the U.S. dollar broke below its 50-dma, at 80.20, as well as the bottom of a potential up-channel from October. It looks to be headed for its uptrend line from October 2011, near 79.60. I will turn more bearish the dollar if it breaks below 79.50 and return to bullish with a rally above 81, which is where it would close its November 23rd gap (80.97). I continue to lean bullish on the dollar but recognize we could see a lot of chop between 79.50 and 81.

U.S. Dollar contract, DX, Daily chart

I continue to believe the path of least resistance for gold from here is to the downside. A break below 1704 would reinforce the bearish picture but a higher bounce cannot be ruled out. It would turn bullish with a rally above its November 23rd high at 1755.

Gold continuous contract, GC, Daily chart

Today oil spiked up to the trend line along the highs from November 6th but then sold off for the rest of the day, following (leading?) the stock market. While I consider it a lower probability move, it could chop its way marginally higher in the coming month. If it rallies much above today's high at 90.33 I'd turn a little more bullish but not aggressively so until it got back above its 200-dma near 93. The bounce off the November 7th low looks like a correction and therefor another leg down is what I'm expecting. It would be confirmed with a drop below last Wednesday's low at 85.36.

Oil continuous contract, CL, Daily chart

There will be no major economic reports tomorrow but then the rest of the week will be busy with employment-related numbers. If the employment numbers are on the soft side it's not going to help the bulls. Or maybe it would if there's speculation that the Fed is going to up its QE monthly allowance for the market and needs bad economic data to support their move.

Economic reports and Summary

December is a seasonally bullish time so the bulls have that going for them. Most people are expecting Congress and the President to agree on at least something before year-end and probably kick the can down the road on the rest for later debate (it's worked well for Europe so why not?). These factors have helped the market rally.

On top of the bullish expectations we know the Fed is supporting a rally by pumping lots of money into the system. The $45B/month for Operation Twist, while net neutral, has prevented money from coming out of the market. Throwing an additional $40B/month from QE-I into the market, which will probably be increased following the December FOMC meeting, adds a lot of liquidity.

But what if all these bullish expectations and Fed money doesn't give us an expected rally? If no rally now, then when? If the rally from November 16th is just a correction to the October-November decline (and sharp rallies like this one are typically bear market rallies) then the next leg down is going to be very strong as those traders leaning long into the end of the year could be forced out en masse (the 3rd wave is the recognition wave).

It's too early to tell whether the current bounce has some additional legs, or if it will only pull back slightly before heading higher again or starts back down in earnest. Short-term trading is called for, with tight money management, until the bigger pattern clears up some. Once we get a deeper pullback it should provide some clues as to whether we should buy the dip in expectation for another rally leg or look for bounces to sell into. In the meantime trade carefully.

Good luck and I'll be back with you on Wednesday with hopefully a few more clues for what December might look like.

Keene H. Little, CMT

In the end everything works out and if it doesn't work out, it is not the end. Old Indian Saying


New Plays

Breaking Key Support

by James Brown

Click here to email James Brown


NEW BEARISH Plays

Stone Energy Corp. - SGY - close: 19.91 change: -0.82

Stop Loss: 21.35
Target(s): 16.00
Current Gain/Loss: unopened

Entry on December xx at $ xx.xx
Listed on December 03, 2012
Time Frame: 3 to 6 weeks
Average Daily Volume = 719 thousand
New Positions: Yes, see below

Company Description

Why We Like It:
SGY is an energy stock that has been underperforming both the market and the sector. Shares have spent the last three weeks consolidating sideways in the $20-22 zone. Now it's breaking down under key support at $20.00. The next major support is all the way down near $15.00.

I want to see a little bit more confirmation so I am suggesting a trigger to open bearish positions at $19.80. We will target a drop to $16.00. FYI: The Point & Figure chart is bearish and forecasting at long-term $12 target.

Trigger @ 19.80

Suggested Position: short SGY stock @ (trigger)

Annotated chart:




In Play Updates and Reviews

TSLA Hits Our Target

by James Brown

Click here to email James Brown

Editor's Note:
Shares of electric carmaker Tesla Motors (TSLA) hit our bullish target today.

Elsewhere we saw our MCRS trade triggered. I have removed SKUL.

Current Portfolio:


BULLISH Play Updates

Affymax - AFFY - close: 24.32 change: -0.12

Stop Loss: 22.65
Target(s): 27.50
Current Gain/Loss: + 0.9%

Entry on November 26 at $24.10
Listed on November 21, 2012
Time Frame: 3 to 6 weeks
Average Daily Volume = 678 thousand
New Positions: , see below

Comments:
12/03/12: Traders bought the dip in AFFY this morning and shares pared their losses to just -05%. I'd rather see a bounce off the 50-dma before considering new positions.

*Small Positions*

current Position: long AFFY stock @ $24.10



Bank of America - BAC - close: 9.80 change: -0.06

Stop Loss: 9.65
Target(s): 11.50
Current Gain/Loss: unopened

Entry on December xx at $ xx.xx
Listed on December 01, 2012
Time Frame: 6 to 8 weeks
Average Daily Volume = 150 million
New Positions: Yes, see below

Comments:
12/03/12: The financials turned lower on Monday. BAC's early morning rallied hit $9.94 before turning south. We are waiting for a breakout past resistance.

I am suggesting a trigger to open bullish positions at $10.10. If triggered our target is $11.50. More aggressive traders could aim for $12.00. This is a multi-week trade.

Trigger @ 10.10

Suggested Position: buy BAC stock @ (trigger)

- (or for more adventurous traders, try this option) -

buy the 2013 Jan $10 call (BAC1319a10)



Banner Corp. - BANR - close: 30.33 change: +0.28

Stop Loss: 28.90
Target(s): 34.00
Current Gain/Loss: - 0.5%

Entry on November 21 at $30.49
Listed on November 20, 2012
Time Frame: 8 to 10 weeks
Average Daily Volume = 157 thousand
New Positions: see below

Comments:
12/03/12: BANR displayed a little bit of relative strength with a push up through the $30.00 level. The stock posted a +0.9% gain. I am not suggesting new positions at this time.

NOTE: BANR doesn't move very fast. This trade could take a couple of months.

*Small Positions*

current Position: Long BANR stock @ $30.49

11/21/12 out trade opened on the gap higher.



Ball Corp. - BLL - close: 43.94 change: -0.75

Stop Loss: 43.25
Target(s): 48.00
Current Gain/Loss: + 0.2%

Entry on November 06 at $43.85
Listed on November 3, 2012
Time Frame: 6 to 8 weeks
Average Daily Volume = 687 thousand
New Positions: see below

Comments:
12/03/12: Ouch! BLL had been holding up well last week. Unfortunately the rally this morning reversed at resistance near $45.00. The stock underperformed with a -1.6% drop. This is a new two-week low. The $44 level should have been short-term support. I am concerned and readers may want to tighten their stops.

current Position: Long BLL stock @ $43.85

11/24/12 new stop loss @ 43.25
11/17/12 new stop loss @ 42.55
11/06/12 triggered @ 43.85



EZchip Semiconductor - EZCH - close: 37.39 change: -0.52

Stop Loss: 36.40
Target(s): 44.00
Current Gain/Loss: - 2.5%

Entry on November 27 at $38.35
Listed on November 26, 2012
Time Frame: 6 to 12 weeks
Average Daily Volume = 414 thousand
New Positions: see below

Comments:
12/03/12: EZCH underperformed both the NASDAQ and the SOX semiconductor index today. Shares broke down under short-term technical support at the 10-dma but traders bought the dip at its 200-dma. I am not suggesting new positions at this time.

Our multi-week target is $44.00. I would expect a pullback on the first test of potential resistance at $40.00.

current Position: Long EZCH stock @ $38.35



PerkinElmer Inc. - PKI - close: 31.41 change: -0.24

Stop Loss: 29.70
Target(s): 35.75
Current Gain/Loss: unopened

Entry on December xx at $ xx.xx
Listed on December 01, 2012
Time Frame: 6 to 9 weeks
Average Daily Volume = 661 thousand
New Positions: Yes, see below

Comments:
12/03/12: Hmm... PKI tagged a new high this morning before reversing. Traders bought the dip at the 10-dma. Yet if you put it all together today's session has produced a bearish engulfing candlestick reversal pattern. We'll have to see if PKI confirms this reversal. At the moment we're still on the sidelines.

I am suggesting a trigger to open bullish positions at $32.00. Our multi-week target is $35.75 as the $36.00 level looks like resistance. We will need to be patient as PKI doesn't move very fast.

Trigger @ 32.00

Suggested Position: buy PKI stock @ (trigger)



ValueClick, Inc. - VCLK - close: 18.88 change: +0.01

Stop Loss: 17.85
Target(s): 20.75
Current Gain/Loss: + 3.7%

Entry on November 20 at $18.20
Listed on November 19, 2012
Time Frame: 4 to 6 weeks
Average Daily Volume = 666 thousand
New Positions: see below

Comments:
12/03/12: VCLK spiked to a new high above $19.00 only to give back all of its gain and close virtually unchanged on the day. I would expect a dip back toward the 10-dma or the $18.50 level.

Earlier Comments:
I will point out that VCLK could see potential resistance at $19.50 and the $20.00 mark. I would keep our position size small. VCLK has been volatile in the past.

current Position: Long VCLK stock @ $18.20

11/28/12 new stop loss @ 17.85



BEARISH Play Updates

Chesapeake Granite Wash Trust - CHKR - close: 18.26 change: -0.40

Stop Loss: 18.75
Target(s): 16.40
Current Gain/Loss: unopened

Entry on November xx at $ xx.xx
Listed on November 26, 2012
Time Frame: 6 to 8 weeks
Average Daily Volume = 226 thousand
New Positions: Yes, see below

Comments:
12/03/12: The rebound in CHKR failed at its 10-dma. Shares reversed into a -2.1% decline. The stock looks poised to break support near $18.00 soon.

Earlier Comments:
The current trend of lower highs and lower lows would suggest CHKR is poised to new hit new lows. I am suggesting a trigger to open small bearish positions at $17.90. Our initial target is $16.40 but we might reconsider and aim lower.

Trigger @ 17.90 *Small Positions*

Suggested Position: short CHKR stock @ (trigger)



CIT Group - CIT - close: 36.67 change: -0.38

Stop Loss: 37.05
Target(s): 33.25
Current Gain/Loss: unopened

Entry on November xx at $ xx.xx
Listed on November 21, 2012
Time Frame: 3 to 6 weeks
Average Daily Volume = 1.5 million
New Positions: Yes, see below

Comments:
12/03/12: CIT reversed at its short-term trend of lower highs. There is no change from my prior comments.

We are waiting for a breakdown under $36 as our entry point. I am suggesting we use a trigger at $35.90 to launch small bearish positions. Our target is $33.25.

Trigger @ 35.90

Suggested Position: short CIT stock @ (trigger)

- (or for more adventurous traders, try this option) -

buy the 2013 Jan $35 PUT (CIT1319m35)



Cliffs Natural Resources - CLF - close: 28.40 change: -0.35

Stop Loss: 30.55
Target(s): 25.25
Current Gain/Loss: + 4.1%

Entry on November 28 at $29.62
Listed on November 27, 2012
Time Frame: 4 to 6 weeks
Average Daily Volume = 7.7 million
New Positions: see below

Comments:
12/03/12: CLF tagged another new multi-year low and closed with a -1.2% decline. The 10-dma has fallen to $30.43. I am lowering our stop loss to $30.55.

Earlier Comments:
I would classify this as a higher-risk trade because so many investors are bearish on CLF. The most recent data listed short interest at almost 20% of the 141 million-share float. That does raise the risk of a short squeeze but the trend is clearly down. We want to keep our position size small to limit our risk. You may want to use the put option to limit your risk.

*small positions*

current Position: short CLF stock @ $29.62

- (or for more adventurous traders, try this option) -

Long DEC $30 PUT (CLF1222x30) entry $1.60

12/03/12 new stop loss @ $30.55
11/28/12 triggered on gap down at $29.62



MICROS Systems - MCRS - close: 42.35 change: -1.11

Stop Loss: 44.05
Target(s): 40.10
Current Gain/Loss: + 1.2%

Entry on December 03 at $42.85
Listed on November 28, 2012
Time Frame: 3 to 6 weeks
Average Daily Volume = 542 thousand
New Positions: see below

Comments:
12/03/12: Our MCRS trade is off to a strong start. Shares failed at resistance near $44 and its 20-dma and then reversed into a -2.5% decline. The stock broke down to new 52-week lows and hit our trigger to open bearish positions at $42.85.

current Position: short MCRS stock @ $42.85

12/03/12 triggered at $42.85



CLOSED BULLISH PLAYS

Skullcandy, Inc. - SKUL - close: 8.11 change: -0.51

Stop Loss: 8.45
Target(s): 11.50
Current Gain/Loss: unopened

Entry on November xx at $ xx.xx
Listed on November 29, 2012
Time Frame: 6 to 8 weeks
Average Daily Volume = 702 thousand
New Positions: see below

Comments:
12/03/12: SKUL turned sharply lower today. Most of the market saw a rally Monday morning. Not so for SKUL. There was a brief move higher that quickly reversed and SKUL underperformed with a -5.9% drop. Our trade has not opened yet and it's unlikely that SKUL will hit our entry trigger at $9.05 soon. We are removing SKUL as a candidate.

Trade did not open.

12/03/12 trade did not open. removed SKUL as a candidate.

chart:



Tesla Motors - TSLA - close: 34.62 change: +0.80

Stop Loss: 30.90
Target(s): 34.90
Current Gain/Loss: + 8.2%

Entry on November 19 at $32.25
Listed on November 15, 2012
Time Frame: 6 to 8 weeks
Average Daily Volume = 1.0 million
New Positions: see below

Comments:
12/03/12: Target hit.

TSLA continued to show relative strength on Monday. The stock surged to round-number resistance at $35.00 before trimming its gains. Our exit target was hit at $34.90.

closed Position: Long TSLA stock @ $32.25 exit $34.90 (+8.2%)

- (or for more adventurous traders, try this option) -

Dec $33 call (TSLA1222L33) entry $0.90 exit $1.90 (+111.1%)

12/03/12 target hit
11/24/12 new stop loss @ 30.90

chart: