Option Investor
Newsletter

Daily Newsletter, Tuesday, 6/14/2016

Table of Contents

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

Market Wrap

Down but Not Out

by Jim Brown

Click here to email Jim Brown

The markets battled another set of declines overseas and while we saw some lower lows, there was a rebound at the close.

Market Statistics

The European markets cratered again on yet another survey that showed those wanting to leave the EU were significantly above those that wanted to stay in the EU. The financials took another hit and the dollar spiked again to a two week high. The yield on the German 10-yr Bund fell into negative territory as a flight to quality as investors fled equities ahead of the Brexit vote.





In the U.S. the Retail Sales report for May came in with a +0.5% gain and slightly better than the +0.2% gain analysts expected. This was down from +1.3% in April. Unfortunately, the headline number was caused by a spike in gasoline prices ahead of the Memorial Day holiday. Excluding gasoline and autos, sales rose only +0.3%.

Sales in building materials fell -1.8%, general merchandise declined -0.3%. Gasoline sales rose +2.1%, food service and bars up +0.8%, non-store retailers +1.3% and clothing +0.8%. On a trailing 12-month basis, sales are up +2.5%.

Business Inventories for April rose only +0.1% compared to +0.4% in March and estimates for +0.4%. Manufacturers' inventories fell -0.1%, retailer inventories declined -0.1% and wholesaler inventories rose +0.6%. This was not a bullish report but it was for April and was ignored.

The NFIB Small Business Optimism Index rose slightly from 93.6 to 93.8. This was only the second increase in 2016 and it would be hard to say that was bullish. Those expecting the economy to improve rose slightly from -16 to -13. All the other components were basically flat. The uncertainty about the U.S. economy was blamed for the weakness in optimism. This report covered May.

Import and Export prices surged in May. Import prices surged +1.4% in May while April was revised higher from +0.3% to +0.7%. Analysts were only expecting a +0.7% rise. However, there is a catch. The rise in prices were led by a 17.4% increase in crude oil and refined products. This was the third consecutive month with petroleum up more than 10%.

Excluding petroleum, import prices rose only +0.4%. If you exclude fuel it only rose +0.3%. Excluding autos pushes it even lower at +0.1%.

The big events on the calendar for Wednesday are the FOMC announcement at 2:PM and the Yellen press conference at 2:30. The Philly Fed Manufacturing Survey on Thursday is the next most important event but it may be overshadowed by any reaction to the Fed news.


The API crude inventories after the close showed an unexpected rise of +1.2 million barrels for the week ended last Friday. Analysts were expecting a decline of -2.3 million barrels. Crude prices had closed at $48.47 with a decline of 41 cents. After the API news, WTI fell to $47.72 in afterhours. That is nearly a 4-week low. The real inventory number to watch is the EIA number at 10:30 Wednesday morning.


After the bell, MCSI rejected Chinese mainland stocks, again. The last time they rejected mainland stocks China responded by significantly devaluing the yuan and causing a ripple in the global markets. MCSI said there were lingering concerns about market access in China. They have too many trading halts. Those halts can last for months. Also, money cannot be easily removed from the market. The 20% monthly repatriation limit is a "significant hurdle" for investors. That assumes your stocks are not halted.

MCSI said it needed more time to assess the effectiveness of the Qualified Foreign Investor program including capital mobility, investment quota allocation and the effectiveness in the new trading halt rules. The MCSI emerging markets indexes has more than $1.5 trillion in assets and the inclusion of mainland stocks could result in those stocks representing 40% of the index. The potential for market disruption would be huge. The Chinese are making progress in improving their markets but they are not there yet according to MCSI. The China A-Shares (ASHR) ETF fell more than 2% in afterhours.

The Shanghai Composite had been trading sideways until June as investors waited for the MCSI decision. The spike over the prior week was speculation MCSI would approve China and an explosive rally would appear. The decline over the last two days could have been traders taking profits from that buildup rather than taking a chance on a rejection. The Chinese market could trade down significantly on Wednesday.


Synchrony Financial (SYF) a spin-off from GE warned it was facing higher charge off rates for delinquent accounts. The company expects an increase in charge-offs of 20-30 basis points over the next 12 months. This will cause loan loss reserves to increase and earnings to shrink. Write-offs as a percentage of total loans were 4.7% in Q1, up from 4.53% in the year ago quarter. More than 28% of Synchrony's credit-card loans in Q1 were to consumers with FICO scored under 660. Shares fell 13% on the news.

The CEO from Capital One warned earlier this month that default rates are rising. JP Morgan's Jamie Dimon warned that credit problems "are going to get worse." More than 31% of the subprime auto loans written over the last 3 years are in trouble. Revolving credit rose to $951.5 billion at the end of April. All the banks and credit card companies saw their shares decline today.


Alibaba (BABA) CEO Jack Ma, stunned attendees at their investor day when he said counterfeit goods are higher quality and sell at lower cost. While he has pledged to get rid of fake goods on his websites, that comment suggests it may be a long time before that happens. Ma said the fake products were made in the same factories but without the fancy name. That sounds like a theft of intellectual property if you contract to make Nike shoes and then use the same equipment to make an identical competitor. The company also lowered guidance for Q2 sales from $3.12-$3.19 billion to $2.81-$2.82 billion. Ma said he wants to reach $1 trillion in annual sales by 2020 and become the 5th largest global economy after Japan. Shares rose $2 on the trillion dollar comment.


Bob Evans Farms (BOBE) guided to $2.00 to $2.15 for the full year on revenue of $1.28-$1.33 billion. Analysts were expecting $2.19 and $1.32 billion. The company predicted same store sales in negative low-single digits for the year. For last quarter, they reported earnings of 48 cents and analysts were expecting 43 cents. Shares gained slightly on the earnings beat.


Perrigo (PRGO), a current Option Investor play, spiked $9 after Bloomberg reported they were close to a deal to be acquired by an unidentified UK company for $20 billion. That would be a 33% premium over Monday's close. Perrigo markets over the counter consumer goods and pharmaceuticals worldwide. Revenue is about $6 billion a year with strong growth. If the rumor were true, that would equate to a price in the $130-$135 range so plenty of upside left.


Exact Sciences (EXAS) rallied 33% on no news. Earlier this month they did hire Jeff Elliott, a former analyst for William Blair. He has been tasked with identifying and pursuing strategic business opportunities for Exact Sciences. Formerly he covered the diagnostic and lab industry for Baird. Coincidentally the company will be presenting at the 36th annual William Blair growth stock conference on Wednesday. Short interest was 22% and apparently, somebody got squeezed.


Whole Foods Market (WFM) received a warning letter from the FDA covering "serious violations" at a Massachusetts kitchen, claiming the food "may have been contaminated with filth." The FDA said leaky pipes were dripping onto work surfaces and employees were not changing gloves between tasks. Whole Foods replied with a letter but the FDA said it was unsatisfactory because it did not outline the steps the company would take to resolve the problems. Shares fell -$3 over the last two days.


Valeant (VRX) shares rose only slightly after the new CEO, Joe Papa, bought 202,000 shares for roughly $5 million. He paid an average of $24.48. The resulting blip on the chart was almost invisible.


There was very little stock news now that the earnings cycle has run its course. Everyone is waiting on the Fed and Brexit but there will be some earnings news on Thursday worth watching. Kroger, Oracle and Smith & Wesson will report.


Markets

The last 12 months of Brexit complacency is evaporating. Investors are moving to the sidelines ahead of the Fed and the exit vote. The Fed announcement should cause some market volatility, possibly in both directions. The first move after the announcement is often in the wrong direction and quickly reverses. Market spikes are sold and dips bought. You can never please everyone at the same time.

Nearly 100% of analysts surveyed do not believe the Fed will hike tomorrow. They list the jobs report (55%) as the number one reason, slowing global growth (15%), Brexit (13%), market expectations (5%) and other at (18%) as the additional reasons the Fed will not hike.

The VIX has broken out of complacency mode and this would normally be a buy signal for equities except for the headline events ahead. The 30 level is my preferred buy signal. I also like to sell calls when 30 is touched because it never remains there very long. If the Brexit vote is to leave we could see that 30 level.


The S&P declined to 2,064 intraday and then rebounded back to support/resistance at 2,075 at the close. That level has been both in the past year. The rebound of 11 points was strong and it started at exactly 3:PM at the low of the day suggesting it was a buy program or at least a program triggered a decent short squeeze. I am sure there were some shorts anxious to get out of their positions before the Fed decision in order to avoid the volatility.


The Dow had a similar pattern with a dip to light support at 17,595 and then a decent rebound to close at 17,784. The nearly 100-point rebound was likely short covering but it was not in the financials. Goldman, JP Morgan and American Express finished near their lows. The energy stocks were also a drag with oil prices closing in on $48 intraday.

The 16,680 level was resistance three times throughout the day so somebody was targeting the Dow at that level with some heavy selling.




The Nasdaq traded in a narrow range with the Nasdaq 100 ($NDX) actually closing positive. The winners and sinners list is not weighted towards any specific sector but the biotechs were down once again. The Nasdaq has support at 4,820 and resistance at 4,875.



The S&P futures were down nearly 5 points after the MCSI decision but rebounded to positive territory a couple hours later and are now back down again. The Asian markets opened lower but then rebounded slightly with only minor losses. There is still a lot of darkness before the dawn so anything is possible.

If you do not have to trade on Wednesday, I would recommend taking the day off. There are always plenty of cross currents surrounding the Fed announcements and with the Brexit only a week away, they could be more pronounced. There is always another day to trade if you have money left in your account.

Enter passively, exit aggressively!

Jim Brown

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New Plays

Get Vaccinated

by Jim Brown

Click here to email Jim Brown
Editor's Note

Vaccines are extremely important but there are only a few companies making new products. The selling price is low and the vaccine has to be reformulated every year. There is always risk of a potential reaction. Novavax is different.


NEW BULLISH Plays

NVAX - Novavax - Company Profile

Novavax, Inc., a clinical-stage vaccine company, focuses on discovering, developing, and commercializing recombinant nanoparticle vaccines and adjuvants. The company produces its vaccines using its proprietary recombinant nanoparticle vaccine technology. Its product pipeline includes respiratory syncytial virus (RSV) vaccine candidates for elderly and maternal immunization that are in Phase III clinical trials, as well as pediatric RSV candidate, which is in Phase I clinical trial; seasonal quadrivalent influenza and pandemic H7N9 vaccines, which are in Phase II clinical trials; vaccine candidate against Ebola Virus that is Phase I clinical trial, as well as combination respiratory vaccine candidate and seasonal influenza vaccine candidate that is in pre-clinical trial; and rabies G protein vaccine candidate, which is in Phase I/II clinical trial. The company also has pre-clinical stage programs for various infectious diseases, including the Middle East respiratory syndrome coronavirus; and develops technology for the production of immune stimulating saponin-based adjuvants.

Novavax is using a new proprietary model for vaccines that does not require the long incubation time and the annual reformulation. They are far along in their trials compared to other companies and these vaccines can be given to children.

The top line State III data for the RSV F vaccine is due out in Q3 and they already have a fast track designation from the FDA. The drug could be commercially available by mid-2017. This drug could generate $1 billion in sales. While there is always the potential for a trial to fail, this initial drug has already progressed through all the early and mid stage trials. Novovax also has $434 million in cash so plenty of liquidity to continue the process.

Earnings August 9th.

Analysts are predicting a 100% gain for NVAX over the next year and that is attracting new investors today. With their advanced pipeline they could be an acquisition target. Shares only pulled back about 50 cents in the market weakness over the last three days and they posted a gain in today's weak market.

Buy NVAX shares, currently $6.57, initial stop loss $5.75.

No options recommended because of price.



NEW BEARISH Plays

No New Bearish Plays



In Play Updates and Reviews

Not Quite Positive

by Jim Brown

Click here to email Jim Brown

Editors Note:

The afternoon market rebound did not quite make it back to positive territory. The continued decline in Europe weighed on the U.S. markets at the open but they found support in the afternoon and a minor rebound appeared. This was more than likely short covering ahead of the Fed announcement and speculators taking positions hoping for some headline news from the Fed that sends markets higher.

The Dow dipped to 17,595 and the S&P to 2,064 before rebounding. The market should be volatile on Wednesday around the Fed announcement and the first move is normally the wrong move. Waiting until Thursday to enter new positions is always recommended.




Current Portfolio





Current Position Changes


CSII - Cardiovascular Systems

The long position was entered at the open with a trade at $18.16.


Profit Targets

Check the graphic above for any profit stops in green. We need to always be prepared for a profit exit at resistance.


Stop Loss Updates

Check the graphic above for any new stop losses in bright yellow. We need to always be prepared for an unexpected decline.


BULLISH Play Updates


CSII - Cardiovascular Systems -
Company Profile

Comments:

No specific news. Down slightly in a weak market.

Original Trade Description: June 13th.

Cardiovascular Systems, a medical technology company, develops, manufactures, and markets devices to treat vascular diseases in the United States. It offers peripheral arterial disease products, including Stealth 360° Peripheral Orbital Atherectomy System (OAS), Diamondback 360 Peripheral OAS, Diamondback 360 60cm Peripheral OAS access device, and the 4 Diamondback 360 French 1.25 Peripheral OAS access device products for treating a range of plaque types, such as calcified plaque, in leg arteries both above and below the knee and address many of the limitations associated with existing surgical, catheter, and pharmacological treatment alternatives, as well as Diamondback 360 Coronary OAS, a catheter-based platform to facilitate stent delivery in patients with coronary artery disease.

In the last quarter revenues rose 7%, gross margin rose from 77.8% to 80.4% and operating expenses decline -5%. They expect to reduce expenses by another 7% in the current quarter. Coronary revenues rose +31%.

With more than 18 million Americans suffering from Peripheral Artery Disease (PAD), which is the accumulation of plaque in the peripheral arteries, their market is booming. Coronary Artery Disease is a leading cause of death in the USA. With more than 40% of the population already diagnosed and probably another 20% undiagnosed the market for their products is also growing rapidly. With the baby boomers retiring and these health problems becoming more life threatening as they age the number of "interventions" as my cardiologist calls them is growing rapidly. Stenting any patient with any symptoms of heart disease is becoming more common than tonsillectomies for children. More than 600,000 Americans die from heart disease annually. That is equivalent to 6 jumbo jet crashes every day.

In Q1, Broadfin Capital added a 1.46 million share stake in CSII or 4.47%. Point72 Asset Management added 102,000 shares. Shares have broken out of resistance at $16 and continue to creep higher.

Earnings are August 3rd.

There was only a minor decline today in a very weak market.

Position 6/14/16:

Long CSII shares @ $18.16, initial stop loss $16.45.

No option recommended because of wide spreads.



HPE - Hewlett Packard Enterprise - Company Profile

Comments:

No specific news. Down slightly in a weak market.

Original Trade Description: June 2nd.

Hewlett Packard Enterprise was spun off from Hewlett Packard (HPQ) to be the high growth segment of the company. The remaining HPQ was the slower growing PC and printer company.

HPE reported adjusted Q1 earnings of 42 cents and in line with estimates. Revenue of $12.711 billion would have been up +4% on a constant currency basis. Analysts were expecting $12.419 billion.

For the current quarter, HPE guided to earnings of $1.10 to $1.14. For the full year, they expect $1.85-$1.95 and that was more than analysts expected at $1.89. They increased free cash flow +101% to $1.1 billion for the quarter.

The good news came from their plans for the cash flow. HPE expects to generate $2.0-$2.2 billion in free cash flow in 2016. They are receiving $2 billion from the Tsinghua transaction which closed in early May and the money will be used for share repurchases. In 2016, HPE is increasing its commitment to return 100% of the free cash flow to investors in dividends and buybacks.

This means over the next couple of months we should see significant share activity as funds position themselves to be the beneficiaries of all this buyback/dividend activity that could exceed $4 billion in 2016. $2.5 billion of that is in an "accelerated" buyback program. The board authorized another $3 billion in buybacks to bring the current authorization to $4.8 billion.

They also announced a tax-free spinoff of their services division to Computer Sciences Corporation (CSC), which is expected to close in March 2017. This will produce another $8.5 billion in value to HPE shareholders in the form of $4.5 billion in equity in the combined company and $1.5 billion in a cash dividend and the removal of $2.5 billion in debt from HPE.

Earnings Aug 23rd.

HPE shares have shaken off their May weakness and closed today at a historic high. I am recommending we buy this stock in anticipation of additional fund investors moving in ahead of future dividends, buybacks and the spinoff.

Position 6/3/16:

Long HPE shares @ $18.40, see portfolio graphic for stop loss.

Optional:

Long August $20 call @ 40 cents. No stop loss.



UIS - Unisys Corp - Company Profile

Comments:

No specific news. The Microsoft alliance news on Monday was positive but shares are still declining. This suggests it was market related or maybe a sell the news event.

Original Trade Description: June 6th.

Unisys Corporation provides information technology services worldwide. It operates through two segments, Services and Technology. The Services segment provides cloud and infrastructure services, application services, and business process outsourcing services. The Technology segment designs and develops software, servers, and related products. It offers a range of data center, infrastructure management, and cloud computing offerings for clients to virtualize and automate data-center environments. This segments product offerings include enterprise-class servers, such as the ClearPath Forward family of fabric servers; the Unisys Stealth family of security software; and operating system software and middleware. The company serves commercial, financial services, public sector, and the U.S. federal government through direct sales force, distributors, resellers, and alliance partners.

Unisys has morphed in its 143 years of operation into a global cloud, IT and infrastructure services company. That is a long way from the original company that produced the first commercially viable typewriters and adding machines under the name Burroughs, Sperry and Remington Rand.

Today one of their main products is Unisys Stealth for protection of digital and physical assets. Stealth Mobile protects secur emobile applications and Stealth Cloud expands that protection to the cloud.

Just before their recent earnings they announced a deal with Mitel to provide the Unisys stealth technology to protect their 60 million mobile and enterprise customers. Business is booming but it has been a long time coming. In Q1 revenue declined -3% and services declined -2%. However, the company said its "lumpy" quarter-to-quarter strategy was changing with a stronger focus on the Stealth products and their rapid wide scale adoption. They expect the amount of money spent on cybersecurity to more than double from the $75 billion in 2015 to more than $170 billion in 2020. The cost of data breaches will rise to $2.1 trillion annually by 2019 and more than four times the cost in 2015.

Unisys has been a stealth company for the last year with shares declining from $30 to $7. With their new products and the rapid acceptance of those products their stock is rebounding off the three month consolidation pattern.

Earnings July 28th.

Shares moved over resistance at $8.25 last week and are preparing to move higher. The big decline in March was a $190 million offering of convertible senior notes due 2021 with a conversion price of $9.76. That was a 20% premium to the stock price post announcement.

If the current rebound continues the next material resistance is $12.

Position 6/7/16:

Long UIS shares @ $8.47, no initial stop loss.

Optional:

Long October $9 call @ 80 cents. No stop loss.




BEARISH Play Updates

GOGO - Gogo Inc - Company Profile

Comments:

No specific news. New historic low at the close.

Original Trade Description: June 11th.

Gogo provided communication services to the commercial and business aviation markets in the U.S. and internationally. They provide in-flight connectivity and wireless digital entertainment solutions to commercial airline passengers to and from North America.

Gogo has had a rough few months as airlines complained about the service and some removed the Gogo service and replaced it with a competitor.

On May 23rd Gogo announced the pricing of $525 million in senior secured notes. On May 26th the stock spiked 20% after the company filed a notice with the SEC saying an unspecified airline had requested a proposal for service to cover its large domestic fleet. Under the proposal Gogo would provide Wi-Fi to a "meaningful" portion of the domestic fleet that is is currently serving. Gogo cancels the $525 million debt sale.

On June 3rd shares plunge as the unspecified airline turns out to be American Airlines and the proposal is far less than expected. American picked ViaSat (VSAT) to provide internet access on 100 new Boeing jets. Gogo updates its SEC filing to say it would provide service on 140 American planes and continue service on 400 others. However, American retained the option to remove Gogo equipment on any American planes at any time. Gogo said it now expects American to remove its equipment on the "mainline" planes over the next several years. American said it was planning on upgrading the service on its planes but had not picked a successor. That means the 100 ViaSat planes will be a live test and will likely replace Gogo. ViaSat provides 12 mbps of bandwidth to each seat while Gogo provides 70 mbps for the entire plane and that bandwidth has to be shared by all passengers. There is a significant difference.

On June 9th Gogo reinstates the $525 million debt offering and priced it at 12.5% after Moody's rated it a B3-PD (Probability of Default) credit.

Earnings Aug 4th.

The future is not bright for Gogo. They are trying to produce a faster service through satellite connections rather than ground based systems but the testing and roll out is not going smoothly. Several years of hostility between passengers and carrier over the slow bandwidth has poisoned the relationships and ViaSat appears poised to take over the market.

Shares closed at a historic low on Friday at $8.97 and the downward trend is likely to continue.

Position 6/13/16:

Short GOGO shares @ $8.99, initial stop loss $10.05.

I am not recommending an option but the August $8 put is $75 cents.



LE - Land's End - Company Profile

Comments:

No specific news. Retail sales were better than expected. The company launched a new active wear line called Land's End Sport. This had been in the press for weeks so it was not really news.

Original Trade Description: June 9th.

Land's End operates as a multi-channel retailer. The company operates through two segments, Direct and Retail. It offers casual clothing, accessories, footwear, and home products. The company sells its products through its e-commerce Websites, direct mail catalogs, dedicated LandsÂ’ End Shops at Sears, stand-alone LandsÂ’ End Inlet stores, and international shop-in-shops. As of January 29, 2016, it operated 227 LandsÂ’ End Shops at Sears; and 14 LandsÂ’ End Inlet stores in the United States, as well as 5 United Kingdom based shop-in-shops.

Land's End operated in the world of Amazon and they are getting crushed. They use the term multi-channel because they retail a lot online. Unfortunately, in an Amazon dominated environment they are finding it hard to sell sheets, blankets, towels, shoes and apparel and still make a profit.

In their recent report they lost 18 cents compared to analyst estimates for 2 cents. Revenue of $273.4 million that was below the $299.4 million in the comparison quarter. Retail segment revenue declined -10.4% with same store sales falling -7.1%. Even worse, inventory rose 8.9% to $309.9 million up from $284.6 million. Cash balanced declined -$50 million. Stale inventory is rising, they are burning cash and sales are falling. That is not a recipe for earnings growth.

The retailer was forced to remove Gloria Steinem from their online website and from their catalog after the feminist made some comments on abortion rights. Customers, including numerous religions groups, promised a large scale boycott if Steinem was not removed from all advertising.

The summer months are not likely to be kind to Land's End. They will be forced to further discount products to move them out of inventory in a period where customers are vacationing rather than shopping.

Earnings Sept 1st.

When the market finally rolls over, we could see selling in LE accelerate due to a lack of interest in holding for a Q4 rebound. The historic closing low is $15.81.

Position 6/10.16:

Short LE shares @ $15.80, initial stop loss $17.25.





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