Markets are down in Asia on Tuesday morning on worries about weakness in holiday shopping and the impact of Europe on Japan.

Japan's central bank posted minutes of the November meeting where a Finance Ministry representative warned the world's third largest economy faces "significant downside risks" due to Europe's debt problems.

The Asian markets started off strongly negative but recovered somewhat later in the day. The U.S. futures were up on Monday but they are not trading on Monday night so we can't determine market direction at the open. The intraday rebound in the Asian markets suggests we could have a positive open.

The period for the Santa Claus rally is the last five trading days of December and the first two days of January. The historical average is a +1.6% gain in the S&P over that period. The rally comes from fund managers and individuals putting year end retirement contributions and bonuses to work in the market and it is normally focused on small cap stocks.

Just because the historical average is a gain of +1.6% does not mean there are always market gains. Sometimes there are big declines and those are offset by large gains in other years. We can't count on any historical trend other than to give an upside bias to the market. That bias can be countered by negative headlines from any source. Since we have been trading on daily headlines for the last six months the next six days should be no different.

The latest poll by the American Association of Individual Investors showed that 38% of respondents expect stock prices to remain flat over the next six months. That is the highest level since 2005. Factors quoted were European sovereign debt problems, domestic politics and lackluster economic growth.

"The sentiment numbers reflect that a short term solution to the problems here and in Europe do not exist" according to Charles Rotblut, VP at AAII. "There is also a sense of frustrations about the inability to get good returns right now."

In that same survey 33.7% of respondents expect stock prices to rise over the next six months. This was the fifth week out of the last six the percentage was below its historical average of 39% for this period. Bearish sentiment fell to 28.2% and the first time in six weeks it has been below its historical reading of 30%.

For the full year respondents, by an average of 3:1 expect the S&P to end 2012 higher. More than half expected that gain to be less than ten percent.

I view those results as somewhat positive. I believe investors are frustrated. They don't want to wait on the sidelines in cash. They want to buy something that will make a profit in 2012. They are looking for some kind of confirmation the market will improve.

The S&P closed at 1,265 and strong resistance on Friday. "IF" the +11.50 futures gain overseas on Monday were to hold through our open on Tuesday it would push the S&P well over that resistance and cause another significant bout of short covering. It may also cause fence sitters to buy some stocks. The market rallied over the last four days and anyone sitting on the sidelines has got to be kicking themselves today. They will not want to miss a breakout in progress.

We had strong gains/rebounds in SD, JEF, MDR and YHOO last week.

I am going to add some new positions on the expectations for a positive week.

Jim Brown

Send Jim an email



Current Portfolio


Current positions

Current positions


Current Position Changes


None


New Short Put Recommendations


FAST - Fastenal Co (Short Put)

Fastenal is a wholesaler and retailer of industrial and construction supplies. They sell tools, fasteners, abrasives, electrical supplies and packaging equipment. They broke out to a new historic on Friday.

I am recommending selling the Jan $42.50 put, currently 85-cents. The premium is not extravagant but the stock trend is strong and that reduces the risk.

Enter this position only if the S&P and FAST are both positive by 10:AM.

Sell FAST Jan 42.50 put, currently 0.85, stop $42.65

FAST Chart


FIO - Fusion-IO Inc (Short Put)

Fusion-IO develops and sells storage systems for data decentralization in the USA. By decentralizing storage and providing redundancy it increases the security yet provides ease of access from company servers across the country.

Fusion IPOed in June and has traded in a wide range from $15 to more than $40. The November crash took it back to $22 where it found support. It closed Friday at $26.78.

I am recommending a $22.50 strike, $4 out of the money, currently trading at 90-cents.

Don't enter this position unless FIO and the S&P are both positive before 10:AM

Sell Jan $22.50 Put, currently 90-cents, stop $23.75

Fusion-IO Chart


New Covered Call Recommendations


We had covered calls expire worthless the prior week on MMR and SD. Early last week both were flat to down and I was waiting for an uptick to sell new calls. SD saw a serious uptick on Thursday and held the gains on Friday. We profited significantly from having the stock in our portfolio without a call in place to rob us of the gains. Our cost in SD was $7.29 before the call expired and reduced our cost another -$1.20 to $6.09. The stock closed Friday at $8.56.

MMR is expected to release the initial production results of the Davy Jones 1 ultra deep well sometime over the next few days. We can either write a call today for $1.24 or wait a few days and hope for a positive spike on the production announcement and write a call at the higher strike price. I vote to write the call today and hedge our risk.


SD - Sandridge Energy $8.56 (Covered Call)

Sandridge jumped more than 30% after the company said it was considering another sale of 500,000 acres in the Mississippian play to Repsol for as much as $1.83 billion. They previously sold 500,000 acres to the company for $1 billion. They purchased more than two million acres over the last several years for a total of $350 million so they have already made windfall profits and still have a million acres left and production rights to the acres they sold.

I would expect SD to decline as the news fades but the overall impact is still very positive for the company. I am going to recommend selling the $9 call for 38-cents. We already have a nice profit and exiting at $9 would be a windfall profit for us. If SD does consolidate over the next three weeks and our call expires we will repeat the process on the next uptrend for February.

I am not placing a stop loss on this trade since our cost in the stock is only $6.09.

Sell Jan $9.00 covered call, currently 38-cents, no stop, no target.

SD Chart


MMR - McMoRan Exploration (Covered Call)

MMR is expected to release production results on their new ultra deep well over the next few days and we could see a significant spike in the stock price similar to the spike in SD. I prefer to wait and write the next covered call at that time BUT negative results from the well test could adversely impact the stock price.

I am recommending the $15 call for $1.24. If the spike occurs we will earn nearly $3 for the two plays in this stock. If not we will collect the premium and do it again in February.

Our current cost in the stock is $13.30.

Sell Jan $15 Covered Call, currently $1.24, stop loss $13.25

MMR Chart


Long Term Recommendations


None


New Aggressive Recommendations


None


Existing Play Recommendations


Links to original play recommendation

BAC - Bank of America (Long Term)

BAC - Bank of America (Update 8/31)

BZH - Beazer Homes (Long Term)

MDR - McDermott International (Long Term)

BK - Bank of New York Mellon (Long Term)

YHOO - Yahoo (Long Term Combo)

PHM - Pulte Homes (LT Leveraged Combo)

JEF - Jefferies (LT Leveraged Combo)


Margin Requirements:

There are several different formulas for determining margin requirements for naked put writing. These are normally broker specific and some can require larger margin requirements than others.

Here is the most common margin calculation for naked puts.

100% of the option premium + ((20% of the Underlying Market Value) - (OTM Value))

For simplicity of calculation simply use 20% of the underlying stock price and you will always be safe. ($25 stock * 20% = $5 margin)


Prices Quoted in Newsletter

At Option Investor we have a long-standing policy prohibiting the editors and staff from actually trading the individual recommendations in order to conform to SEC rules concerning trades.

The prices quoted in the newsletter are the end of day prices in most cases.

When discussing fills or stops the prices quoted are the bid/ask at the time the entry trigger or exit stop is hit. This is NOT a price that someone on staff actually got using a live order.

For entry/exit points at the market open the prices quoted will be the opening print. The majority of the time the readers are able to get a better fill than the opening print because of market maker bias at the open.

For trades with an opening qualification the prices quoted will be the bid/ask at the time the qualification was met.

All of these rules normally produce worse prices than an active trader would normally get. Because they are standardized there may be some cases where a price quoted was better than an actual fill. If you received a price that was dramatically different than what was quoted please let us know.