The markets don't appear worried about weak economics or poor fundamentals. It must be the silly season for politics.

I am starting to hear the term Romney Rally so often that it may turn into a self fulfilling prophecy for the markets. Sometimes if everyone says something enough the herd will start believing it and invest in that direction. That could be what we are seeing today and the reason why the markets have moved to new three month highs despite a crummy earnings cycle.

August is historically the worst month for the S&P over the last 20 years but investors don't seem to be worried. However, there is another historical trend that could be in play besides the elections. The first five days of the month typically see higher cash flows from retirement contributions. With volume so low and headlines so rampant we could just be seeing the impact of that money coming to market. Talk of imminent new highs always attracts more money into funds. Nobody wants to miss the breakout and contributions increase as funds are shifted from money markets back into stocks and stock funds.

However, the bigger cycle is the election. Since 1950 the market has gone up between 8% to 12% from July to December according to Jordan Kotick. Apparently the existence of the election and the possible changing of the guard inspires people to invest. The worse the economic conditions the more likely the election will invigorate investors. I assume they are hoping new blood will change things for the better. People who believe in that theory have not looked at the chart for 2008.

Economics were terrible and getting worse and an unfavorable president was term limited from running for reelection. Voters were hoping for a change but the market was not going up. Obviously this was the beginning of the Great Recession bear market so we really can't use this as an example of election investing.

Dow Chart - Fall of 2008

If you go back to August of 2000 the Dow gained +1,000 points. Unfortunately it then fell -1,746 points in September to bottom at 9,654 in October.

Apparently the election cycle historical trends are valid only over the long term as in decades of history. That way the big gains in some years offset the big losses in others. The question for us today is what type of cycle will we see this August?

The trend appears to be higher highs and higher lows. Until that trend breaks with an S&P print below 1325 we have to go with the trend. The trouble is of course that 1325 is -70 points below the 1394 close today.

Instead of "selling" the top with puts we need to wait until the next dip to load up again. There have been five dips since late May and each has seen a higher low. If I had Aladdin's lamp I would wish for a dip to 1350 this week to give us another higher low that would be buyable or in our case sellable.

While I am borderline bullish about the market's new highs I am still skeptical to some extent until we see conformation above 1406 and then 1422.

We closed some profitable positions last week so the portfolio is fairly skinny but that also means less risk.

I suggest we continue to be cautious until we have a better idea about direction for August. After the current earnings cycle where 60% of reporters have missed revenue estimates and 63% have warned on future guidance you would think the direction would be clear. However, 67% have beaten drastically lowered earnings estimates so the herd is still partially bullish.

I am closing the Herbalife position early to capture the nearly $10 profit from the November put. Better safe than sorry and that is a lot of money at risk if a sell off appears.

Jim Brown

Send Jim an email



Current Portfolio


Current positions

Current positions


Current Position Changes


HLF - Herbalife (Short Put - Close)

The Nov $55 short put on Herbalife has declined in value nearly $10 since we instituted the position. HLF shares rebounded for two months but appear to be stalling after the big earnings bounce. I am concerned we could see some profit taking after that two month rally. I am recommending we close that position and take profits ourselves since a $10 gain is no small deal! Better safe than sorry.

Buy to close HLF NOV $55 Put, entry $15.80, currently $6.00, +9.80 gain.

HLF Chart


JPM - JP Morgan (Short Put - Closed)

The August $33 short put on JPM has declined to 19 cents with three weeks remaining. As recommend the position was closed on Tuesday. With JPM only $3 above the strike any bad news over the next three weeks could put us in danger.

Position: Short Aug $33 Put, entry $.87, exit .19, +0.68 gain

JPM Chart


CELG - Celgene (Short Put - Closed)

The Celgene August $60 put has declined in value to 11 cents with three weeks to go. As recommended the position was closed on Tuesday.

Position: Short Aug $60 Put, entry $1.14, exit @ .11, +1.03 gain

CELG Chart


NUS - NuSkin (Short Put - Closed)

The NuSkin August $40 put has declined in value to 30 cents. This position was closed as recommended on Tuesday. Volatility appeared as expected and closing was the right call.

Position: Short Aug $40 Put, entry $.95, exit @ .30, +.65 gain

NUS Chart


IOC - Interoil (Short Put - Close 8/10, Raise Stop)

Gains in Interoil have slowed with the stock stalling at the $87.45 level. Interoil has earnings on August 13th so I am recommending we close this position at the open on Friday August 10th. That is still over a week away but I don't want it to slip up on us so I am raising the stop loss again.

I am raising the stop loss to $83.75.

Position: Short Sept $60 Put @ $2.75, Stop Loss $83.75.

IOC Chart


SBUX - Starbux (Short Put)

Starbucks just keeps getting worse despite strong fundamentals. We have five more months before this position expires but shares declined another $3 last week. In order to protect ourselves against a further decline I am recommending we buy an insurance put. I believe SBUX will actually recover before year end so I am willing to stick with the position as long as I have insurance against it getting worse.

Buy SBUX Sept $42 Put, currently $1.16, no stop.

Position: Short Jan $60 Put @ $6.78, no stop.

SBUX Chart


MMR - McMoran Exploration (Short Put - Close)

The August $12 put has declined in value to 19 cents for a $2.23 gain. McMoran currently has a well that is causing some severe problems and we could see negative news at any time. I am recommending we close this position and capture the profit and reduce our risk.

Buy to close MMR Aug $12 Put, entry $2.42, currently 0.19, +2.23 gain.

MMR Chart


New Short Put Recommendations


BBY - Best Buy (Short Put)

Best Buy founder, Richard Schulze, made an offer to buy BBY for about $8.5 billion or $25 per share on Monday. The offer has been rumored for some time and Schulze has been interviewing executives to help run the company once he takes over. Schulze was forced out as Chairman a couple months ago as Best Buy's profits continued to decline.

The street views the BBY offer as speculative at best. While it is a 47% premium over Friday's closing price there are challenges. First, analysts believe it is too cheap and should be more in the range of $30 a share. Secondly, Schulze does not have the financing, about $7 billion, lined up yet. He claims he has been told by several firms that it would not be a problem but he refused to give details.

There is a strong chance the offer will change or someone else will appear to make a higher offer. Best Buy is not in the best of shape but it does have a massive footprint in the retail world and Amazon has even been rumored as a potential suitor. Amazon would like to have a retail presence where it could direct shoppers to pickup merchandise or to compare items in person.

I believe the offer will keep BBY shares elevated for the next few weeks as more details emerge. If another offer appears or Schulze releases some more details on financing then the price will move higher. Either way I don't see the offer disappearing before the September option expiration and speculators may start moving into the shares in expectations for an eventual deal.

I am recommending the Sept $18 put, currently $1.10. That is $1 over support at $17 and should give us a fair balance between risk and reward.

Sell short BBY Sept $18 put, currently $1.10, stop loss $16.75

BBY Chart


New Covered Call Recommendations


None


Long Term Recommendations


None


New Aggressive Recommendations


CRR - Carbo Ceramics (Short Put - Not Triggered)

I added Carbo as a potential play last week with a trigger for entry at $68.50. I did not want to catch a falling knife. The knife quit falling but it has not yet begun to rebound. The play remains unopened but an active recommendation.

Play description from last week.

Carbo reported earnings of $1.38 last week that beat the street estimates of $1.28. Revenue rose +19%. Sales in North America increased +17% while international sales increased +20%. You would think the news would have lifted the stock. You would be wrong.

Shares of Carbo fell -$22 from the post earnings spike at $87 to Monday's close at $65. There is no reason for the selloff. There is absolutely no news.

I follow Carbo in the Oil Slick Newsletter and it is a great company. It has ZERO debt. It makes ceramic proppant for fracturing oil and gas wells. The stock was punished since January because of the industry move away from drilling gas wells to drilling oil wells. Carbo had inventory stored near the gas fields and had to shift inventory to the oil fields but that was a temporary problem. Then analysts started worrying about competition from China. That has not materialized either.

There is no material reason for Carbo to be declining that I can find. The company has a PE of 11, no debt, 20% increase in revenue and it beat the street on earnings.

I have to assume that a large investor, probably a hedge fund, decided to exit and the decline triggered the sell stops for dozens of other holders. Sometimes there is just a perfect storm of factors that depresses a stock price without regard to its fundamentals.

I don't want to catch a falling knife but I do want to take a position the instant CRR begins to rebound. I am recommending we enter a short put position with a rebound to $68.50. The options are inflated so we should be able to capture some nice premium. I do believe it will recover.

If you want to be a little more cautious you could sell the December $55 put, currently $4.60 with strong long term support at $60.

Sell short Sept $65 Put, currently $5.40 with a CRR trade at $68.50. No stop.

Alternate position:

Sell short Dec $55 Put, currently $4.60 with a CRR trade at $68.50. No stop.

CRR Chart


Existing Play Recommendations


Links to original play recommendation

EXXI - Energy XXI (LT Covered Call)

RIG - Transocean (Covered Call)

SBUX - Starbucks (Short Put Spread)

HLF - Herbalife (Short Put)

MMR - McMoran Exploration (Short Put)

JPM - JP Morgan (Short Put)

CELG - Celgene (Short Put)

NUS - NuSkin (Short Put)

FFIV - F5 Networks (Short Put)

IOC - Interoil (Short Put)


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.