Option Investor

Daily Newsletter, Monday, 1/4/2010

Table of Contents

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

Market Wrap

New Year, Old Catalysts

by Todd Shriber

Click here to email Todd Shriber
The first trading day of 2010 saw stocks get a boost from many of the same themes that delivered such tidy returns in 2009. Strong commodities trade, a weak dollar and a rise in financial stocks all helped equities move higher on Monday. After closing 2009 with a triple-digit loss, the Dow Jones Industrial erased all of that loss and then some, gaining nearly 156 points to close within striking distance of 10,600 at 10,583.96. The S&P 500 finally moved well above resistance at 1120 to finish the day at 1132.99, good for a 1.6% gain. The Nasdaq, far and away the best performer of the three major indexes in 2009, got off to a good start in 2010, gaining more than 39 points to finish the day at 2308.32.

Stats Table

For those of you that are bulls and fans of market theories and history, Monday's trade was probably an encouraging sign. The ''January Effect'' may have been in full effect on Monday when considering how the market finished 2009. The premise behind the ''January Effect'' is that stocks tend to rise in the first month of the year, particularly in the first week, after investors sold losing positions late in the previous year for tax benefits. The capital is then redeployed early in the new year with the hopes of buying stocks at better prices.

Historical analysis shows that small caps are often the best performers under the ''January Effect'' so it may not have been surprising to see the Russell 2000 turn in an impressive 2.35% gain on Monday.

Russell 2000 Chart

Getting into the weeds of the value investors place on January, the Nasdaq historically finishes the first week of the new year higher two thirds of the time. From there, nearly 57% of the remaining weeks show the Nasdaq moving higher. The S&P 500 closes higher during roughly 57% of the year's first week and then turns in positive weeks 56% of the time and the Dow closes higher for 54% of the year's first week with remaining weeks being positive almost 56% of the time.

The charts I have included below are a little dated, but they do illustrate the potency of the ''January Effect.'' The first highlights the frequency of the continuing January's trend for the rest of the year while the second illustrates the efficacy of buying small caps early in the year. Of course it should be noted that stocks were down in January 2009 only to turn in one of their best years on record, so there are exceptions to the rule.

January Effect A

January Effect B

As I mentioned earlier, many of the familiar themes that helped fuel the rally of 2009 were in play again on Monday, namely the commodities and materials trade. Crude oil closed higher for the eighth consecutive day with February futures settling at $81.65 per barrel, the highest closing price since October.

Crude Chart

Dow components Exxon Mobil (XOM) and Chevron (CVX), the two largest U.S. oil companies, were up 1.4% and 2.7% respectively. Chevron likely benefited from a bullish write-up in Barron's over the weekend. The energy sector also saw renewed speculation regarding oil majors making their way into the natural gas business. Just three weeks after Exxon announced it would purchase XTO Energy (XTO) for $41 billion, France's Total (TOT) said it will spend $2.25 billion to gain access to Chesapeake Energy's (CHK) Texas natural gas fields.

No, this is not an all-out acquisition by Total and yes, Exxon's tie-up with XTO dwarfs the Total-Chesapeake partnership in dollar terms, but Total's $2.25 billion buys it a 25% stake in Chesapeake's Barnett Shale assets. Chesapeake is the second-largest driller in the gas-rich Barnett Shale. The bottom line is Total is the world's fifth-largest oil company. It has a market cap of $147 billion. Chesapeake is worth just under $19 billion. If Total wants to buy Chesapeake outright, it could probably do so quite easily and in the wake of the Exxon-XTO marriage, investors speculated as to who the next companies to run to the altar might be. Chesapeake came up as a target and Total fits the bill as the type of firm that wants to expand its North American nat-gas presence.

Another commodities-related name that certainly started the new year on the right foot was Bucyrus (BUCY), the maker of mining and earth-moving equipment. Bucyrus enjoyed a boffo run in 2009, gaining more than 150%. As if that was not enough to encourage some positive analyst sentiment, two sell-side analysts issued positive comments on Bucyrus today, helping the stock gain more than 11% to close at $62.68. That is just 11 cents off the 52-week high, which was touched earlier in the session.

Morgan Stanley now rates Bucyrus ''outperform'' with a $71 price target after previously not rating the shares, saying that the company's recent $1.3 billion acquisition of Terex's (TEX) mining business is not being appreciated by the market. Morgan Stanley has an interesting view of appreciation and I say that because Bucyrus is up about 15% since that announcement was made. Barclays Capital chimed in as well, raising its price target on Bucyrus to $73 from $64 and boosting its 2010 earnings estimate to $3.55 a share from $2.90.

One could try to be bearish on Bucyrus, but the chart below shows that might be an especially painful endeavor.

Bucyrus Chart

Even the beaten down oil refiners were in the green on Monday after Deutsche Bank upgraded Frontier Oil (FTO), Sunoco (SUN), Tesoro (TSO) and Valero (VLO). Deutsche said demand is improving and if that trend continues, OPEC will be forced to boost production, which would improve margins for the refiners. Frontier Oil and Tesoro were upgraded to ''buy'' from ''hold,'' leading to gains of 8.3% and 9.3%, respectively. Sunoco and Valero were upgraded to ''hold'' from ''sell.'' Sunoco gained 6% on the news while Valero was up 6.8%.

Of course good news in the commodities space is usually bad news for the dollar and that was the case on Monday when the greenback retreated against 15 of the 16 major currencies, including declines of 1.7% against both the Australian dollar and the Mexican peso and a loss of 1.5% against the New Zealand dollar, according to Bloomberg News.

Dollar Index

Dollar weakness often invites gains for riskier fare and that was evident in the performances of a couple of South American indexes. Argentina's benchmark stock index rose to a record and Brazil's Bovespa, one of 2009's top performers, shot above 70,000 for the first time in 18 months, Bloomberg reported. Combine oil's recent run, the dollar's decline and the bullish view on Brazilian equities and you have a very nice day for the iShares MSCI Brazil Index (EWZ), the largest Brazil-focused ETF. EWZ was up nearly 3.5% on Monday to close at $77.19 and if it can eclipse its November peak of $78.39, it could take out $80 in short order.

EWZ Chart

All of this stock and sector-specific news aside, this week is fairly important on the economic news front as well. With another earnings season set to begin shortly, this week's economic data points could weigh on investor sentiment. The FOMC minutes from December's meeting are released on Wednesday and if you are thinking that there is even a faint chance of rate hike in 2010, this event is worth watching. Most notable of the week's news releases will be Friday's non-farm payroll number. As Jim noted over the weekend, the consensus estimate is for a gain of 25,000 jobs in December.

While a gain is better than another month of lost jobs, the number must be taken in proper context, meaning that most of the added jobs were likely of the seasonal nature. That means that many of the folks that took those jobs will once again find themselves looking for new employment in the coming weeks and February's jobs report could be quite dour.

Taking a look at the charts, the Dow looks like it has snapped out of a six-week long trading range that saw 10,265 hold as support. Today's close above 10,583 puts the Industrials within earshot of 10,600 and that level could be surpassed as early as Tuesday. Still, volume is light as traders work their way back to their desks from holiday vacations and it is not unreasonable to expect many will be cautious to start the new year.

Next resistance for the Dow looms at 10,750, but it would not be surprising to see the Dow absorb some declines over the near-term to rid itself of the weak hands before positioning itself for another move higher. If support at 10,265 does not hold again, moves to 10,000 and then to 9500 could be in the cards.

Dow Chart

The S&P 500 has now cleared the hurdle that was 1120 and Monday's trade could be taken as a positive sign after the index closed around 1115 on Thursday, worrying some investors that the new year may start with a move below 1100. Now the issue becomes the S&P 500's to build on this momentum. Failure at these levels would likely take the index back to 1115 and if that area does not act as support, a move to 1085 could be seen. Any significant move below 1085 could mean a hasty trip to 1010-1020.

S&P 500 Chart

One day certainly does not beget a trend, but the Nasdaq's strong performance on Monday may indicate that 2009 was indeed no fluke. The Nasdaq looked like it was trying to breakout last week, but Thursday's sell-off quelled that notion. If the index becomes range-bound, it should be between previous support at 2280 and 2315. A break below 2280 would not be pretty because that will bring 2150 into play and from there things become significantly less attractive.

Nasdaq Chart

Overall, it is hard to overlook Monday's gains, but to use a baseball analogy, we are not even through the first inning of a nine-inning game. The return of normal trading volume (hopefully) as the week goes along could be one telling sign about what January will bring as will Friday's job report. It will be interesting to see if the market can gain some new leadership beyond commodities, financials and tech. The emergence of just one or two previously ignored sectors could be just the elixir the bulls are looking for to continue 2009's rally in 2010.

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New Option Plays

China & Financials

by James Brown

Click here to email James Brown


FUQI Intl. - FUQI - close: 19.42 change: +1.47 stop: 18.45

Why We Like It:
I may doubt the strength of this rally but that doesn't mean I want to miss out on it. FUQI is a Chinese jewelry maker and if shares can breakout past resistance near $20.00 and its 50-dma I think it will soar. I'm suggesting very small bullish positions if FUQI hits $20.51. If we are triggered our target is $24.75. This is an aggressive, higher-risk trade.

Suggested Options:
I'm suggesting the February calls. My preference is the $22.50 strike.

This is the CBOE's new format:

2010 (call) Feb 22.50 QXF1020B22.5 open interest= 88 current ask $0.75

Annotated Chart:

Entry  on   January xx at $ xx.xx <-- TRIGGER @ 20.51  (small positions 1/4)
Change since picked:       + 0.00
Earnings Date            03/31/10 (unconfirmed)
Average Daily Volume =        1.0 million  
Listed on   January 04, 2010         

J.P.Morgan Chase - JPM - close: 42.85 change: +1.23 stop: 41.40

Why We Like It:
The rally in the banks was very important to the market's widespread gains. This sector has been under performing for weeks and if financials can rebound then the broader market's rally may not be over yet. JPM displayed relative strength with a 2.9% gain and a breakout past its 50-dma. I am suggesting small bullish positions. Chasing this move feels aggressive so I want to keep positions small. Our target is $46.90 near the October 2009 highs. However, that's a very aggressive target since we less than two weeks before JPM reports earnings. We may want to consider holding over the earnings report. The yield curve has been very, very favorable toward banks the last few months and JPM's earnings could be stronger than expected.

Suggested Options:
I am suggesting the January calls or the February calls. If you're going to consider holding over JPM's earnings report then you'll want February calls. If you're not going to hold over earnings then use the January calls. My preference is the $42 or $45 strikes.

BUY CALL JAN 42.00 JPM-AU open interest=21467 current ask $1.51
BUY CALL FEB 45.00 JPM-BI open interest=5294 current ask $0.89

Annotated Chart:

Entry  on   January 04 at $ 42.85 (small positions 1/2)
Change since picked:       + 0.00
Earnings Date            01/15/10 (confirmed)
Average Daily Volume =       31.6 million  
Listed on   January 04, 2010         

In Play Updates and Reviews

Stocks Surge to New 52-week Highs

by James Brown

Click here to email James Brown

Editor's Note:

Traders immediately bought Thursday's dip this morning after positive manufacturing data in both China and the U.S. Overall Monday produced a very widespread rally with retail and utility stocks the only real laggards. It's common to see new money put to work at the beginning of the month/quarter/year so today's strength isn't too surprising. The question is how long will it last?

CALL Play Updates

Intl. Business Mach. - IBM - close: 132.45 change: +1.55 stop: 128.90

IBM spiked to a new 52-week high at $132.97 this morning. If shares can breakout and close above this new $130-132.50 trading range it will reinforce the current up trend.

Our first target is $134.95. Our second target is $139.00. Our time frame is about four weeks. We do not want to hold over IBM's earnings report.

Entry  on  December 28 at $131.55
Change since picked:       + 0.90
Earnings Date            01/19/10 (unconfirmed)
Average Daily Volume =        5.8 million  
Listed on  December 26, 2009         

Infosys Tech. - INFY - close: 56.76 change: +1.49 stop: 53.85

INFY was a strong performer with a 2.69% gain and new 52-week highs. The plan is to exit ahead of the January 12th earnings report if INFY doesn't hit our target first. INFY has already hit our first target at $55.75. Our second and final target is $59.50.

Entry  on  December 05 at $ 51.88 /gap down entry point
                           /originally listed at $52.46
Change since picked:       + 4.88
                            /1st target hit @ 55.75 (+7.4%)
Earnings Date            01/12/10 (confirmed)
Average Daily Volume =        1.4 million  
Listed on  December 05, 2009         

L-3 Communications - LLL - close: 87.97 change: +1.02 stop: 84.90

The action in LLL was a bit rocky. The early morning gap higher faded until traders bought the dip midday around $87. I am not suggesting new positions at this time.

I did label this an aggressive, higher-risk trade. Our first target to take profits is at $89.95. Our second and final target is $94.00. We want to exit ahead of the late January earnings report. FYI: The Point & Figure chart is bullish with a $104 target.

Entry  on  December 28 at $ 86.80 
Change since picked:       + 1.17
Earnings Date            01/28/10 (unconfirmed)
Average Daily Volume =        1.0 million  
Listed on  December 26, 2009         

NUCOR Corp. - NUE - close: 47.79 change: +1.14 stop: 43.90

Commodity-related stocks had a good day. NUE spiked to a new relative high over $48.00 before paring its gains. Shares still closed with a 2.4% rally. More conservative traders might want to raise their stops toward $45.00. Our target is $49.50. We will plan to exit ahead of the late January earnings report.

Entry  on  December 22 at $ 45.85 (1/2 position or less) /gap higher entry
Change since picked:       + 1.94
Earnings Date            01/28/10 (unconfirmed)
Average Daily Volume =        4.5 million  
Listed on  December 22, 2009         

Precision Castparts - PCP - close: 112.54 change: +2.19 stop: 109.45

The initial pop higher faded but traders bought the dip near $110.65. This could be a new bullish entry point if you keep your stops relatively tight. PCP has already hit our first target at $112.45. Our second target is $118.75. The Point & Figure chart is bullish with a $157 target (it was $131).

Picked on  December 01 at $107.35
Change since picked:       + 5.19
                            /1st target hit $112.45 (+4.7%)
Earnings Date            01/20/10 (unconfirmed)
Average Daily Volume =        817 thousand 
Listed on  November 28, 2009         

Stifel Financial - SF - close: 59.12 change: -0.12 stop: 56.45

SF under performed its peers and the market on Monday. The relative weakness might suggest SF needs a pull back. If the stock corrects then broken resistance near $57.00 should offer some support. I am not suggesting new bullish positions at this time. Our first target is $64.50, which may be a little optimistic since our time frame is January expiration. The P&F chart is bullish and points to a $70 target.

Entry  on  December 22 at $ 58.05
Change since picked:       + 1.07
Earnings Date            02/11/10 (unconfirmed)
Average Daily Volume =        207 thousand 
Listed on  December 16, 2009         

UnitedHealth Group - UNH - close: 31.53 change: +1.05 stop: 28.90

UNH gapped open higher and closed the day with a 3.4% gain. Shares have broken the short-term trend of lower highs. There is no change from my prior comments.

This was a "lottery ticket" style of play. We knew it was risky given all the political ups and downs for the healthcare bill. Our time frame was several weeks and we listed January and March calls. At this time if you choose to open new positions I'd use March calls but that would require holding over the late January earnings report (to get the most out of your March calls). Our first target is $34.00. Our longer-term target is $36.00.

Entry  on  December 10 at $ 30.31 
Change since picked:       + 1.22
Earnings Date            01/21/10 (unconfirmed)
Average Daily Volume =        819 thousand 
Listed on  December 10, 2009         

Volatility Index - VIX - close: 20.04 change: -1.64 stop: 18.95

With the market in rally mode it's only natural to see the VIX retreating. Given the strength of the market's rally I'm not suggesting new positions in the VIX right now. We'll wait and see how the week shapes up. Our next entry point might be Friday if investors end up selling the jobs report.

Our first target to take profits is at 27.50. Our second target is 32.50. We gave ourselves a relatively wide stop loss at $18.95.

Entry  on   January 02 at $ 21.68 
Change since picked:       - 1.64
Earnings Date            --/--/--
Average Daily Volume =        --- million  
Listed on   January 02, 2010         

Whirlpool - WHR - close: 81.95 change: +1.29 stop: 79.45

The bounce in WHR today looks like a new bullish entry point. WHR has already hit our first target at $84.75. Our second target is $89.00.

Entry  on  December 19 at $ 80.76 /gap higher entry
Change since picked:       + 1.19
                             /1st target hit $84.75 (+4.9%)
Earnings Date            02/08/10 (unconfirmed)
Average Daily Volume =        1.6 million  
Listed on  December 19, 2009         

Zebra Technologies - ZBRA - close: 28.67 change: +0.32 stop: 27.70

Traders bought the dip in ZBRA at its rising 10-dma. Readers may want to consider small positions on a new relative high over $28.90 and just focus on our second target. Our first target is $30.00. Our second target is $32.00 but that looks pretty aggressive and we may end up exiting early if the market does correct.

Entry  on  December 30 at $ 28.39 
Change since picked:       + 0.28
Earnings Date            02/09/10 (unconfirmed)
Average Daily Volume =        166 thousand 
Listed on  December 30, 2009         

PUT Play Updates

Fedex Corp. - FDX - close: 83.45 change: -0.00 stop: 85.51

Wow! The market surges to new highs and FDX fails to participate. This could be a telling clue about the strength in transports. I hesitate to open bearish positions with the market marching higher but we'll stick to our game plan.

I'm suggesting a trigger to buy puts at $81.90. If triggered our first target is $78.10 near the rising 100-dma. Our second target is $75.10. More aggressive traders could aim for the November 2009 lows near $72.00.

Entry  on   January xx at $ xx.xx <-- TRIGGER @ 81.90
Change since picked:       + 0.00
Earnings Date            03/18/10 (unconfirmed)
Average Daily Volume =        3.3 million  
Listed on   January 02, 2010         

Flowserve - FLS - close: 97.01 change: +2.48 stop: 98.25

FLS is on the verge of breaking resistance at its multi-week trend of lower highs. Aggressive traders could buy calls on a move over $98. I'd be tempted to buy calls if FLS can rally past $100 and its 50-dma. Until then the trend looks bearish. We'll stick to the plan.

I'm suggesting a trigger to buy puts at $93.85. If triggered our first target is the long-term trendline of higher lows, which places our exit around $88.50. I'm suggesting we exit 2/3rds to 3/4ths of our position at $88.50. We'll keep a small position and aim for $85.15.

Entry  on   January xx at $ xx.xx <-- TRIGGER @ 93.85
Change since picked:       + 0.00
Earnings Date            02/24/10 (unconfirmed)
Average Daily Volume =        612 thousand 
Listed on   January 02, 2010         

Strangle & Spread Play Updates

(What is a strangle? It's when a trader buys an out-of-the-money (OTM) call and an OTM put on the same stock. The strategy is neutral. You do not care what direction the stock moves as long as the move is big enough to make your investment profitable.)

United Parcel Service - UPS - close: 58.18 change: +0.81 stop: n/a

Rival FDX closed unchanged on the session. UPS gapped open higher but then proceeded to pare its gains by the close. UPS did manage to erase Thursday's loss so not much progress. With only two weeks left before options expire readers may want to adjust their exit price lower. I'm not suggesting new strangle positions.

January Strangle
The options suggested for the January strangle were the January $60.00 calls (UPS-AL) and the January $55.00 puts (UPS-MK). Our estimated cost was $1.35. I would plan to sell if either option hit $3.50 or more.

Picked on  November 21 at $ 57.99 /gap open entry
Change since picked:       + 0.19 
Earnings Date            02/02/10 (unconfirmed)
Average Daily Volume =        4.7 million  
Listed on  November 21, 2009