Option Investor

Daily Newsletter, Wednesday, 1/6/2010

Table of Contents

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

Market Wrap

Reports Galore, but Indexes Tread Water

by Judy Alster

Click here to email Judy Alster
It seems to have been my fate the last couple of weeks to write my column on borrrrring days. Really, Wednesday was hardly worth opening your eyes to look at. The Dow traded in a 48-point range which works out to what, less than half a percent, and the S&P500 and the Nasdaq toddled along much the same, although the S&P managed just barely to scrape to a new high.

If the market had only the Challenger job cut report and the ADP employment report, it might have been a mildly better day, as both showed improvements over the previous periods.


The Institute for Supply Management had a fair non-manufacturing reading for December, with output and employment up but new orders slowing.


But the Federal Open Market Committee reported in the minutes of their last policy-setting meeting that they continue to be concerned about the housing market, among other things, and that kind of stalled the afternoon. Advancing issues and volume beat the decliners on the NYSE, but not the Nasdaq.


In any case, a few stocks deserve a mention above the fold, as they used to say in what used to be the newspaper publishing business (that's the top half of the page). For instance, Family Dollar Stores (FDO) had a fine day, along with some of its retail peers. The discounter said Wednesday that its fiscal first-quarter profit rose 14% on increased customer traffic. Net income climbed to $67.6 million or 49 cents a share from $59.3 million or 42 cents a year ago, beating estimates by 2 cents. Sales in the quarter, which ended Nov. 28, were up 3.9% to $1.82 billion; same-store sales were up 2.4%. Family Dollar, who owns more than 6,600 stores in 44 states, sees Q2 same-store sales rising 2% to 4% and per-share profit up 65 cents to 70 cents from last year's 60 cents, beating forecasts there too after December holiday sales turned out better than expected. The company even managed to widen gross margins by reducing freight costs and seasonal markdowns.

It's no mystery why discounters like FDO, Target, Costco and Wal-Mart have outperformed full-price retailers in the downturn: because when you and your spouse are worried about your jobs, you don't shop at Barney's or Harry Winston. Investors were all over the stock like wallpaper, sending it up over 11%:

FAMILY DOLLAR -- good place to go when you're worried about dough:

Dollar Tree (DLTR) also had a good day, up 2.35 or 4.95% to $39.91, Target (TGT) put on 70 cents or 1.44% to $49.93 and Costco (COST) was up 77 cents or 1.3% to $60. In fact, except for a sideways two-step last spring, the S&P Retail Index ($RLX) has had a stunning run almost straight up since March, gaining 81% to close today at $413.96.

Also announcing earnings was RPM International (RPM). The coatings and sealant maker reported a bigger-than-expected increase in Q2 profit of $55.9 million or 43 cents per share, up 34% from $41.7 million or 33 cents a year ago. Its net income and cash flow were at record highs despite a 3.5% decline in net sales, offset partly by acquisition growth. The company's industrial sales in international markets held up well despite a troubled global economy, and its consumer segment showed organic growth of over 3%. RPM too had extremely heavy volume, but on the sell side, despite raising its yearly earnings target from a high of $1.31 to a high of $1.45.


RPM's stock has more than doubled since March. As companies and consumers begin to spend more on repairs, renovations and redecorating, these shares could easily continue up. Another reason to like RPM is its healthy dividend of 82 cents or 4% at the current price. The dividend has been rising slowly but absolutely steadily since 1993.

Another industrial equipment provider, Fastenal (FAST), jumped to a 52-week high after an upgrade. Even though the nonresidential property market remains in a hole, one analyst likes the changes the company has made over the last year: a commitment to store openings, a 17% staff reduction and better inventory management all should stand the company in good stead as the economy creeps forward. Investors responded enthusiastically:


Fastenal, too, pays a dividend -- 74 cents annually, or about 1.6%.

Monsanto (MON), the world's biggest seed provider, said after the close Wednesday that it lost $19 million in the first quarter as global sales of its Roundup herbicide sank in the face of generic competition. The company's loss amounted to 3 cents per share versus a profit of $556 million or $1 per share a year ago; revenue fell to $1.7 billion from $2.65 billion, falling sharply in the chemical division and slightly in seeds. Roundup sales have been flagging for years and Monsanto has been shifting focus to its growing biotech seeds division; the company is betting its future on developing new patented crops with higher yields, greater pest resistance and more profits. This is very, very big business and Monsanto ha a full pipeline. The company has moved some dozen 11 new crops further to commercialization over the last year, including the first biotech seed developed for international markets, which have been slower to adopt the technology than the United States. The stock was up nicely on the day:

MONSANTO, from weeds to seeds:

On to Wednesday's economic reports, the most eagerly-anticipated of which was minutes of the last Federal Open Market Committee Meeting.

As expected, the Fed left interest rates unchanged at the record low 0% to 0.25% to stimulate borrowing and it’s hoped, growth. It was a very cautious report, raising no false hopes, but with a couple of glimmers of optimism. Out of consideration for my readers, I'll condense into a medium nutshell what the report told us the Fed more or less predicted at its December meeting:

Even more stimulus may be required . . . . We must watch the impact of the low, low dollar since it tends to raise the cost of the U.S.'s monster imports and could lead to inflation . . . . It may become necessary to increase purchases of debt instruments if the economy weakens any more, even though the current purchase programs is set to end in March . . . . There was some disagreement about ending the Fed's purchase of mortgage-backed securities: a few said they should think about buying even more; but at least one member said, in effect, Nonsense, we should stop buying right now and even think about selling back what we have (It wasn't the only area of debate) . . . . Layoffs are slowing and temp hiring is up, but firms aren't doing much hiring and unemployment will remain high (recall that in the previous meeting the Fed cut its unemployment projections), and tight credit, weak demand and a frail economy are still preventing employers from hiring . . . . Growth will strengthen over the next two years . . . But output won't be exciting . . . . . . . Commercial real estate will continue to deteriorate . . . . Inflation should stay below 2% throughout this year . . . . Real GDP will improve but recovery is still expected to be very sluggish . . . . Moderate economic growth strengthened in the fourth quarter and will continue through 2010 and into next year . . . . And there won’t be a bubble in asset prices.

So . . . . some faintly bright spots, but intractable unemployment along with tight credit and threats of inflation will remain the big shadows over the market and the economy in the months to come, trimming income and thus keeping a damper on consumer and capital expenditures. The report didn't have a perceptible effect on the markets.

MARKET INDEXES, Wednesday, Jan. 6:

On Wednesday the Institute for Supply Management released its non-manufacturing report for December. It was mixed. Output and employment are improving, it said, but new orders are slowing down. The "headline composite" rose 1.4 points from November to 50.1, for three months of growth out of the of the last four but indicating very little month-to-month change in overall activity for the bulk of the economy.

New orders, the sine qua non of business, fell month over month but at least it was the slowest decrease in four months. Reflecting previous gains in orders, the business activity component, the rough equivalent of a production reading, rose more than 4 points to 53.7. With production increasing, the employment index, though still below 50 to indicate month-to-month contraction, rose nearly 2.5 points to 44, which should raise expectations regarding Friday's payroll report. Both stocks and commodities took an immediate dip in response to the results. The ISM wisely doesn't try to cram all of this into a multi-line graph, opting for a succinct and helpful table:


Respondents' comments varied by industry and were either slightly optimistic about business conditions, or neutral. For the record, the seven industries reporting growth in were agriculture, forestry, fishing & hunting; retail trade; other services; professional, scientific & technical services; public administration; health care & social assistance; and finance & insurance. The nine decliners were arts, entertainment & recreation; educational services; utilities; management of companies & support services; accommodation & food services; real estate, rental & leasing; transportation & warehousing; wholesale trade; and construction.

The Mortgage Bankers' Association, back at their desks, reported their index up 3.6% last week after dropping 4% in the Dec. week. The refinance index fell 1.6% last week after plummeting 30.5% in Christmas week, which doesn't count. (Can you really imagine somebody saying, "We couldn't afford to refinance the mortgage and buy Christmas gifts for the kids, so naturally we refinanced"?) Something new happened: The average 30-year mortgage rose to 5.18% in the latest week, up from 5.08%. There's concern that interest rates may begin to rise as economic growth picks up and the Federal Reserve winds down its purchases of mortgage-backed securities. Well, rates couldn't stay in fantasy land forever.

In some not-terrible employment news, payroll-processing mammoth Automatic Data Processing (ADP) said private-sector employers cut 84,000 jobs in December, the fewest since March 2008. Although higher than expected, It was the ninth straight month that job losses narrowed from the previous month. (The number of cuts in November was revised down to 145,000 from the previously reported 169,000.)

The service sector reported job growth for the first time in 21 months, with an increase of 12,000 jobs in December -- though that could be because of an expansion in temporary employment. The figure was offset by a loss of 96,000 in the goods-producing sector and a drop of 43,000 manufacturing jobs; we're still waiting for an upturn in employment at plants and on construction sites. Not a true fan of the happy ending, ADP said it expects the jobless rate to edge higher to about 10.25% during the first quarter of this year and linger for the next two years, hovering above 9% by the end of 2010 and higher than 8% at the end of 2011. Its results agree for the most part with the government's:


As for planned job reductions, they fell in the fourth quarter to the lowest level in more than nine years, according to the tally kept by outplacement firm Challenger Gray & Christmas. Big U.S. companies announced 45,094 job reductions in December -- the fewest since the recession began two years ago. December's total was down 10% from November's 50,349 and down 73% from December 2008. In Q4, companies announced just 151,121 job reductions, the fewest since early 2000 and down 67% from the fourth quarter of 2008, Challenger said Wednesday. For all of 2009, big companies announced 1.288 million job cuts, up about 5% from 2008's total and the most since 2002. About 70% of the year's total occurred in the first six months of the year. Challenger considers it a "promising sign of fewer job cuts in 2010."

Layoffs slowed in the second half for most of the hardest-hit sectors, including retail (down 85% from the first half to the second), industrial goods (down 62%), autos (down 54%) and government and nonprofits (down 33%).

The Energy Information Administration said demand for gasoline and most distillates held steady at the same time that refinery output and imports rose. Result -- builds in most petroleum inventory readings last week. Crude stocks rose 1.3 million barrels with gasoline up a steep 3.7 million barrels; inventories of distillates dipped slightly. One interesting detail is a continuing rise in demand for jet fuel, this at a time when news out of the airline sector has been downbeat. Oil prices swung wildly in reaction to the results, first up about $1 to $82.40 and then down to as low as $81, closing the day around up 1.7% $83.18 a barrel, down from a new 52-week high of $83.52 and then about 40 cents lower after hours. The closely-oil-industry-tracking Powershares-DeutscheBank Oil Fund (DBO) was up, but how long can this vertical run last?

Powershares-DB Oil Fund (DBO):

Kraft Foods (KFT), much in the news lately with its persistent $16 billion hostile bid for British confectioner Cadbury, was up again today. To recap, the company is raising cash for the purchase by selling its very profitable North American frozen pizza business to Switzerland's Nestle. But not before Warren Buffet, whose Berkshire Hathaway (BRK-A) owns 9.4% of Kraft, said it opposed Kraft’s plan to issue up to 370 million new shares to support its Cadbury offer, thereby much diluting the stock. “The share-issuance proposal, if enacted, will give Kraft a blank check allowing it to change its offer to Cadbury — in any way it wishes — from the transaction presented to shareholders in the proxy statement,” Berkshire said. By selling the pizza unit for $3.7 billion in cash, Kraft raised money to increase the cash portion of its Cadbury offer, though it did not raise its overall price.

The company is under some pressure not to dilute the stock too greatly The final bid is due Jan. 19 and Kraft shareholders will vote on the new shares proposal on Feb. 1. (Note to Kraft CEO Irene Rosenfeld: My mother owns 300 shares and is voting No. Don't try to stop her.) Kraft has a significant and growing presence in China. Apparently the Chinese love Oreos and Tang, which they drink hot. The stock gapped up Tuesday on huge volume and inched up again Wednesday:

KRAFT FOODS (KFT)--Do we need Cadbury, says Buffet:

Commodities, which in general had a great 2009, moved up Wednesday. Natural gas contracts gained 6.2% to $6.01, gold was up 1.6% to 1,136.50 an ounce and zooming silver added 2.1% to $18.18 an ounce; precious metals were today's stars. Platinum, which plunged 66% from its record high of $2,273 per ounce in early 2008 to a low of $763 per ounce a few months later, has recovered by 104% to $1,556 per ounce.

Stillwater Mining (SWC) -- platinum and palladium are soaring:

The volatility/complacency indicator, the VIX, continues to edge below 20, its supposedly magic "Sell" number. But is it? Can the VIX continue to drop -- it closed today at 19.16, a 52-week low -- while the market moves higher? Sure it can. It's not common, but it's been done. Look at this graph for roughly January 2003 through mid-2008. The VIX fell below 20 on June 30, 2003 and the market kept getting higher. The VIX hit 15 in September of 2004, and the market kept getting higher. Finally, the VIX fell to 10 -- not a typo -- in early 2007. Then, several months later, only after the VIX has spiked up did the market realize where it was and like Wile E. Coyote suddenly discovering that he had walked right off a cliff, it fell with a thud. Moral: The VIX may be better at calling a bottom than a top.


On tap for Thursday are jobless claims, the natural gas report and the Bank of England interest rate reports, which could be movers. There's more job news from the Monster employment index and retails news from chain store sales. All eyes will be on Friday's report of the employment situation.

New Option Plays

Investors Waiting for the Jobs Number

by James Brown

Click here to email James Brown

Editor's Note:

The market didn't make much progress today in spite of the ISM services data and the ADP employment report. I strongly suspect that stocks will drift sideways until Friday's non-farm payroll report. More importantly I'm concerned that stocks could see a sell-off on the jobs data since expectations are growing for positive job growth. Thus the market could get disappointed or just "sell the news".

I am not adding any new trades tonight. While the trend is up I would try looking for some potential short candidates just in case the market does roll over. A few sectors that caught my eye tonight were:

The homebuilders look bullish. Oil service stocks are strong but look a little bit overbought. The rally in financials is very encouraging for the overall market but they too look a tiny bit overbought. You could wait for a dip in the oil service or banking stocks. I would also cast a wary eye on the transports. I'm concerned that the bounce in the transports might roll over.

In Play Updates and Reviews

Nucor Hits Our Target

by James Brown

Click here to email James Brown

Steel stocks continue to show relative strength. Meanwhile the volatility index sinks to new lows.

CALL Play Updates

FUQI Intl. - FUQI - close: 20.78 change: +0.45 stop: 18.45

The rally in FUQI continues. The stock broke through the $20.50 level and hit our trigger to buy calls at $20.51. The play is open and we're aiming for $24.75. Broken resistance near $20.00 should offer new support but FUQI can be a little volatile so I'd actually watch the $20.00-19.50 zone for support. More conservative traders might want to inch up their stop loss. This is an aggressive, higher-risk trade.


Entry  on   January 06 at $ 20.51   (small positions 1/4)
Change since picked:       + 0.27
Earnings Date            03/31/10 (unconfirmed)
Average Daily Volume =        1.0 million  
Listed on   January 04, 2010         

Intl. Business Mach. - IBM - close: 130.00 change: -0.85 stop: 128.90

I'm a little concerned with the action in IBM. Granted the big caps didn't move much today with the DJIA up one point and the S&P 500 up less than one point. Unfortunately the intraday chart has IBM sliding lower and on the verge of breaking what should be support near $130.00. We already have a relatively tight stop at $128.90. If shares don't bounce soon it looks like we could get stopped out. Readers may want to wait until after Friday's jobs report before launching new positions.

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:       - 1.55
Earnings Date            01/19/10 (unconfirmed)
Average Daily Volume =        5.8 million  
Listed on  December 26, 2009         

Infosys Tech. - INFY - close: 56.11 change: -0.87 stop: 54.75 *new*

We have about three days left before INFY's earnings report. I'm not suggesting new bullish positions and more conservative traders may want to exit early. I am raising our stop loss to $54.75. 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:       + 4.23
                            /1st target hit @ 55.75 (+7.4%)
Earnings Date            01/12/10 (confirmed)
Average Daily Volume =        1.4 million  
Listed on  December 05, 2009         

J.P.Morgan Chase - JPM - close: 43.92 change: +0.24 stop: 41.40

Banks continued to rally and JPM added another 0.5%. You could argue JPM is a little bit short-term overbought. If you're looking for a new entry point wait for a dip near $42.50-42.00. Although I might suggest waiting until after we see the market reaction to the jobs report on Friday.

The target for our aggressive, short-term trade is the $46.90 level. The plan is to exit ahead of earnings but I'm considering holding a small position over the earnings report.

Entry  on   January 04 at $ 42.85 (small positions 1/2)
Change since picked:       + 1.07
Earnings Date            01/15/10 (confirmed)
Average Daily Volume =       31.6 million  
Listed on   January 04, 2010         

L-3 Communications - LLL - close: 87.57 change: +0.20 stop: 84.90

LLL is still consolidating sideways. I'm concerned that investors could be using the market strength to exit LLL. The stock isn't moving and technical indicators are starting to roll over. More conservative traders may want to raise their stops. 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:       + 0.77
Earnings Date            01/28/10 (unconfirmed)
Average Daily Volume =        1.0 million  
Listed on  December 26, 2009         

Precision Castparts - PCP - close: 114.90 change: +0.46 stop: 109.45

PCP continues to bounce with a 0.4% gain but the stock is still trading under resistance at its December highs near $115.60. I'm not suggesting new positions at this time. PCP has already hit our first target at $112.45. Our second target is $118.75. More aggressive traders may want to aim higher but I would not hold over the late January earnings report.

Picked on  December 01 at $107.35
Change since picked:       + 7.55
                            /1st target hit $112.45 (+4.7%)
Earnings Date            01/20/10 (unconfirmed)
Average Daily Volume =        817 thousand 
Listed on  November 28, 2009         

TORO Co. - TTC - close: 41.90 change: -0.10 stop: 40.90

I'm surprised but there was no follow through on yesterday's intraday bounce in TTC. That's okay and it's why we listed a trigger to open positions. Nothing has changed.

I'm suggesting a trigger to buy calls at $42.60. We'll use a stop at $40.90 but more conservative traders may want to cinch up their stops toward Tuesday's low (41.45). If triggered at $42.60 our is $45.90. We do not want to hold over the February earnings report.

FYI: I'm still concerned about a potential market correction in January so keep your positions small to reduce your exposure.

Entry  on   January xx at $ xx.xx <-- TRIGGER @ 42.60 (small positions)
Change since picked:       + 0.00
Earnings Date            02/18/10 (unconfirmed)
Average Daily Volume =        289 thousand 
Listed on   January 05, 2010         

UnitedHealth Group - UNH - close: 31.79 change: +0.31 stop: 28.90

UNH continues to bounce but I'm not expecting any fireworks from this stock as the market will probably trade sideways until Friday's jobs report. In the news today UNH announced plans to buy back $750 million in debt. I am not suggesting new positions at these levels.

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:       + 1.48
Earnings Date            01/21/10 (unconfirmed)
Average Daily Volume =        819 thousand 
Listed on  December 10, 2009         

Whirlpool - WHR - close: 81.06 change: -0.72 stop: 79.45

WHR is still consolidating sideways. I'm growing nervous as we approach the jobs report. More conservative traders may want to exit on Thursday. You could always jump back in later. I'm not suggesting new positions at this time but we're watching for a breakout past $82.50. 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:       + 0.30
                             /1st target hit $84.75 (+4.9%)
Earnings Date            02/08/10 (unconfirmed)
Average Daily Volume =        1.6 million  
Listed on  December 19, 2009         

PUT Play Updates

Fedex Corp. - FDX - close: 83.84 change: -0.70 stop: 85.51

While yesterday it looked like FDX might rebound out of its consolidation there was no follow through today. Our plan remains unchanged. I'm suggesting a trigger to buy puts at $81.90. If triggered our first target is $78.10. 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         

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: 57.85 change: -0.43 stop: n/a

Hindsight is usually 20/20 and I wish I had recommended UPS as a candidate for the Option Writer newsletter. The stock has been stuck in a trading range for weeks! 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:       - 0.14 
Earnings Date            02/02/10 (unconfirmed)
Average Daily Volume =        4.7 million  
Listed on  November 21, 2009         


NUCOR Corp. - NUE - close: 49.57 change: +1.45 stop: 43.90

Target achieved. Steel stocks were showing strength and NUE rallied to resistance near $50.00. The high today was $50.10. Our target to exit was $49.50.


Entry  on  December 22 at $ 45.85 (1/2 position or less) /gap higher entry
Change since picked:       + 3.65 <-- target hit @ 49.50 (+7.9%)
Earnings Date            01/28/10 (unconfirmed)
Average Daily Volume =        4.5 million  
Listed on  December 22, 2009         

Volatility Index - VIX - close: 19.16 change: -0.19 stop: 18.95

The market did not make much progress today but the tone was still bullish and the VIX index sank to new lows. Our stop loss was hit at $18.95. Our play is closed but more aggressive traders may want to seriously consider re-launching a small bullish position on Thursday in case the market plunges on a "sell the news" move following the jobs report on Friday. Investors seem to be expecting good news so there is the potential for a big disappointment.


Entry  on   January 02 at $ 21.68 
Change since picked:       - 2.73 <-- stopped out @ 18.95 (-12.5%)
Earnings Date            --/--/--
Average Daily Volume =        --- million  
Listed on   January 02, 2010         

Zebra Technologies - ZBRA - close: 28.62 change: -0.05 stop: 27.70

Ouch! ZBRA was downgraded to an "under perform" this morning and the stock gapped open lower at $27.41. That's below our stop loss at $27.70 so the play was closed immediately. The bounce back is encouraging but I'm not suggesting new positions. You may want to keep ZBRA on your watch list for a breakout past $29.00 again.


Entry  on  December 30 at $ 28.39 
Change since picked:       - 0.98 <-gap down exit @ 27.41 (-3.4%)
Earnings Date            02/09/10 (unconfirmed)
Average Daily Volume =        166 thousand 
Listed on  December 30, 2009         


Flowserve - FLS - close: 100.80 change: +2.71 stop: 98.25

FLS displayed relative strength and rallied past resistance near its 50-dma and the $100.00 mark with a 2.7% gain. I couldn't find any specific news to account for the relative strength. Yesterday I suggested that nimble traders may want to buy calls on a breakout past $100. I'm dropping FLS as a bearish candidate. The stock never hit our trigger to buy puts at $93.875.


Entry  on   January xx at $ xx.xx <-- TRIGGER @ 93.85
Change since picked:       + 0.00           *never opened*
Earnings Date            02/24/10 (unconfirmed)
Average Daily Volume =        612 thousand 
Listed on   January 02, 2010