Option Investor

Daily Newsletter, Wednesday, 2/17/2010

Table of Contents

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

Market Wrap

Many Reports, Not Much Action

by Judy Alster

Click here to email Judy Alster
It was a very busy day for economic reports, and most of them were pretty fair. Some good earnings were out, too. But after Tuesday's big move up (a lot of short squeezing), the indexes were only minimally impressed.


For openers, the Federal Reserve made the summary of its January closed-door meeting public Wednesday, revealing that with the economy slowly mending itself, the group was debating when to start reeling in the massive stimulus they unleashed on the economy. Some officials evidently want to start selling assets on the Fed's books "in the near future" to sop up some of the stimulus money and shrink the Fed's (embarrassing) $2.2 trillion balance sheet. Other members said No, that will drive up interest rates and hurt the economic recovery. Among those assets are mortgage securities the Fed has bought from Fannie Mae and Freddie Mac, aimed at lowering mortgage rates and bolstering the housing market. The Fed is scheduled to end $1.25 trillion worth of such purchases at the end of March but is holding the door open to extending the program if the economy weakens further.

The Fed also released a forecast Wednesday predicting unemployment will stay high over the next two years because recession-scarred Americans, both consumers and businesses, are likely to stay cautious. The Fed left rates at a record low near zero to help nurture the recovery and reduce unemployment and said they'd stay that way for an "extended period." The Fed expects the economy to grow between 2.8% and 3.5% this year, and to between 3.4% and 4.5% next year and in 2012. As it happens, to make any dent in unemployment the economy needs to grow by at least 5% a year.

All in all, no real surprises: Fed policymakers said it will take "some time" for the economy and the jobs market to get back to normal but this time several members said it might take longer than the previously-publicized five or six years. The Fed said the unemployment rate this year could hover between 9.5% and 9.7% and between 8.2% and 8.5% next year; by 2012 that will come down to between 6.6% and 7.5%. That's pretty much what it told us in November. But this time they said unemployment will remain high heading into this year's congressional elections and the presidential election in 2012. For more insights into the Fed's view of the economy and its strategy for drying up some stimulus money, stay tuned to next Wednesday's House Financial Services Committee, when Bernanke delivers the Fed's semi-annual economic report to Congress.

The Dow closed at 10,309, up 40 points or 0.39% and a sliver above resistance. At 193 million volume was okay, but lower than Tuesday. We need a breakout, and this didn't really qualify:


The S&P500 almost touched resistance on not-good-enough volume.


Similarly, the Nasdaq closed just above resistance at around 2,226, and on fair but not monumental volume.


It don't mean a thing if it ain't got that swing. Without volume and only nosing around resistance, "lukewarm" about sums it up.

The housing recovery is still inconclusive but mildly better than expected, according to the January starts report, with housing starts (groundbreaking for new homes) rebounding but permits falling. Starts in January bounced 2.8% after dropping 0.7% in December; the annualized rate of 591,000 units was above the market forecast for 580 thousand; that's up 21.1% year-over-year and the highest level in six months. The January comeback was led by a 9.2% increase in multifamily starts, following a healthy 12.6% jump in December; the single-family component edged up 1.5% after a 3% slide in December. The big winner for starts was the northeast; the only slippage was the Midwest, down 3.2%.

Permits dropped 4.9% in January, following December's 10.9% jump. Still, that's an annualized rate of 621,000 units, up 16.9% year-over-year, with the drop coming after two months of large increases owing to the winding down of the of the first round of first-time-buyer tax credits. In any event, significant seasonal factors and crazy weather shifts make it hard to ascertain the direction of housing during the winter, and this winter's weather has been, if anything, crazier than usual. The latest level for starts is an improvement but the fact that recent gains have been heavily weighted toward unsustainable multifamily starts is a little alarming. Single-family increases have been more modest and actually about flat on average in recent months.

Historically, housing starts have tended to follow the stock market up. This graph shows that in 2008, the time of most uncertainty in the stock market, housing prices experienced their steepest declines; later, the March 2009 price bottom and subsequent rebound in stocks coincided almost exactly with the turning point in housing.


But starts didn’t continue to follow the stock market up, nor are they rebounding as quickly as analysts expected. Instead they haven’t done much over the last seven or eight months. And if the next graph means anything, it's unlikely that with this near-record number of vacant housing units there will be a strong rebound in housing starts. The vacancy rate has continued to climb even after housing starts began dropping. This can be attributed to a significant number of completions, to second homes ("hidden inventory") becoming available for sale or for rent, and to some households doubling up because of tough economic times.

Another correlating factor, naturally, is unemployment. In most recessions, there's been a lag of about 16 months between the bottom of single-family housing starts and the peak in unemployment. This suggests unemployment might peak this summer since housing starts bottomed in April 2009. We'll see. HOUSING STARTS VS. VACANT UNITS:

Confirming all this, last week according to the Mortgage Bankers' Association, applications for home purchases fell 4.0%, pulling down the four-week average to minus-1.2%; applications for refinancing fell 1.2%, taking that four-week average up 1.8%. The MBA now helpfully reports the percentage of activity that refinancing comprises, and that's 69.3% vs. 69.7% the week before. Mortgage rates were little changed in the week, averaging 4.94% for 30-year loans (still a steal).

In big news today, especially if you live in New York City, Walgreen (WAG) announced plans to buy privately held and wildly ubiquitous Duane Reade drugstores. Until now, you had to travel to find a Walgreen's in the five boroughs but buying Duane Reade makes it an instant dominant player in the biggest market in the country. The nation's largest drugstore operator agreed to pay about $623 million for Duane Reade Holdings, the biggest drugstore chain in the city (seriously, sometimes you'll find two Duane Reades on a single block), where it has operated for 50 years. Walgreen is trying to improve sales by converting thousands of stores to a new, cleaner layout, trimming the total number of products the company carries, and targeting consumer tastes more closely. Duane Reade's 2009 sales totaled about $1.8 billion; Walgreen had sales of $63.34 billion in fiscal 2009, but although sales keep growing due to new store openings, analysts are concerned that it is losing market share to rival CVS Caremark and to big box retailers.


In earnings, there was good news from several bellwether companies. Much-awaited results from Hewlett-Packard (HPQ) showed profit up 25% in the latest quarter because of cost-cutting and a stronger showing from its personal-computer division. Revenue was up in most of the technology company's major divisions and HP raised its 2010 outlook, citing "accelerating market momentum." The numbers show that technology spending by corporations is mercifully creaking back to life. HP is the world's biggest maker of PCs and printers and its rising revenue shows that businesses and consumers are spending on technology; also its latest results are the first from a major tech company to include the full month of January. After the market closed Wednesday the company said its net income was $2.3 billion or 96 cents per share, well up from $1.9 billion or 75 cents per share. Without one-time items, HP said it would have earned $1.10 per share, beating the average estimate of $1.06. The stock moved during the session and again after hours:


People seem to be traveling again, or at least some of them are. Shares of online travel leader Priceline.com Inc. (PCLN) did well Wednesday as the company reported that its fourth-quarter net income doubled to $78.5 million or $1.55 a share from $34.2 million or 75 cents in the quarter last year. Revenue rose 33.4% to $541.8 million. Worldwide gross travel bookings growth accelerated in the fourth quarter.


Martha Stewart Living Omnimedia (MSO) also reported a profit for the fourth quarter, reversing a year-ago loss, as its revenue got a big boost from $10 million in deferred royalties from Kmart. The company earned $20.8 million or 37 cents per share, up from a loss of $8 million or 15 cents a year ago; analysts were looking for 30 cents. Revenue was up 20% to $87.6 million, better than the expected $84.9 million. Publishing revenue fell, but ad revenue rose for the first time since the second quarter of 2008. Broadcasting revenue and Internet revenue were both sharply higher and merchandise revenue, including that $10 million from Kmart, was up 84% to $25.7 million. All segments saw improved profitability, with operating income for publishing and broadcasting swinging to profit -- a good sign for consumer spending. The stock zoomed over 8%.


Another bellwether, agricultural-equipment maker Deere & Company, posted higher-than-expected earnings as wider margins at its farm equipment and finance units helped it to overcome weak economic conditions. Even better, the company raised its outlook for fiscal 2010 machinery sales growth to 6% to 8%, after previously predicting a 1% loss. Profitability in the tractor unit was especially impressive, with margins of nearly 10% — triple what investors had expected. The company, the world's largest maker of ag machinery, credited staff cuts and lower raw material costs. Deere reported a first-quarter of $243.2 million or 57 cents a share, up from $203.9 million or 48 cents; revenue fell 6%. Analyst expected a mere 19 cents on sales of $4.12 billion. Net income at the company’s financial services unit nearly doubled to $85.1 million, as the spread between Deere’s borrowing costs and the interest it charges customers widened. One caution: Deere warned that industry sales in Europe, especially Central Europe and the former Soviet Union would remain under pressure due to economic conditions and low levels of credit. The market liked what it heard, sending shares soaring:


In retail, the ICSC-Goldman report said that retail sales fell back steeply last week, dropping 1.6% from the prior period for a year-over-year for rate of minus 0.7% -- the first negative year-on-year rate in six months. Let's assume the declines, since they followed a week of strong gains, were caused by the miserable weather. For February, ICSC-Goldman sees sales rising a year-over-year 2% percent, down from. January's 3%. Despite last week's drop, retail stocks are coming strongly out of a three-week slump:


As regards production, a solid gain at the nation's factories, mines and utilities in January raised hopes that the upswing in industrial output over the past two quarters may foster a genuinely sustainable recovery. The Federal Reserve reported a 0.9% monthly increase for January, the seventh straight monthly gain; year over year, industrial production last month improved to plus 0.9% from minus 2.2 % the month before. Year over year there were declines in business equipment, construction, non-industrial supplies and mining but month over month, production was up in every major market and industry group -- the first time we've seen that since last August.

Manufacturing output had the sharpest increase since August, up 1% after a 0.1% fall the previous month. But all major subcomponents of production showed improvement, a truly encouraging sign for the sustainability of the economic recovery. Much of the manufacturing rise was due to a jump in auto assemblies, but gains were healthy elsewhere, as in motor vehicles & parts, which jumped 4.9% after a 0.3% decline in December. The overall capacity utilization rate is still low but rose to 72.6% from 71.9%.

Just a note lest we throw our hats too high in the air: Even though capacity utilization is up 6% from the record low set in June, it's still below normal, and far below the pre-recession level of 80.5% in November 2007. This may be the highest level for industrial production since December 2008, as witness below, but production is still about 10% below the pre-recession levels at the end of 2007.


(Rises in industrial production eventually and inevitably lead to inflationary pressures, so we wish the Fed luck in their vow to keep interest rates low for that extended period they frequently mention.)

And in the sixth straight increase, the prices of goods imported into the U.S. jumped in January, driven by higher prices for oil and gas, the Labor Department said Wednesday. Import prices rose 1.4% after a 0.2% advance in December. Roughly three quarters of the increase was attributable to higher fuel prices. Import prices rose for the sixth consecutive month and 11.5% for the year ending in January, the largest 12-month gain for the index since a 13.1% jump in the period from September 2007 to Sept. '08.

All things considered the day could have been worse, especially with background worries about Greece defaulting. On the subject of which, about eight years ago, give or take a few months, I told a friend that I thought a standard European currency was – my exact words — "the worst idea since the square wheel." For backup I cited Jane Jacobs, the late, brilliant (a word I use maybe once a decade) writer on city and national economies and urban planning. Briefly, Jacobs pointed out that as we know, when a nation's currency declines in value relative to the currencies of its trading partners, theoretically the decline itself should help correct the nation's economy through simple feedback: Automatically the nation's exports become cheaper to customer nations, which should help to increase exports; and its imports become more expensive which should help its own manufacturers. A declining currency ought to work like both a tariff and an export subsidy for exactly as long as needed, triggering the appropriate correction.

But national currencies don't really do this. They're good at carrying feedback information, but bad at triggering the appropriate adjustments. Why? For the simple reason is that nations are not discrete economic units -- although we pretend they are and compile statistics and formulate policy based on that pretense. Cities are discrete economic units. Nations include greatly-differing city economies that need different corrections at a given time, and yet they all share a currency that gives them the same information at a given time. Indeed, this consolidated information on the nation's international trade is bad for cities with respect to their foreign and domestic trade. On a larger scale it's very bad for big heterogeneous countries like Europe trying to share a single currency: You have many different economic units with different needs unfortunately all receiving the same feedback. For most of a decade the euro kicked sand in the greenback's face. But now we have Greece at last proving Jane Jacobs's point, soon perhaps to be followed by Spain. Interestingly, the major Greek phone company (OTE) has taken a 34% dive since October but the Greek Coke bottling company (CCH) is down only 7.5%. Which tells us something about priorities.

Thursday's possible market movers are the Producer Price Index and jobless claims. The natural gas and petroleum status reports are always worth watching, and leading indicators may tell us something we need to know. Earnings continue with all eyes on Wal-Mart, as well as Daimler, CBS and Reliance Steel, among others.

New Option Plays

Stocks At Resistance

by James Brown

Click here to email James Brown

Editor's Note:

I think traders need to step back and see what happens. The S&P 500 has rallied toward resistance in the 1100-1110 zone with the 50-dma overhead at 1108. The NASDAQ composite has rallied toward resistance at its 50-dma. The DJIA has rebounded to its early February highs. What happens next will be a short-term turning point with a breakout higher or a reversal lower.

We already have a full play list on the newsletter. I am not suggesting any new positions tonight. Let's see what stocks do on Thursday first.

In Play Updates and Reviews

Profits In Steel

by James Brown

Click here to email James Brown

CALL Play Updates

Autozone Inc - AZO - close: 165.62 change: +0.75 stop: 154.95

Traders bought the dip again on Wednesday morning and AZO managed another new relative high. Our first target to take profits is at $167.50. I am adding a second, more aggressive target at $174.00 but that will require AZO to break through resistance in the $170 region.

Entry  on  February 16 at $161.75 (small positions)
Change since picked:       + 3.87
Earnings Date            03/02/10 (unconfirmed)
Average Daily Volume =        538 thousand 
Listed on  February 13, 2010         

Freeport McMoran - FCX - close: 75.12 change: -0.82 stop: 71.95

Strength in the dollar sucked the wind out of the sails for commodities. Shares of FCX spiked to $76.64 this morning but quickly reversed. While FCX did pared its losses by the close it still lost 1% and appears to have produced a bearish reversal candlestick pattern. I am not suggesting new positions at this time. More conservative traders may want to exit now or exit on another bounce over $76.00. Officially our second and final target is $77.25.

Entry  on  February 06 at $ 70.23 
Change since picked:       + 4.89
                                /take profits now @ 74.17 (+5.6%)
Earnings Date            04/22/10 (unconfirmed)
Average Daily Volume =       20.6 million  
Listed on  February 06, 2010         

Sears Holding - SHLD - close: 95.32 change: +2.64 stop: 89.75 *new*

Our new call play on SHLD is off to a strong start. Shares gapped open at $93.07 and surged to a 2.8% gain out performing the rest of the market. The suggested March $95 calls opened at $3.85 this morning. I am raising our stop loss to $89.75. Our first target is $97.45. Our second, very optimistic target is $102.00.

Entry  on  February 16 at $ 93.07 (small positions) /gap open entry
Change since picked:       + 2.25
Earnings Date            02/23/10 (unconfirmed)
Average Daily Volume =        1.7 million  
Listed on  February 16, 2010         

Wynn Resorts - WYNN - close: 64.41 change: -0.50 stop: 61.99

I hope we don't eventually regret not waiting for a breakout over $66.00. Our plan was to buy calls at $65.51. Shares of WYNN opened strong this morning and quickly hit our trigger. Unfortunately the stock reversed near $66.00 to close in the red. The short-term trend still has a bullish pattern of higher lows. More aggressive traders could buy this dip but more conservative traders may want to wait for a move over $66.00 to initiate positions. Our target is $71.90, just under the January highs. This is definitely an aggressive play with a short-term time frame and a volatile sector.

Don't forget that WYNN could be heavily influenced by LVS' earnings report on Feb. 17th.


Entry  on  February 17 at $ 65.51 (small positions)
Change since picked:       - 1.10
Earnings Date            02/23/10 (unconfirmed)
Average Daily Volume =        2.2 million  
Listed on  February 13, 2010         

United States Steel - X - close: 50.85 change: -0.29 stop: 44.95

Target achieved. Shares of X gapped open higher at $51.86 and spiked to $52.47, hitting its 50-dma, before reversing lower. Our first target to take profits was at $51.75 so we should have booked a gain at the opening bell. The March $50 calls opened at $4.25. We still have a second, more aggressive target at $54.00 but I suspect X could retreat first. The 50-dma is technical resistance and I wouldn't be surprised to see X dip toward $47.50-46.00 again before moving higher.


Entry  on  February 13 at $ 49.23 (small positions)/gap higher entry
Change since picked:       + 1.62
                           /1st target hit @ 51.86 (gap open exit, +5.3%)
Earnings Date            04/27/10 (unconfirmed)
Average Daily Volume =       23.3 million  
Listed on  February 13, 2010         

PUT Play Updates

Apple Inc. - AAPL - close: 202.55 change: -0.85 stop: 210.51

There was no follow through on AAPL's breakout from Tuesday. The short-term trend is up but the bulls have to fight for it. I'm expecting resistance in the $205-207.50-210 area. We knew this was going to be somewhat volatile and an aggressive trade so we left our stop loss wide. More conservative traders may want to consider an early exit or a tighter stop loss. I am not suggesting new positions at this time.

Our first target to take profits is at $182.50. Our second target is $165.00 although we might exit at the 200-dma. The plan was to use small positions to limit our risk.

Entry  on   January 28 at $201.08 (small positions)/gap open entry
Change since picked:       + 1.47
Earnings Date            01/25/10 (confirmed)
Average Daily Volume =         26 million  
Listed on   January 28, 2010         

Abbott Labs - ABT - close: 54.75 change: +0.16 stop: 55.05

The BTK biotech index is breaking out past resistance to hit new multi-year highs. This gave ABT some strength today and shares hit $54.98 intraday. This bullishness in the biotech sector is a problem for us. More conservative traders may want to exit early. If there is any follow through higher tomorrow we will probably get stopped out at $55.05. No new positions at this time.

Our first target was $50.15. More aggressive traders can target the 200-dma or support near $48.00.

Entry  on  February 10 at $ 52.80
Change since picked:       + 1.95
Earnings Date            04/21/10 (unconfirmed)
Average Daily Volume =        7.5 million  
Listed on  February 09, 2010         

Franklen Resources Inc. - BEN - close: 100.90 change: +0.92 stop: 105.26

Yesterday it was bullish earnings news from Barclays that furled a rally in banks. Today there was bullish news from BNP Paribas. Although the banking sector didn't really perform that well on Wednesday shares of BEN did inch higher. The stock hit our stop loss to close the Feb. $95 put positions at $100.26. We still have the March $95 puts.

Entry  on   January 30 at $ 99.59 /gap higher entry point (small positions)
Change since picked:       + 1.31 
Earnings Date            01/28/10 (confirmed)
Average Daily Volume =        1.2 million  
Listed on   January 30, 2010         

Goldman Sachs - GS - close: 157.26 change: -0.14 stop: 156.05

There was not much follow through on GS' mini-breakout from yesterday. I don't see any changes from my prior comments. We are still sitting on the sidelines since our trigger to buy puts is at $147.45. More nimble traders may want to consider a failed rally at the 50-dma/200-dma as a possible entry point. If triggered our first target to take profits is at $138.00.

Entry  on  February xx at $ xx.xx <-- TRIGGER @ 147.45
Change since picked:       + 0.00
Earnings Date            04/13/10 (unconfirmed)
Average Daily Volume =         17 million  
Listed on  February 00, 2010         

Gymboree - GYMB - close: 42.05 change: +0.16 stop: 42.26

There is no change from my prior comments. Here is a repost of Tuesday's update:

I am ready to call it quits on GYMB but it looks like it's too late. Our Feb. $40 put has dwindled to nothing. Unfortunately odds are very high that we're going to get stopped out at $42.26 in the next day or two. No new positions at this time.

Entry  on   January 23 at $ 39.74 
Change since picked:       + 2.31
Earnings Date            03/04/10 (unconfirmed)
Average Daily Volume =        513 thousand 
Listed on   January 23, 2010         

Intl. Bus. Mach. - IBM - close: 126.33 change: +1.10 stop: 130.51

The rebound in IBM continues on schedule. We're expecting a bounce toward the 50-dma. Our plan is to buy puts at $127.00. More conservative traders may want to wait for a failed rally pattern first before launching positions. If triggered at $127.00 our first target is $122.00. Our second target is the 200-dma.

Entry  on  February xx at $ xx.xx <-- TRIGGER @ 127.00
Change since picked:       + 0.00
Earnings Date            04/20/10 (unconfirmed)
Average Daily Volume =        8.2 million  
Listed on  February 03, 2010         

JPMorgan Chase - JPM - close: 40.04 change: -0.03 stop: 41.65

The rally in the banks stalled on Wednesday and JPM continues to struggle with the $40.00 level and its 200-dma. Wait for the rebound to fail before considering new bearish positions. Our first target to take profits is at $35.25. Our second target is $32.00.

Entry  on   January 26 at $ 38.44 
Change since picked:       + 1.60
Earnings Date            04/15/10 (unconfirmed)
Average Daily Volume =         46 million  
Listed on   January 26, 2010         

Mckesson Corp. - MCK - close: 60.27 change: +0.39 stop: 62.51

MCK managed to bounce over round-number resistance at $60.00 but we've been expecting as much. Right now we're watching for resistance near the 50-dma near $61.40. I'm suggesting readers wait for a failed rally near its 50-dma before launching new positions. Our first target to take profits will be $54.00.

Entry  on   January 30 at $ 58.82 
Change since picked:       + 1.45
Earnings Date            01/26/10 (confirmed)
Average Daily Volume =        2.8 million  
Listed on   January 30, 2010         

MEDCO Health Solutions - MHS - close: 63.76 change: +0.69 stop: 64.26

Healthcare stocks were some of the best performers today. Shares of MHS outperformed the broader market with a 1% gain and a breakout above its 50-dma. Shares did manage to hit $64.16 but pared their gains. The $64.00 level should be resistance but given the strength in the healthcare sector today odds are pretty good we could get stopped out tomorrow. No new positions until we see the rebound reverse. Our first target is $57.50.

Entry  on  February 11 at $ 62.75 
Change since picked:       + 1.01
Earnings Date            02/23/10 (unconfirmed)
Average Daily Volume =        3.2 million  
Listed on  February 09, 2010         

Retail Holders - RTH - close: 93.74 change: +0.91 stop: 94.10

It's not looking good for our bearish play on the retail sector. The RTH has extended its gains and managed to breakout over technical resistance at the 50-dma. I am suggesting that more conservative traders STRONGLY consider an early exit right here. I am not suggesting new positions at this time. If there is any follow through tomorrow we'll probably get stopped out at $94.10. Our first target was the $87.00 level.

Entry  on   January 23 at $ 91.42 
Change since picked:       + 2.32
Earnings Date            --/--/--
Average Daily Volume =        1.7 million  
Listed on   January 23, 2010         

SIEMENS - SI - close: 87.57 change: +0.30 stop: 92.05

SI didn't make much progress on Wednesday in spite of the strength in Europe. I don't see any changes from my prior comments. I suggest that more conservative traders exit early now. I am not suggesting new positions at this time. SI has already hit our first target at $87.55. Our second and final target is $81.00.

Entry  on   January 26 at $ 94.34 /gap higher entry
Change since picked:       - 6.77
                            /1st target hit @ 87.55 (-7.1%)
Earnings Date            01/26/10 (confirmed)
Average Daily Volume =        368 thousand 
Listed on   January 26, 2010         

United Technology - UTX - close: 67.35 change: +1.45 stop: 69.05

We've been expecting a little bounce in shares of UTX and it finally showed up today. The stock gained 2.2% and closed above its 100-dma. Shares should have resistance near $68.50 and its 50-dma near $69.14. Wait for a new failed rally pattern before launching new positions. Our target to take profits is $61.00 near the rising 200-dma.

Entry  on  February 04 at $ 66.38 
Change since picked:       + 1.40
Earnings Date            04/21/10 (unconfirmed)
Average Daily Volume =        5.1 million  
Listed on  February 04, 2010         


General Dynamics - GD - close: 70.10 change: +0.25 stop: 70.55

GD continues to creep higher. Shares managed to close above $70.00 but did not hit our stop loss at $70.55. Yesterday I discussed this very possibility. We're exiting early.


Entry  on  February 10 at $ 67.64
Change since picked:       + 2.46 <-- exit early @ 70.10 (+3.6%)
Earnings Date            04/28/10 (unconfirmed)
Average Daily Volume =        2.4 million  
Listed on  February 10, 2010