Option Investor

Daily Newsletter, Tuesday, 4/13/2010

Table of Contents

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

Market Wrap

Typical Earnings Squeeze

by Jim Brown

Click here to email Jim Brown

The rebound into the close today was a typical pre earnings spike as shorts covered ahead of a possible upside surprise from Intel.

Market Stats Table

The short squeeze into the close was rather muted because of the early morning dip. Anyone who was short had a perfect chance to cover on the morning dip. When the market returned to its highs and stalled a few bears tried to short it again at 2:PM but it was a short-lived decline. They bailed ahead of the close leaving only those who wanted to be long over the Intel earnings. Overall it was a lackluster day but at leaset there was a successful test of initial support on the dip.

Intel rallied to close at its 52-week high at $22.80 ahead of earnings. Intel reported earnings of 43-cents per share compared to 11-cents in the year ago quarter. Revenue was $10.3 billion, up from $7.1 billion. Analysts were expecting earnings of 38-cents on revenue of $9.8 billion. Gross margins rose to 63% compared to estimates of 61.3%. They predicted margins of 64% +/- 2% for the current quarter. Since everyone had already raised their estimates as the quarter progressed they were already high. For Intel to beat those already high estimates by a nickel this was a really strong quarter. They are predicting revenue in Q2 of $10.2 billion and that is well above the $9.69 billion analysts expected. On the conference call they said they would hire 1000-2000 new workers. That is the first new hires in five years. Intel shares spiked to a new 52-week high at $23.73 in after hours on the earnings news.

Chart of Intel

The other major report after the close was CSX. The railroad reported a +21% jump in earnings to 78-cents compared to 64-cents in the year ago quarter. Revenue rose +11% to $2.5 billion. Analysts were expecting 70-cents and $2.38 billion. CSX said it had invested nearly $5 billion in upgrading its network over the last three years and is investing another $1.7 billion in 2010. The CSX network spans approximately 21,000 miles with service to 23 eastern states and 70 ports. CSX did not give guidance in the release and their conference call is scheduled for Wednesday morning. Shares of CSX gained +1.50 in after hours trading to a new 52-week high.

Chart of CSX

Alcoa reported earnings after the bell on Monday. Alcoa posted a better than expected loss of $201 million from the $497 million loss in the year ago quarter. However top line revenue was less than analysts expected. Positive guidance kept the stock from tanking but it did trade down on Tuesday. The weak report from Alcoa took some of the bloom off the earnings rose with markets around the world trading down on Tuesday.

Chart of Alcoa

On the earnings calendar for tomorrow we have JPM, SCHW, YUM, ASML, GWW, ADTN and LSTR. JP Morgan will be the most watched for input on the financial sector with Schwab the backup report on retail investor trends. Yum Brands will be another reading on the health of the consumer. We saw a marked decline in spending on restaurants and fast food during the recession. Yum should tell us that spending has increased.

However, we have seen recently that consumer spending has declined slightly as gasoline prices inch upward. Demand for petroleum products has declined for three consecutive weeks. The MasterCard spending pulse report showed today that gasoline purchases fell by -3.6% last week. The Oil Price Information Service reported today that the national average for gasoline rose to $2.84 per gallon over the weekend.

Fortunately crude prices have declined for the last week and appear to be losing some of their luster. This is a very good thing for the recovery. I wrote an article last night on why oil over $85 would lead to a slow down in the recovery or even a second dip. You can read it here. Triple Digit Recovery Killer

Are you getting my daily energy newsletter? If you want to know what is happening in the energy markets on a daily basis just click the link below to sign up. The cost is FREE and you can't beat a deal like that.

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On the economic front the Import & Export Price report for March showed that import prices rose only 0.7% in March compared to a -0.2% decline in February. The majority of this gain came from a +4% jump in crude prices. On a year over year basis crude prices are up +70.2%. Outside of oil prices there are no inflationary pressures coming from the import side. This is added assurance the Fed should be in no rush to raise rates. Export prices, the money we receive for goods, rose by +4.6%.

The International Trade report for February showed the trade deficit widened to -$39.7 billion from -$37.3 billion in January. Imports and exports both rose and returned to a pattern of growth. Imports increased +1.7% to $182.9 billion and exports rose +1% to $143.2 billion. Petroleum imports increased to $22.9 billion.

On the calendar for tomorrow we have Mortgage Applications, Consumer Price Index, Retail Sales, Business Inventories, Oil and Gas Inventories and the Fed Beige Book. Also, Ben Bernanke will testify on the hill and analysts will be watching to see if he drops the "E" bomb. By that I mean will he mention the FOMC statement on April 28th may not contain the extended period language. I seriously doubt he will mention it in this appearance but anything is always possible.

Secondly the Fed Beige Book has the potential to move the market if the Fed changes its regional outlook on the economy in any material way. If they maintain a level outlook then the report will be ignored.

Ford's president Mark Fields was spreading cheer today saying demand for Ford's cars and trucks was very strong. He said Ford was benefiting from the Toyota problems as well as customer good will since Ford did not take a bailout. Fields said Ford gained 2.7% additional market share in Q1. That is the largest market share gain since 1977. To put that in perspective Saturday Night Fever and Close Encounters of the Third Kind were the hot movies in theaters at the time. Fields said the F-Series pickup now has 38.5% of the U.S. market, up from 33.2% in Q1-2009. He said sales of the Ford Fusion jumped +81% for the quarter. Ford incentives declined -$300 in the quarter while Toyota's rose by +$700. Fleet sales to government, commercial and rental-car companies rose +81% in Q1 suggesting the quarter will not be repeatable without those monster gains. Sales to retail customers rose +21% compared to an industry average of +8%.

The banking sector lost ground ahead of the JP Morgan earnings but primarily because UBS downgraded the regional banks. UBS said the sector was "poised for a meaningful pullback." UBS said the pace of earnings recovery will fall well short of expectations and the rally and current valuations are unsustainable. UBS cut HBAN, KEY, RF and TCF to sell and CBSH to neutral from buy. However, UBS said banks could continue to rise through the earnings cycle and then begin their decline.

Chart of the Banking Index

The Dow transports closed at a new 52-week high and this was before the CSX earnings. The transports are up on a combination of airlines flying full planes and making more money through charges for baggage, seating preferences and now visits to the restroom. JetBlue spiked +7.4% today after projecting a 9% improvement in March traffic and a 17% increase in unit revenue. The shippers are up on higher package volume and railroads are seeing traffic increase. This should be a positive sign for the economic recovery as long as the price of oil remains under $85. The CSX earnings should provide a significant boost to the transport average. Airlines remain a trade but not a long-term investment.

Dow Transport Chart

Now that Intel has reported blowout earnings this should mean that other tech companies will also post good results. Intel is high up on the food chain and a strong sales forecast from Intel means that companies downstream from Intel are also seeing strong sales. It also means that investors now know what the rest of the tech earnings should look like. In recent past quarters we saw the market lose momentum once Intel reported. Since Intel reported a week early in this cycle it may be premature to suggest a decline this week. However, with more than 500 major companies reporting next week including Microsoft and IBM the incentive to remain invested after next week will fade.

Volume has picked up slightly and today's dip triggered enough stops to push volume over 9.1 billion shares on a consolidated basis. Unfortunately 1.3 billion of those shares were in only two stocks. Citigroup is always at the top of the leader board with 600 million but Ambac took the top spot today with 726 million shares. Ambac (ABK) rallied from 64-cents last Thursday to $3.39 this morning. The rally in Ambac was short covering after news broke about an unexpected tax benefit and a plan by regulators to split the bond insurer from its toxic assets and leave a company that would be self sustaining and profitable. This caused a monster short squeeze before the analysts started trashing these views. JP Morgan was quick to remind traders that Ambac shares have no equity value. "We believe a short in Ambac will generate attractive long-term returns" according to JPM. Once the short squeeze ended the selling was brutal.

Chart of Ambac

The Dow has closed over 11,000 twice now but the conviction has been very weak. After two positive closes over 11,000 the Dow has only managed to add +19 points. Obviously Wednesday's open should be strong because Intel is a Dow component BUT the S&P futures are already off their afterhour's highs. The Dow futures are only up +14 points and that is chump change for the Dow.

The morning dip was exactly to initial support at 10,950 and it was immediately bought. Bulls are still alive but they are not buying the highs. The telltale signal will be when the dips are no longer bought. That will be a clear sign the bulls have left the building.

Dow Chart - 30 Min

Dow Chart - Daily

I am more concerned about the S&P and its avoidance of 1200 than the Dow's flirtation with 11,000. I believe SPX 1200 is electric fence resistance on the S&P. When that level is touched the shock could know us back into last week. Whether it will occur or whether it will be lasting is of course up for debate. This is solid uptrend resistance and the recent S&P gains have been anemic. Now that quarter end retirement cash flows have faded we could have a difficult time moving over this level. Initial support is 1190, followed by 1180 and 1170.

S&P-500 Chart - 60 Min

S&P-500 Chart - Daily

On the positive side the Nasdaq has broken through uptrend resistance at 2450 and given Intel's earnings and the impact on other tech stocks we could see further upside on Wednesday. The next material resistance is 2500-2520. At this point the Nasdaq could be the index that keeps the rest for imploding at least until the rest of the big cap techs report next week. I am not specifically bullish on the Nasdaq but the chart is positive as long as the move over 2450 continues.

Nasdaq Chart

The Russell is in "me too" mode. The close over 705 is bullish but the miniscule size of that gain shows a definite lack of conviction. Traders bought the dip to 700 this morning but the momentum faded once the 705 level was reached. It is as though everyone is waiting for a signal from everyone else. Traders have run out of conviction and fears of an impending correction are growing.

Russell-2000 Chart

In summary, all the fundamental signs are bullish. Intel had great earnings (already priced in) and guided higher. Their conference call highlights suggested strong downstream sales of products at the retail level. This should mean those downstream companies also had a strong quarter. Unfortunately all of this information was already expected but we just did not know to what degree the earnings would exceed estimates.

I continue to believe the markets will maintain a positive bias through option expiration and possibly through the early part of next week when the other major companies report. Towards the end of next week I remain cautious. With the majority of the major earnings over by Thursday and a Fed meeting the following week I am concerned that traders will soon begin to take profits and move to the sidelines.

Jim Brown

New Option Plays

Intel Beats Forecasts, Again!

by Scott Hawes

Click here to email Scott Hawes

Editor's Note:

I want to see how the market reacts to Intel's earnings prior to initiating new plays. When Intel beat forecasts on January 11 the market spiked higher but then proceeded to sell off -9% in the ensuing weeks. We iniated puts on SPY today to take advantage of any sell off.

Here are a couple trading ideas on stocks that look bullish. NBR - reversal candlestick and appears ready to break downtrend line. MRX - bounce off of uptrend line and prior support/resistance level in the $24.75 area.

In Play Updates and Reviews

Markets May Gap Higher After Intel's Report

by Scott Hawes

Click here to email Scott Hawes

Editor's Note:

Good evening traders. As the markets appear to be continuing their melt-up - closing higher 8 out of the last 9 weeks – I believe traders will be looking for reasons to take profits on their long positions in the coming days/weeks. It is getting more and more stressful to squeeze more gains out of long positions. So until the next larger directional move becomes clear I urge you to be nimble when managing positions.

Intel beat earnings expectations again today when they reported after the bell. When Intel reported on January 14 the markets traded higher initially and then sold off hard which sparked a -9% decline in the ensuing weeks. Time will only tell if something similar happens this time around so we will have to wait and see what the market tells us.

Current Portfolio:

CALL Play Updates

F5 Networks - FFIV - close: 65.21 change: +1.22 stop: 61.40

FFIV had a nice recovery today closing higher by +1.91%. The stock has broke out of the symmetrical triangle I mentioned in yesterday's updates and looks strong here, although it remains stuck below $65.50. I am becoming suspicious whether or not FFIV can ultimately break-out and reach our initial target of $69.75. Therefore, I would like to lower our target to $65.95 which will trigger our exit. Our $3.00 call is currently worth $3.40 for +13.33% gain. Should FFIV continue to rally tomorrow I will be looking to take profits and lock in a nice gain. Our stop remains at $61.40 for now. I am not suggesting any new positions at this time.

Current Position: CALL MAY $65.00 (FFIV 10E65.00) @ $3.00

Entry on April 6th at $ 65.26
Earnings Date 04/21/10
Average Daily Volume = 1.0 million
Listed on April 5th, 2010

Coca-Cola - KO - close: 55.02 change: +0.26 stop: 52.95

KO continued its bounce again off of its 200-day SMA. The stock is still above its 20-day and 50-day SMA's, however, it is entering a congestion/resistance area just overhead in the $55 to $56 area. Our options continue to do better and we still have plenty of time until May options expire. KO also tends to be a defensive play so it could rally if the overall market is weak. Our target to exit the remains at $57.00 but I will consider closing the position prior to this level if KO starts to struggle. Conservative traders should consider exiting their positions if KO rallies into the aforementioned congestion zone, with $55.25 as a potential target.

Current Position: CALL May $55.00 (KO 10E55.00) at $1.62

Entry on March 24th at $ 55.22
Earnings Date 04/21/10
Average Daily Volume = 14.6 million
Listed on March 23rd, 2010

L-3 Communications - LLL - close: 95.18 change: +0.79 stop: N/A

We initially viewed this trade as a highly speculative trade and our April 100 calls purchased for $0.30 are now essentially worthless. At this point we will need some sort of a catalyst or news event on LLL to make any money. If LLL happens to spike and the options become worth something we will sell them immediately. I am not suggesting any new positions in LLL at this time.

We chose the out of the money $100 calls to keep our capital investment very small and our position size limited.

Current Position: CALL APRIL 100.00 (LLL 10D100.00) @ $0.30

Entry on March 18th at $ 93.88
Earnings Date 04/22/10
Average Daily Volume = 908 thousand
Listed on March 17th, 2010

Occidental Petrol. - OXY - close: 85.69 change: -1.10 stop: 83.45

Oil stocks had a tough day and OXY closed down -1.27%. Crude oil struggled early but closed over +$2.00 off of its lows. OXY also struggled early but bounced off support again in the $84.50 to $85.00 level. I expect this support to hold if there is any further weakness in OXY. OXY appears poised to rally from here to new 52-week highs. But we will need crude oil and overall market strength to be in our favor. Our first target is now $88.75 which is just below last weeks highs. I am looking for OXY to rally to this level in the next week and if it does it will ensure a nice profit on our position. We'll use a longer-term target at $94.00 but this could take several weeks to achieve.

Current Position: BUY CALL MAY $85.00 (OXY 10E85.00) at $3.25

Entry on April 7th at $85.50
Earnings Date 04/29/10 (unconfirmed)
Average Daily Volume = 5.5 million
Listed on April 6th, 2010

PartnerRe Ltd. - PRE - close: 79.65 change: -0.14 stop: $78.75

PRE followed through on yesterday's bearish engulfing candlestick closing lower, but only by -0.18%. The stock closed just below its 20-day SMA and is barley holding on to its upward trend line which began on March 10. We moved our stop up to $78.75 yesterday and will step aside if the stock trades to this level. PRE has support at $79.30 and $79.00 so I think PRE could go lower in the short term before bouncing. If PRE can break-out above $81.05 it should test its October 2009 highs of $81.70 which we are going make our new first target. If PRE follows through and breaks out above $81.70 we have a good chance to reach our new second target of $83.90 (just below the late 2007 highs). Conservative traders should consider lightening up positions or taking profits if PRE rallies into the $81.00 level, which should also produce a winning trade.

Current Position: CALL MAY $80.00 (PRE 10E80.00) $ $2.40

Entry on April 6th at $ 80.55
Earnings Date 04/27/10
Average Daily Volume = 989 thousand
Listed on March 20th, 2010

Silicon Laboratories – SLAB – close: 50.51 change: +0.04 stop: 47.95

We are still waiting for a pullback in SLAB prior to initiating positions. Today's Intel earnings probably won't help our matters for a quick retracement, at least in the short term. SLAB broke out of resistance in the $49 area on Monday (4/5). The stock closed the week almost $2 higher at $50.89. SLAB is in the semiconductor sector which has been showing overall relative strength recently. The SOX index and SLAB have been holding their uptrend line, and upward channel, since February. I am expecting a retracement of SLAB down to its prior resistance line (which is now support) at around $49.25 which we will use as a trigger to buy calls. Our first target is $51.95 and our second more aggressive target is $53.95. Both of these levels are near highs from 2006 and 2003. We'll place our initial stop at $47.95.

Trigger to open bullish positions at $49.25

Suggested Position: CALL MAY $50.00, current ask $2.50, estimated ask at trigger price $1.30

Entry on April xxth at $ xx.xx
Earnings Date 4/28/10
Average Daily Volume = 762,000
Listed on April 10th, 2010

PUT Play Updates

SPDR S&P 500 Index - SPY - close: 119.74 change: +0.19 stop: 123.05

We initiated SPY May $119 puts shortly after the open today for $2.05. The S&P 500 looked vulnerable but buyers stepped in once again on weakness. The ETF still appears ready to finally break its steep uptrend line from the February lows. I remain bearish on this index and anticipate a pull back is coming soon, although it may be after options expiry on Friday. Our target is $115.50 and we have a time frame of a couple of weeks. However, if the selling picks up steam our target could be hit relatively quickly. We are using an initial stop of $123.05 but expect to lower the stop if the trade is moving our direction.

Current Position: SPY PUT MAY $119.00, entry at $2.05

Entry on April 13th at $ 2.05
Earnings Date Not Applicable
Average Daily Volume = 164 million
Listed on April 12th, 2010