Option Investor

Daily Newsletter, Thursday, 9/23/2010

Table of Contents

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

Market Wrap

Market Is Doing Its Best to Hold On

by Keene Little

Click here to email Keene Little
Market Stats

The last two evenings after the cash market closed we've seen the equity futures driven higher, as if someone was trying to erase the previous day's losses. But then after the European markets opened, our futures took a nose dive and last night was no different. Today the European PMI (Purchasing Managers Index) was a disappointment, dropping to 53.8 from 56.2 in August. That's not a big drop but it was clear the market was not comfortable with the huge September rally built (again) on the hopes that we were pulling out of the recession. In Europe, Stephen Pope, managing partner of Spotlight Ideas, said "We've been almost basking in the sunlight over very impressive growth numbers in Europe, but to suddenly see the PMI number come back took the stuffing out. It shows the private sector is not capable of stepping up to the plate yet."

That last sentence is important. Much of the "growth" in the past year or so has been a result of government stimulus. But as that stimulus money is running out (and people are not in the mood for their governments to incur more debt for more stimulus that has not worked), and now after the demand pull-forward from that stimulus, we're left with nothing to follow up. The private sector has not bought into the "recovery" and has not geared up their production for the new "demand" (hence the continued high unemployment, which is why it's been a leading indicator this time around). Business leaders can see and feel the lack of enthusiasm from the consumers and have been hoarding cash rather than invest it in new capital equipment. They're also worried about government policies and taxes and have been hesitant to commit to new projects.

Compounding the problem out of Europe are the bond vigilantes. This is the name given to bond buyers who have been expected to balk at buying more bonds at the current rates. They are requiring higher yields to compensate for what they see as higher risk. This is driving the price of bonds lower (higher yields) and the spreads are widening between some of the riskier European countries (and states and municipalities in the U.S.) and the German bonds (Germany's bonds are considered a benchmark due to their relative safety, similar to U.S. Treasuries).

News about Irish and Portuguese bonds selling off is striking fear again in the financial markets. The news about the financial troubles of these over-indebted countries continues to plague the banks. As a consequence our banks took a bigger hit today relative to the broader market, which had the S&P down more than the DOW or techs. This is a story that won't go away, disappointing those who want to see the current stock market rally continue. Reality bites sometimes. Irish and Portuguese bonds have now driven their borrowing costs to "euro-era records".

The news only got worse after our 8:30 economic reports came out. The unemployment claims rose more than expected last week, up 12K to 465K. I'm sure there's more than one politician worried about that number going over 500K again. I'm sure we'll hear some creative spinning such as "We created over a million jobs through our job creation programs and the unemployment numbers would have been 600K without us doing what we did." Whatever.

At 10:00 AM we got the existing home sales, which came in a little better than expected (4.13M vs. 3.8M), and then Leading Indicators, which also came in stronger than expected, up +0.3% vs. +0.1%. These helped a bounce that was already underway after the gap-down start to the day (the lifters arrived right on cue). The market rallied up to close the gaps and retraced a portion of yesterday's decline. The NDX, thanks in part to the semiconductors, was on fire and tested Tuesday's high. But the afternoon was spent giving back the rally and even the techs closed marginally in the red.

The high on Tuesday, following the FOMC announcement, was a very good setup for a market reversal, as I'll show in the charts. It was a classic "buy the rumor, sell the news". There were many reasons why I was looking for a market turn and being a contrarian was one of them.

Bullish sentiment has hit extremes again, at some levels not seen since the April high or in some cases since the October 2007 and May 2008 highs. This week's Investor's Intelligence numbers show 41.4% of financial newsletter writers to be bullish. This is the highest since August 11th when the number was 41.7% bulls. August was the last market top. There's also over-the-top bullishness in gold while the bearish sentiment in the U.S. dollar, at 7% bulls, matches the November 2009 low in the dollar. Across the board we're ripe for reversals.

Tom McClellan, the son of the McClellans who developed the McClellan Oscillator among others, writes a newsletter and has a free weekly chart that you can sign up for (mcoscillator.com). He and I attend the local MTA chapter meetings and he's a very sharp individual when it comes to the market. His latest chart has to do with the VIX/SPX relationship and with the high inverse correlation (-0.75) between the two he has determined that the normal move in VIX is 5.4% for each 1% move in SPX. When that relationship deviates it's telling us something.

He has plotted this deviation (blue line at the bottom of the chart) and as he shows with the lines of divergence it warns of a market turn when there is divergence (at bottoms and tops). The current negative divergence of the VIX vs. the new highs for SPX is a warning of a top, just as it was back in April. It's just another check mark in the bear's column.

McClellan's VIX/SPX chart

From the FOMC announcement on Tuesday it is clear the Fed is worried, as well they should be. For the first time they said the dreaded 'D' word on Tuesday--Deflation. They did not say disinflation but instead came right out with it and essentially said they're worried about deflation. Deflation, once entrenched, is virtually impossible for monetary policy makers to do anything about. They fully understand that they can print all the money in the world but without consumer spending, all that printed money will sit in banks' coffers. They won't be lending it out because there will be no one to lend it to.

The Fed's surrendering to the use of the word deflation means only one thing to me--they're now admitting they might actually be losing control of the monetary situation we're in (they haven't been in control but they've been thinking for years that they have). They're preparing the market and people that deflation (and a depression) might actually happen. This to me is a remarkable admission. The stock market hasn't quite grasped the meaning of this but they will as part of the next leg down in the larger bear market cycle we're in.

The Fed will now be able to go on record as saying they warned us about deflation. We can expect more talk about this as an effort to alert us but not scare us into a panic. Deflation is short-term painful, especially to debtors like the governments around the world, and for people who are still up to their eyeballs in debt, but it's not something that should be so scary to normal people. The Fed and government will be more hurt by it than ordinary people (except those who suffer job losses of course), which is why they've been fighting so hard to prevent it. It's a cleansing process and in the end we'll be set back on a path of growth that should last for a long time. It's hard to welcome pain with open arms but knowing it's what will heal us in the long term I say bring it on and let's get it over with.

A fundamental change in consumer attitude is the reduction in their desire to own more stuff and instead put more money into savings. After years of gluttonous accumulation of more and more stuff, much of it on credit, there has been a fundamental shift away from spending and more towards saving. This, probably more than anything else, is what is thwarting the Fed's efforts to re-prime the economic pump. History is replete in the evidence that once deflation becomes imbedded on the national psyche there is no chance of financial policies pulling us out of it. To believe that the Fed will succeed this time, when no other nation in history has been able to do so in the past, is to believe it will be different this time. No nation in history has been able to reverse the collapse in its balance sheet that we're witnessing today. It must simply run its course and we'll pull out when social mood shifts again (and probably after we see our debt monetized and currency debased).

Our economy depends on spenders. The world's economy depends on consumption. If we collectively stop spending so much it will hurt our economy and many others like China which are so dependent on exports (even Germany). This will cause all kinds of ramifications such as protectionist measures by Congress and other countries (it's already started) which will only exacerbate the slowdown in the global economy. But it's human nature to protect one's own turf.

At any rate, the drop in consumer spending can be seen in the chart below, which plots the data since 1959. We've been in a nice parallel up-channel since the bottom in 1984. Spending hit a high just north of 84% of personal income in about 2004-2005. It briefly dropped below the bottom of the channel near 81% as we headed into 2009 and has rebounded a little since then. Government transfer of wealth payments (unemployment, stimulus payments, tax rebates, etc.) has accounted for a significant amount of this short-term increase in spending. As we've seen with each government program, the backside of these programs is reduced spending (after pulling demand forward) and will likely lead to a drop below the low seen in early 2009.

Personal Consumption Expenditures (PCE)

A big part of the reduction in spending is a result of a significant change in savings. Between paying down debt and socking more money into savings (not the stock market since people, including younger people, have been pulling money out of the stock market) the consumer has made a major shift from habits developed over the past few decades. The chart below shows the saving rate and as you can see we've broken the downtrend line from 1975. After bottoming below 1%, from a high above 14%, the current rate of 6% has room to grow. As debt gets paid off I suspect we'll see the savings rate continue to increase.

Personal Saving Rate

Both of the above charts are very healthy for our long-term health as it re-primes the consumer which in turn will re-prime the economic pump. But it won't happen for a few more years and that's why we will continue to suffer an economic malaise that the Fed has been trying to fight. We would be much further along the correction process, with far less government debt, if the government would simply let the correction run its course. But politicians can't (won't) do that because their constituents are screaming for government to save them. We need to save ourselves since the government is going broke at an accelerating pace (they're not done trying to save us).

So what does this all have to do with the market? Whether you trade currencies, metals, stocks or bonds, it will all be greatly affected by what's happening with our economies and what's happening to our currencies. After the Fed announced they will continue to do whatever's necessary to fight a slowing economy and deflation the dollar cratered and gold rose. The obvious concern there is Helicopter Ben will live up to his promise to flood the market with more and more worthless dollars, driving the value of them down while increasing the value of "real" currency such as gold.

But deflation actually has a very different effect on these. The dollar will increase in value (because all that printed money will not make it into circulation) and all other asset classes, including gold, will decline in value. As cash becomes more valuable (you'll be able to buy more goods with fewer dollars) it becomes more expensive to pay off old debt. Other "alternate" currencies, like gold, will lose their value. That's what I'm expecting to see over the next couple of years. Following that episode, with all the money creation efforts by the Fed, we could see an explosive time of hyperinflation and then you'll want to ditch the dollar and buy as much gold as you can possibly accumulate. But that's a ways off yet and we should have enough warning that it's coming (massive bank failures for one).

In the meantime it's time to batten down the hatches and protect yourselves from another round with the bears in control of the markets. The rally from March 2009 to April 2010 was a bear market rally (correcting the 2007-2009 decline) and the sideways price action since May 2010 has been a correction to the leg down from April. We're now due another leg down. The first downside projection for the S&P is to 950 if not 870 (July 2009 low and a downside Fib projection). The weekly chart shows the projection:

S&P 500, SPX, Weekly chart

The downtrend line from October 2007-May 2008 is currently near 1160. That's the upside potential if the bulls are not finished with this market yet. But notice the weekly candle as it stands today. It could change with a rally on Friday but right now it's a bearish shooting star, or an even more bearish dragonfly doji. This is a strong reversal candle but would be better confirmed with a red candle for next week. So why did the S&P stop where it did if we've seen the high?

I copied a section of the Gann Square of Nine chart below to show the potentially important SPX 1142-1144 level. The July 2010 low near 1011 is 3 cycles up from the March 2009 low near 666. If we use 666-667 as the March 2009 low then 4 cycles up from there is 1142-1144, with 1143 being arguably THE number. When levels are 360 degrees (1 cycle), or multiples of that, from each other they are said to "vibrate" off one another and the market reacts to these levels. Don't ask me how or why. I just know that they do (sometimes scary accurate). Tuesday's high exceeded this 1142-1144 level but not on a closing basis. The highest close was Monday's 1142.71 (close enough to 1143?) and Tuesday's attempt to exceed 1144 was batted down into the close. Important? Only time will tell but that was the reversal setup I was calling for on Tuesday.

S&P 500 Gann Square of Nine chart

At Tuesday's high the SPX also came close to the top of a parallel up-channel for price action since the July low (bear flag). If it wasn't for that Gann number above it might have made it. In addition to the downtrend line from October 2007 near 1160, I'm showing the price projection at 1158 for two equal legs up from July 1st. So that's the target zone if the bulls can get another push higher next week (month/quarter end). Watch the 200-dma near 1117 for possible support (at least for a bounce).

S&P 500, SPX, Daily chart

Key Levels for SPX:
- cautiously bullish to 1158
- bearish below 1119

Updating the SPY chart from last week, when I discussed why I did not believe in the inverse H&S pattern that just about everyone was talking about, the volume pattern continued to support the idea that we were getting a head-fake break of the neckline into Tuesday's high. Tuesday's volume, the day of the break above the neckline, continued to show lower volume--not at all the kind of confirmation you need to see on a true breakout. Worse, Wednesday showed higher volume on a doji day. This indicated more than indecision and instead meant reversal in progress (indecision would have been another low-volume day). Therefore the volume pattern continues to support the notion that the break above the neckline was a bull trap (not a guarantee, just evidence).

S&P 500 SPDR Trust, SPY, Daily chart

Tuesday's high came very close to tagging the top of a rising wedge pattern since May. The wave count for it counts complete. A small break of the downtrend line from October 2007 did not hold. The doji days have been followed by a big red candle. While it can always push a little higher, that's not what this chart is telling you to do. The next big move is to new lows below July's and therefore I'm in sell the bounces mode rather buy the dips.

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- cautiously bullish above 10,800
- bearish below 10450

The Nasdaq Composite was underperforming the Nasdaq-100 during the rally and that was another warning. A lot of money was being poured into the big-cap high flyers like AAPL, which lifted the NDX. But the rest of the tech stocks were not getting as much loving. When that happens it's a bearish non-confirmation. The COMPQ pushed marginally higher than the price projection near 2347 for two equal legs up from July, and also just above the top of its bear flag pattern. Considering the setup, being overbought as well, I'd prefer the short side on the techs until proven otherwise.

Nasdaq Composite, COMPQ, Daily chart

Key Levels for COMPQ:
- cautiously bullish above 2350
- bearish below 2276

Tuesday's high came within less than a point from its price projection at 673.07 for two equal legs up from July. The sharp decline from there looks like a good reversal. It found support at its 200-dma today (near 648), which could be good for a bounce on Friday but I'd look at it as a shorting opportunity. If it's a high bounce you'll be able to lower your risk by placing your stop above Tuesday's high.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- cautiously bullish above 673
- bearish below 643

Zooming in a little closer to the RUT's chart, the uptrend line for the rally from the end of August was broken yesterday, tested in the afternoon and then followed by this morning's gap down. The bounce back up today found that trend line to be resistance again. This can't be thought of as anything other than bearish and this afternoon's steep fall away from that kiss goodbye is a strong sell signal. While we could see the RUT bounce off its 200-dma tomorrow morning I think there's an equally good chance it could gap down below it.

Russell-2000, RUT, 60-min chart

The VIX gave us a "buy" signal today by breaking above its downtrend line from May. It stopped at its 50-dma and could still reverse back down but as long as it continues to rally from here it will be a sell signal for the stock market. If we are to start the next leg down of the bear market the VIX will quickly shoot above 50. VIX calls anyone?

Volatility index, VIX, Daily chart

As mentioned at the top of tonight's report, the banks got hit relatively hard today, thanks in part to continued worries out of Europe. The KBW bank index shows a sharp selloff since Tuesday and is back below its 20 and 50 moving averages after the rally failed just shy of its 200-dma. This chart is begging to be shorted.

KBW Bank index, BKX, Daily chart

The TRAN failed right at resistance at the top of its sideways triangle pattern from May, with a completed EW count for the triangle pattern. The setup is picture perfect for the start of the next major decline.

Transportation Index, TRAN, Daily chart

With worries about Helicopter Ben starting up his fleet of helicopters the U.S. dollar took another hit this week. The DSI (Daily Sentiment Index from trade-futures.com) has the bullish percent at 7%, the same level at the August low and the November 2009 low. Being short the dollar and long the euro is a very crowded trade and ripe for reversal. The dollar has now retraced 62% of its November-June rally and is leaving a bullish divergence against the early-August low.

U.S. Dollar contract, DX, Daily chart

Another rising wedge pattern, with a completed EW count for it, can be seen for the commodity equity index. It met its Fib target near 793 and tagged the top of the wedge almost to the penny yesterday morning. Once again, it's a good setup for a reversal back down.

Commodity Related Equity index, CRX, Daily chart

The gold bugs are out in force beating the drums of hyperinflation and why it's a great time to own the shiny metal. I get the feeling they're trying to convince themselves as well. Many commodities, gold and silver included, now have a DSI reading above 90% bulls. That boat is about ready to tip over. I'd be heading over to the high side about now. Just shy of 1297 is the 127% extension of the previous decline (June-July), which often marks a reversal level. It has now pushed marginally above a trend line along the highs from December 2009 (still in throw-over territory for a head-fake break). There is always the possibility we'll see the metals spike higher in an emotional climax of buying (common in commodities) but at this point I would say holding out for more may be turning you into a hog (pigs get fat, hogs get slaughtered).

Gold continuous contract, GC, Daily chart

Oil's short-term pattern is not clear at the moment and I could argue equally strongly for another leg up as part of a larger bounce off the August low (dashed line on the chart) or for the start of a sharp decline right from here. A break below 71.50 would support the sharp break lower while a rally above 76.38 would support another move higher before it's ready for another leg down.

Oil continuous contract, CL, Daily chart

We've got durable goods orders, which are expected to get worse (-2%), and new home sales, which are expected to get worse (270K). Sounds like an opportunity for a pleasant surprise. ;-)

Economic reports, summary and Key Trading Levels

I've been looking for an end to the price consolidation/bounce for the correction since May's low and it's been very difficult to identify where and when it will be. As we headed for Tuesday's high, especially knowing it would likely occur on the FOMC announcement (which could hardly have been considered good news so thank you PPT for a nicer short entry), I was really liking the setup for a reversal. We got it and now I've been watching it closely for confirmation with the move down that we've seen the high. I wish I could say emphatically that the high is in and you should now mortgage the house and double short this market. But I can't (and besides, I wouldn't).

The fact that I'm feeling confident but uneasy about the high being in place (primarily due to the kind of pullback I've seen so far) is a good sign. Usually when I'm confident about a reversal I get bitten by something unseen. So I'm cautiously bearish out of a healthy respect for what could still happen in this market.

Pushing my unease aside, I like the setup across the board for reversals. I like the weekly candles and I like where the indexes/sectors stopped and how some leading indexes are leading the way back down. I like trading fast and strong moves in the market, no matter which way it goes and in a bear market the moves to the downside can be real money makers. The setups are there this week and if Friday is a down day, especially a strong down day, then I think we'll have a more definite answer to the question about whether or not we've seen the top. If Friday bounces back up, especially a high bounce, then next week will require caution on both sides.

I think we're moving into a period where you'll want to short the bounces rather than looking for dips to buy. I think the dipsters are going to find catching falling knives is an unhealthy pursuit. By this time next week (or as early as tomorrow) we'll know better whether or not you'll want to continue selling rallies. Good luck and I'll be back with you next Thursday.

Key Levels for SPX:
- cautiously bullish to 1158
- bearish below 1119

Key Levels for DOW:
- cautiously bullish above 10,800
- bearish below 10450

Key Levels for COMPQ:
- cautiously bullish above 2350
- bearish below 2276

Key Levels for RUT:
- cautiously bullish above 673
- bearish below 643

Keene H. Little, CMT

New Option Plays

Short Squeeze?

by Scott Hawes

Click here to email Scott Hawes


Petroleo Brasileiro - PBR - close 35.59 change +0.88 stop 33.70

Target(s): 37.40, 38.65
Key Support/Resistance Areas: 39.00, 37.50, 36.60, 34.00
Time Frame: 1 to 2 weeks

Company Description:
Petroleo Brasileiro S.A. (Petrobras) is an integrated oil and gas company. The Company operates in five segments: exploration and production; refining, transportation and marketing; distribution; gas and power, and international. The exploration and production segment includes oil and gas exploration, development and production in Brazil. The refining, transportation and marketing segment includes downstream activities in Brazil, including refining, logistics, transportation, oil products and crude oil exports and imports, petrochemicals and fertilizers. The distribution segment includes distribution of oil products through the BR retail network in Brazil. The gas and power segment includes gas transportation and distribution, electric power generation using natural gas and renewable energy sources. The international segment includes exploration and production, refining, transportation and marketing, distribution and gas and power operations outside of Brazil.

Why We Like it:
PBR announced a secondary offering announced on 9/2 and it has reportedly grown into the largest ever offering in the capital markets at $80 billion. Short interest has grown in the stock ahead of the offering as some traders think there will not be enough demand to buy the securities. However, reports continue to trickle in that indicate institutional demand is alive and well and the offering is more than 2x oversubscribed. This could create a short squeeze in the stock and I suggest we buy calls at current levels to take advantage of it. Conservative traders may want to wait for a breakout above today's high of $36.60 which will also break the primary downtrend line. Our stop will be below the recent swing low and the upward trend line that began on 8/25.

Suggested Position: Buy November $37.00 CALL, current ask $1.56

Annotated chart:

Entry on September XX
Earnings 11/11/2010 (unconfirmed)
Average Daily Volume: 13 million
Listed on September 23, 2010

In Play Updates and Reviews

Small Winner Closed

by Scott Hawes

Click here to email Scott Hawes
Current Portfolio:

CALL Play Updates

Transocean Ltd - RIG - close 59.47 change -0.42 stop 53.40

Target(s): 62.95, 64.50, 66.50
Key Support/Resistance Areas: 55.50, 58.25, 63.90, 64.90
Current Gain/Loss: -35%
Time Frame: 2 to 4 weeks
New Positions: Yes

9/23: Still not much movement in RIG and it is still consolidating on lighter volume. The main reason this position is negative right now is due to a bad entry at the open last Monday when the stock gapped higher. Now we need a breakout which is going to be tough if the broader market continues lower, but so far RIG has held its own. If things pick back up I expect RIG to do well and I view pullbacks as possible buying opportunities.

9/22: Nothing has changed and volume continues to be light as RIG is consolidating. Today the stock printed a bottoming tail hammer but I am still concerned of a broader market pullback. My comments below remain the same.

9/21 RIG broke out to a new a high today but it was quickly sold into. I continue to like the volume patterns in this stock and today's volume on the pullback was on the one of the lightest days since RIG broke higher on 9/10. However, it appears the broader may get a pullback here so we may need to exhibit some patience. New positions can be considered at current levels or on a pullback to $58.35 where there is solid support.

Current Position: Long November $65.00 CALL, entry was at $2.25

Entry on September 13, 2010
Earnings 11/3/10 (unconfirmed)
Average Daily Volume: 8 million
Listed on September 11, 2010

iPath S&P 500 VIX ST Futures - VXX - close 17.62 change +0.56 stop

Target(s): 18.45, 19.25, 20.40
Key Support/Resistance Areas: 17.50, 19.75, 20.60
Current Gain/Loss: +24%
Time Frame: 1 to 2 weeks
New positions: Yes, preferably on pullbacks

NOTE: I view this as an aggressive trade so small position size is recommended. Long VXX is a bearish play on equities, however, it is listed as long play because we are long the underlying instrument.

9/23: VXX is in an uptrend on its intraday charts and I'm expecting more to come. Readers may want to consider $18.10 as a possible exit target which could come as quick as tomorrow. This price should give you another +20% to our current gain of +24%. My primary targets are $18.45 (a gap fill) and $19.25 which I think we will see in the coming days. If the market sells off hard our final target of $20.40 could get hit fast. I'm sticking with no stop for now.

9/22: We are long VXX at the open today. I am looking for a spike higher in the coming days which means we need to experience some broader market weakness. My comments from the play release are below.

9/21: The market remains overbought and is need of a healthy pullback to regain its energy. Traders are getting complacent as evidenced by VXX printing new 52-week lows multiple times in the past week. I suggest we play for a spike in volatility in the coming days and initiate long positions in VXX at current levels. Our first two targets are +10% and +14% higher from current levels which could happen in a matter of a day or two correction if it is strong enough. If reached, these targets should produce approximately +60% to +80% gains on options positions. I am releasing this play without an initial stop, but will implement one in the next day or two.

Current Position: Long November $18.00 CALL, entry was at $1.25

Entry on September 22, 2010
Earnings N/A (unconfirmed)
Average Daily Volume: 21 million
Listed on September 21, 2010

PUT Play Updates

Archer Daniels Midland - ADM - close 33.01 change -0.38 stop 33.76

Target(s): 32.20, 31.25, 30.85
Key Support/Resistance Areas: 33.50, 31.00, 29.80
Current Gain/Loss: -30%
Time Frame: 1 to 2 weeks
New Positions: Yes

9/23: We got a little reprieve in ADM today as the stock lost -1.14%. We need the stock to break below today's low to get things moving in our direction, which will also break an intraday trend line. I suggest readers remain cautious on the position and my comments from below remain valid.

9/22: My thesis (fundamentally & technically) for entering this position is on the verge of failing and we could get stopped out tomorrow if the strength continues. I've changed the immediate target to $32.20 which is just above the 20-day SMA. $31.25 is still in the cards but ADM needs to turn lower now. The broader market strength or weakness will likely determine our fate. I suggest getting out of the way and taking the loss if our stop is hit.

9/18: Cautious comments from analysts about rising agricultural commodity prices is likely to affect ADM's business. The stock is overbought and is due for correction after an incredible run higher off of the July lows. ADM has also formed a bearish dark cloud cover technical pattern that suggests the decline is imminent. I suggest we open positions at current levels and play for a $1 to $2 move lower. The primary targets are $31.25 and $30.85 and if reached they should produce a +40% to +60% winner. Our stop is above the 52-week high set on Friday.

Current Position: Long October $32.00 PUT, entry was at $0.82

Entry on September 20, 2010
Earnings: 11/2/2010 (unconfirmed)
Average Daily Volume: 6 million
Listed on September 18, 2010

SPDR S&P 500 ETF - SPY - close 112.49 change -0.92 stop 114.10 *NEW*

Target(s): 112.10, 111.50, 110.75
Key Support/Resistance Areas: 115.00, 113.00, 110.60, 50-day, 20-day
Current Gain/Loss: -20%
Time Frame: 1 week
New Positions: Yes, if playing for a quick pullback

9/23: On Tuesday SPY printed a red candle high which has been confirmed with a red candle yesterday and another new low today. This is a fairly strong reversal pattern that doesn't happen often. It has happened 4 or 5 times over the past year and the smallest drop in the S&P was about -40 points from the red candle high closing price, with the largest being -170 points, i.e. the flash crash. A -40 point drop from Tuesday's close puts the S&P 500 at 1,100 which is near our final target of $110.75 (raised 10 cents to account for the rising 20-day SMA). As such, I'm looking for more downside but it could come fast. The 1,100 level has support which is logical spot for the dip to be bought so be prepared to either take profits or tighten stops to protect them as targets approach. We are nearing breakeven on the trade and our first target was almost hit today. My best guess is SPY will bounce after reaching this target tomorrow because it is near the 200-day SMA and a prior resistance level. But the bounce should be short lived and I'm looking for SPY to eventually trade down toward our final target. In case this analysis is wrong, let's move the stop down to $114.10.

9/21 & 9/22: The bulls have made an impressive run but it appears they are getting exhausted. If the selling starts, which will most likely come fast, I think traders will run for the exits to lock in profits. This is when we want to exit this position or tighten stops to protect capital. I tweaked the middle target above due to a calculation error.

9/20: My comments from below have not changed. SPY broke out today but I do believe it will get sold into which sets things up for a much need healthy pullback in the broader market. I suggest using this pullback as an opportunity to close positions or tighten stops, even if we have to take a loss. I've adjusted our targets. The first target is just above the 200-day SMA while the final target is a gap fill which is just above the rising 20 and 50-day SMA's.

Current Position: Long October $109.00 PUT, entry was at $1.56

Entry on September 14, 2010
Earnings: N/A (unconfirmed)
Average Daily Volume: 198 million
Listed on September 13, 2010

Charles Schwab - SCHW - close 13.47 change -0.16 stop 14.42

Target(s): 13.10, 12.85, 12.55
Key Support/Resistance Areas: 14.10, 13.35, 13.05, 12.65
Current Gain: +0.00%
Time Frame: 1 to 3 weeks
New Positions: Yes

9/23: The gap down this morning triggered our entry into SCWH at 50 cents instead of 45 cents. In hindsight, my instructions should have been enter at 45 cents. Nonetheless, SCHW looks vulnerable but we have to get below $13.36 before the stock will head towards its lows. My comments from below remain vailid.

9/22: We are going with a cheapie in the financial services sector tonight, which looks terrible across all industries, from banks, to lenders, to broker dealers. A study released today said that the 85% of Americans do not trust the financial markets and have therefore reconsidered their investment activities. Retail trading volumes are way down which will hurt firms like Chuck (SCHW). Technically, the stock has run right up into prior support (now resistance) from July and has turned lower. The stock has also been making lower highs and lower lows and I see no reason for this pattern to stop if the broader market cooperates. It would be nice to see some retracement of today's losses but a breakdown is also a good set-up. I suggest readers initiate short positions with one of two triggers. If SCHW trades up to $13.70 or down to $13.55. If triggered at $13.70 we are playing for an 85 cent pullback which is our 2nd target and a gap fill. If this target is reached the estimated gain on the position is +60%. If we are wrong we won't get hurt too bad as the option is cheap.

NOTE: November strikes were just recently released in SCHW so the open interest not as great as other months. The spreads are reasonable and I am not worried about liquidity as trading will begin to pick up.

Current Position: Long November $13.00 PUT, entry was at $0.50

Entry on September 23, 2010
Earnings: 10/14/2010 (unconfirmed)
Average Daily Volume: 11 million
Listed on September 22, 2010


Stillwater Mining - SWC - close 16.10 change -0.11 stop 15.77 *NEW*

Target(s): 15.45 (hit), 15.90 (hit), 16.30, 16.60
Key Support/Resistance Areas: 14.40 to 14.70, 15.00
Final Gain/Loss: +20.8%
Time Frame: 1 to 3 weeks
New Positions: Closed

9/23: Ugh! SWC hit our stop in early trading like the market makers knew it was there. In hindsight it was probably a little too tight. The stock then proceeded to rip higher up to our next target where we would have gained another +20% on the position. Nonetheless, a win is a win and we are flat the position for +20% gain. This is a volatile little sucker so if you still have positions pick your exit and protect profits. Time decay is going to start to kick in here so don't get stuck holding the position.

9/22: Material stocks like SWC are benefiting from the money printing promises of the Fed. SWC surged +5.6% today and closed on its high. I am looking to take profits on this trade. If SWC gets a pullback tomorrow intraday support begins at $16.00 down to $15.90. Let's raise the stop to $15.77 and I suggest we take profits at the close tomorrow if our remaining targets of $16.30 and $16.60 (lowered) are not reached tomorrow. $16.60 will fill a gap from 5/13. Traders may want to consider a 15 or 20 cent trailing stop to see how much more we can get out of the trade.

9/21: SWC sold off hard this morning and had a nice recovery this afternoon. I suggest readers use caution and consider exiting positions, especially on strength. All of the above targets remain valid. My comments from below remain the same.

Closed Position: Long October $15.00 CALL at $1.45, entry was at $1.20

Annotated chart:

Entry on September 3, 2010
Earnings 11/4/2010 (unconfirmed)
Average Daily Volume: 1.62 million
Listed on September 2, 2010