Option Investor

Daily Newsletter, Tuesday, 11/22/2011

Table of Contents

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

Market Wrap

Can We Just Skip Wednesday?

by Jim Brown

Click here to email Jim Brown
Can we just skip trading on Wednesday and Friday and go straight to Monday?

Market Statistics

The market needs a holiday, a long holiday. It would be great if we could just skip to Monday or maybe even Tuesday. The daily news headlines continue to rule and there are so many headlines they are leaving traders confused. Events in Europe are changing so quickly that we don't know from day to day who is going to bail out whom and with what money. There are threats of ratings downgrades on nearly everyone including the U.S. and France and now new stress tests on U.S. banks with Armageddon like conditions.

The minutes of the last FOMC meeting showed that some members wanted to add more quantitative easing because of fears of a spillover of the European debt crisis. However, they could not ease again because there were fears headline inflation was rising too quickly and it would upset their new communication protocol to the markets.

We found out today the Fed now wants to test the six largest U.S. banks with a dramatic scenario suggesting they could be worried about a further deterioration of Europe. They said they would test banks along the same guidelines and rate movements as we saw in the last half of 2008 BUT they would use a rise in unemployment to 13% from the current 9% and a drop in GDP of -8% in ONE quarter. If those conditions occurred it would be a recession worse than we saw in 2008. This heightened test would apply to the top six banks and would be part of a new stress test with lower requirements for the top 19 firms with at least $50 billion in assets. The Fed is also adding another 12 banks and financial companies to the list with a lower threshold of testing requirements.

The banks must submit their capital plans to the Fed by January 9th. The Fed will respond to the banks by March 15th. The capital plans would cover dividend plans, capital raises, proposed spending, etc. Banks are supposed to be progressing towards the increased capital requirements of the Basel accords. The Fed has indicated it will take a tough stance on any bank that is not making sufficient progress on upping their capital to meet those accords. The Fed has already rejected plans by Bank of America to increase its dividend.

I believe this will degrade the economy even more. Telling banks they need to plan for 13% unemployment and a severe recession to -8% GDP means they are going to hoard capital even more vigorously than they are today. If you think loans are hard to get today just wait until next quarter.

The six banks undergoing the heightened stress test are BAC, C, GS, JPM, MS and WFC. Some analysts believe this is a market positive because the scenario is so tough, much tougher than Europe, that any bank with a passing grade would be seen as nearly indestructible. None of the banks above are expected to fail although Bank America would probably need to hold off on raising its dividend until it had accumulated some more capital.

There is a bright side to the European debt crisis. With the banks in Europe imploding with a constant cash drain and suspicions on which will fail and which will be nationalized the banks in America should be picking up a lot of really good business relationships. Foreign companies no longer comfortable with leaving large sums of money in European banks or worried their bank won't be then when a need arises, should be creating new banking relationships with American banks.

The FOMC minutes showed the Fed remained worried about economic growth even though the recent indicators had improved slightly. They expect only mild economic growth in 2012 and into 2013. Based on their outlook the odds are increasing they will announce some additional monetary stimulus at the December meeting or at least by the next meeting. The expected increase in stimulus will be purchases of mortgage backed securities in order to keep housing rates low.

Did you really expect the Joint Super Committee to succeed? The lack of a plan has been blamed for the market decline this week but did you really expect them to succeed? This is an election year and no republican is going to risk losing votes because he agreed with a tax increase and no democrat is going to agree to cut spending on social programs. Really, how hard would it have been to come up with $120 billion a year in spending cuts when the budget is nearly $4 trillion dollars a year? That is 4,000 billion. That would be a 3% annual budget cut. If you completely ignore entitlements that would rise to 6%.

Since these are not really actual cuts but can be reductions in future spending increases that makes it even easier. That can be in the form of a reduction in spending or in increased taxes from any source. Cut a few deductions, drop a few research programs like the one last year on why Chinese hookers drink and it just would not have been that hard to trim a few bucks. Even if they could not have come up with the entire $1.2 trillion over ten years they could have found a few billion here and there to offset the required cuts by sequestration. This was just another case of political theater and everyone should have realized that long before the final announcement.

There was some bad economic news today. The GDP for Q3 was cut from +2.5% to +2.0%. The pressure came from a revision to inventories, business investment and consumer spending. The biggest revision came from the inventories. Inventory levels dropped faster than expected due to higher consumer demand. The upside to that is the need to rebuild inventory levels and that will push Q4 GDP higher. Overall the revision to the headline number will be a nonevent because it was primarily from inventory decline and not from slower consumer spending. This bodes well for Q4.

GDP Chart

The Richmond Fed Manufacturing Survey rose to zero in November from -6.0 in the prior month. This is the first time since June that manufacturing did not decline. All the internal components improved but conditions are not yet booming. New orders rose from -5.0 to -2.0 and backorders rose to -10.0 from -15.0. Employment rose to zero from -7.0. None of the items were particularly exciting but at least they are moving in the right direction.

Richmond Fed Chart

The Mass Layoffs for October fell to 1,353 events from 1,495. Employees affected declined to 118,689 from 153,229. A mass layoff event is defined as a single employer laying off 50 or more workers. Manufacturing accounted for 25% of the events 29% of the initial claims. Transportation and food manufacturing were the largest hit subsections in the manufacturing layoffs. This was the second monthly decline in layoffs after a spike in August to 1,587 events and 165,547 workers.

Because of the holiday shortened week, Wednesday is filled with numerous economic reports. The most important will be the Kansas Fed Manufacturing Survey. Kansas is impacted by auto production so the report should show a gain from the +8.0 in October.

Economic Calendar

It was a relatively quiet day for stock news. Volume at 6.9 billion shares was on the high side of mediocre but it was 2:1 negative. That was much better than the 6:1 negative on Monday but still negative. Hewlett Packard (HPQ) started the day off in the cellar after providing cautious guidance with their earnings on Monday. HPQ beat the street with earnings of $1.17 compared to estimates of $1.13 but the guidance was weak. HPQ said 2012 earnings would be "at least $4" when consensus estimates were $4.56. Shares declined to support at the 50-day at $25.32 at the open for a -4% loss but rallied to close at the high of the day with only a 21-cent loss.

Hewlett Packard Chart

Netflix (NFLX) has lost its mojo and its credibility. The company warned it expected a loss in 2012 and analysts immediately cut estimates and price targets. Originally the company had said it would only lose money in the first quarter. Netflix said it had lost a significant number of customers who objected to the split of the DVD and streaming businesses.

Netflix said, "If we do not reverse the negative consumer sentiment toward our brand, and if we continue to experience significant customer cancellations and a decline in subscriber additions, our results of operations including our cash flow will be adversely impacted."

The company warning came in a SEC filing on Monday, which said it had raised $400 million in new capital by selling convertible bonds to long time backer Technology Crossover Ventures and T.Rowe Price funds. Analysts were hostile the company did not provide that guidance in the Oct-24th quarterly conference call but chose instead to bury it in the SEC filing. Investor relations called the decision to add guidance to the SEC filing as a "clarification" to its prior comments.

Everybody I have asked has cancelled their Netflix subscriptions but not because of the split of DVD and streaming. Most are frustrated about the limited titles available for streaming. This is a download world and the number of companies streaming content seems to grow daily. This could be a terminal problem for Netflix because of their monster debt load. If they don't halt the bleeding soon there could be a serious financial problem ahead.

Netflix Chart

The trustee for MF Global said today they found $1.3 billion at the Bank of Montreal's Harris Bank unit. However, this is not the $1.2 billion missing from customer accounts. The $1.3 billion consisted of cash, foreign currencies and securities. It will be combined with the $3.7 billion of other assets already under control of the trustee. That will eventually be distributed to customers.

It does not look good for those customers of MF Global. Several people with inside knowledge claim the losses could go a lot higher to as much as $2.5 billion. This is a major problem for customers who were at least expecting to get 60% of their funds returned. Others claim the $5 billion in assets is very close to the $5.45 billion estimate for all IMF Global segregated funds. That would return about 90% to all 38,000 customers.

CEO Corzine and COO Bradley Abelow have been called to testify before the House Financial Services committee. That should be an interesting show with Corzine a past governor and head of Goldman Sachs. Each of the committee will definitely be looking to extract a pound of flesh.

Merck (MRK) announced it had agreed to pay $950 million to settle charges over Vioxx. The company withdrew Vioxx from the market in 2004 after being linked to heart attack risk. The FDA said Merck was wrong for recommending the drug for arthritis before it had been approved for that condition by the FDA. The total payment will be a $321.6 million criminal fine and 628.4 million in a civil settlement. MRK shares were unfazed by the news.

Merck Chart

Autonation (AN) rallied after Goldman Sachs upgraded to neutral from sell. Shares rose +3.5% on the upgrade and news they were going to get another $1.5 billion in a new credit line. Their chart looks like an EKG over the last five months.

Autonation Chart

I think the S&P is beyond EKG recognition. It is time to breakout the paddles for an electric shock to restart the dying index. About the only thing I can say positive is that Monday's lows held. Unfortunately those lows were right at last ditch support at 1185.

This is an ugly pattern and just looking at the chart and ignoring the macro fundamentals it looks like a definite short. The major problem weighing on the markets is of course Europe. As each day passes it appears more likely that Europe is going to get worse before it gets better.

The IMF announced today a Precautionary Liquidity Line of credit (PLL) for Europe. The IMF has about $400 billion in unspent cash in its coffers and it reached out to Europe with that cash today. The nations suffering from the debt problems of others, called innocent nations, could borrow the cash from the IMF without all the normal red tape and guarantees normally associated with IMF loans. Governments with good fiscal policies are eligible to borrow up to 10 times their standard quota. Their quota is the amount of money they commit to loan the IMF. For instance in normal times if France had an IMF quota of $5 billion to commit to helping other countries then they could borrow today up to $50 billion from the IMF.

The amount of cash available from the IMF is still not enough to really fix anything in Europe but it is still another deep pocket from which cash can be paid. Most believe that it will take the equivalent of 2-3 trillion euros, some feel as much as 6 trillion, to solve the debt crisis.

News broke this week that the ECB has imposed a weekly 20 billion euro limit on buying bonds to support rates on countries like Italy and Spain. Reportedly that is the newly reduced limit but nobody knows what the old limit was. The ECB lowered the limit end it became concerned the bond buying was having no lasting impact on bond yields of the target countries.

The problem with the market is that every program and governmental change in Europe has failed to be enough to halt the slide into even deeper trouble. The size of the troubled countries has risen to the point where the ECB/IMF can no longer bail them out and it is starting to impact bond yields in countries not previously impacted, like France.

Analysts have warned for some time that some countries may be forced to leave the eurozone and they were referring to Greece and Portugal at the time. Nobody ever really considered Italy or Spain would be at risk.

The European debt crisis is going to continue to weigh on our markets for months to come and it would take a monster improvement in U.S. economics to keep our market from deteriorating. It will be hard for our economy to continue growing because numerous European countries are falling back into recession as a result of the growing austerity movement.

Our markets have moved from operating on U.S. fundamentals to moving on sagging European fundamentals. We may no longer be in control of our own fate.

However, there is still hope. Even though Merkel claims they have no bazooka to use against the rising problems, they may have to find one and find it soon in order to keep the situation from getting significantly worse. In the end they may not want to cough up the trillions in euros it will take to isolate the fiscally irresponsible nations but they may not have any choice. You may not want to jump out of a third story window to escape a house fire but when the flames get hot enough you will jump. When their flames get hot enough they will come up with the bazooka and I suspect it will be soon.

Meanwhile the S&P is poised on the precipice at 1185. A break here could retest 1100 or somewhere in that range while we wait for the eventual headline that either solves the problem or pours gasoline on the flames.

The 1185 level is critical and a break here will be ugly.

S&P Chart

The Dow has initial support at 11,500 but that broke at the close. The next support level is 11,400 but a break there targets 10,600 and it could be a really fast drop. The Dow was hurt today by the declines in UTX, CAT and BA. That is not a good sign with the strong blue chip manufacturers are falling.

A break of 11,400 could lead to a retest of 10,600 and that could come very quickly.

Dow Chart

A strong rebound in Apple of +7.50 today could not rescue the Nasdaq from a loss but at least the loss was only fractional. The Nasdaq has found round number support at 2500 but I fear that is only temporary. The disk drive problem and the warnings by multiple computer makers have put the tech sector on a downward trajectory.

On a break of support at 2500 the next target is 2350 and it could come very quickly.

Nasdaq Chart

Thanksgiving week is not shaping up as a bullish week. The major averages are suffering from investor flight because nobody understands the problems in Europe or how they will be solved. Investors would rather close positions and go shopping than try to find something to buy in this environment.

The normally bullish Thanksgiving week is shaping up to be a loser in 2011 but there are still a lot of trading days left in 2011. We have to take them a week at a time and play the hand we are dealt. The U.S. economy is improving and it will take time but there are better days ahead. Be patient and we will be rewarded.

Black Friday Special

It seems like every year the retailers move their special hours and deals closer to the beginning of Thanksgiving week. Numerous retailers are now opening Thanksgiving evening for Black Friday and some online retailers are having a Black Friday week with specials starting this weekend.

We don't want to be left out while everyone else is having all the fun. We normally start the End of Year Subscription Special on Black Friday. This year we are jumping ahead and starting it this weekend.

Not to let Target, Wal-Mart or Toys-R-Us beat us to the punch with their "Early Bird Specials" we have adopted one of our own.

Sign up for the End of Year Special before midnight Sunday and we will give you a genuine U.S. Silver Dollar as an additional bonus. At today's silver price this dollar is worth about $27 in silver value alone.

Genuine U.S. 90% Silver Dollar

Of course there are some other bonus items as well but this is real money that goes up in value every year. No deflation here!

Click this image to see the full End of Year Special!

Jim Brown

Send Jim an email

New Option Plays


by James Brown

Click here to email James Brown

Editor's Note:

Readers may want to keep an eye on Cabot Oil & Gas (COG) as a potential trade. I was tempted to add it tonight with a trigger to buy calls at $81.55 or $82.05. More conservative traders may want to wait for a new close over its 10-dma before considering positions. COG can be a volatile stock. If you trade it consider keeping positions small to limit your risk.

- James


JB Hunt Transport Services - JBHT - close: 43.92 change: +0.24

Stop Loss: 41.99
Target(s): 48.25
Current Option Gain/Loss: Unopened
Time Frame: 4 to 8 weeks
New Positions: Yes, see below

Company Description

Why We Like It:
JBHT is a transport stock that is ignoring the weakness in the transportation sector. While the $TRAN index is breaking down shares of JBHT are poised to breakout past resistance near $44.00.

I am suggesting a trigger to open bullish positions at $44.35. If triggered our multi-week target is $48.25. JBHT doesn't move super fast so give yourself time for the trade to work. FYI: The Point & Figure chart for JBHT is bullish with a $63 target.

Trigger @ 44.35

- Suggested Positions -

buy the 2012JAN $45 call (JBHT1221A45) current ask $1.95

Annotated Chart:

Entry on November xx at $ xx.xx
Earnings Date 01/30/12 (unconfirmed)
Average Daily Volume = 1.0 million
Listed on November 22, 2011

In Play Updates and Reviews

Quietly Lower

by James Brown

Click here to email James Brown

Editor's Note:

Stocks chopped sideways but eventually ended in negative territory again. Our new plays on EW and FDO are not open yet. I have adjusted our entry point strategy on FDO. Meanwhile our PM trade is open.


Current Portfolio:

CALL Play Updates

Edwards Lifesciences - EW - close: 63.06 change: -1.06

Stop Loss: 61.49
Target(s): 69.50
Current Option Gain/Loss: Unopened
Time Frame: 3 to 6 weeks
New Positions: Yes, see below

11/22 update: Our trade in EW is not open yet. Shares gapped open lower at $63.86 and look headed for recent support near $62.00. Nimble traders may want to try and buy a dip near $62. I am suggesting we try again with the last night's strategy. I am suggesting we buy calls tomorrow morning but only if both EW and the S&P 500 open positive tomorrow. We'll use a stop loss at $61.49. Our exit target is $69.50.

*See Entry Details Above*

- Suggested Positions -

buy the DEC $65 call (EW1117L65)

- or -

buy the 2012Jan $70 call (EW1221A70)

11/22 not open yet

Entry on November xx at $ xx.xx
Earnings Date 02/02/12 (unconfirmed)
Average Daily Volume = 1.2 million
Listed on November 21, 2011

Family Dollar Stores - FDO - close: 57.40 change: -0.17

Stop Loss: 54.75
Target(s): 64.00
Current Option Gain/Loss: Unopened
Time Frame: 3 to 6 weeks
New Positions: Yes, see below

11/22 update: Our trade is not open yet. FDO gapped open lower but quickly saw a spike past short-term resistance near $58.00. Unfortunately the rally failed. I am adjusting our entry point strategy and listing a trigger to buy calls at $58.50 (today's high was $58.42).

I am setting our exit target at $64.00 using the January calls. We will list December calls as well but you may have to exit earlier. FYI: The Point & Figure chart for FDO is bullish with a $66 target.

Trigger @ 58.50

- Suggested Positions -

buy the DEC $60 call (FDO1117L60)

- or -

buy the JAN $60 call (FDO1221A60)

11/22 not open yet

Entry on November xx at $ xx.xx
Earnings Date 01/04/12 (unconfirmed)
Average Daily Volume = 1.0 million
Listed on November 21, 2011

Phillip Morris Intl. - PM - close: 72.01 change: +0.01

Stop Loss: 69.90
Target(s): 78.50
Current Option Gain/Loss: -12.5%
Time Frame: 6 to 9 weeks
New Positions: see below

11/22 update: Our trade in PM is now open with this morning's positive open at $72.11. Technically the S&P 500 opened flat we're giving the bulls the benefit of the draw. Shares closed unchanged in spite of the market's decline today. I would still consider new positions now with PM at $72.00.

Our multi-week target is $78.50. FYI: The Point & Figure chart for PM is bullish with a $95 target.

- Suggested Positions -

Long 2012 Jan $75 call (PM1221A75) Entry $1.12

11/22 trade opened. PM opened at $72.11

Entry on November 22 at $72.11
Earnings Date 02/09/12 (unconfirmed)
Average Daily Volume = 7.3 million
Listed on November 19, 2011

PUT Play Updates

Deutsche Bank - DB - close: 33.59 change: -1.11

Stop Loss: 38.75
Target(s): 30.50
Current Option Gain/Loss: Dec$35p: +30.7% & Jan$30p: +41.1%
Time Frame: 3 to 6 weeks
New Positions: see below

11/22 update: Continued worries over the situation in Europe continue to pressure financials lower. DB lost another -3% today. Meanwhile in the news DB announced the company was reviewing its asset management division and might consider a sale of the business.

Earlier Comments:
Keep position size small to limit risk. This is going to be a volatile trade. FYI: The Point & Figure chart for DB is bearish with a $30 target.

- Suggested Positions - (small positions)

Long DEC $35 PUT (DB1117x35) Entry $2.60

- or -

Long JAN $30 PUT (DB1221m30) Entry $2.09

11/21 new stop loss @ 38.75
11/12 new stop loss @ 41.55
11/11 DB gapped open higher at $39.00

Entry on November 11 at $39.00
Earnings Date 02/02/12 (unconfirmed)
Average Daily Volume = 4.3 million
Listed on November 10, 2011

Lululemon Athletica - LULU - close: 47.01 change: -0.43

Stop Loss: 51.25
Target(s): 42.50
Current Option Gain/Loss: Dec$47.50p: - 3.9% & Jan$45p: +00.0%
Time Frame: Seven Trading Days or 6 weeks
New Positions: see below

11/22 update: LULU tried to rally this morning but didn't get very far. Shares spent most of the churning on either side of the $47.00 level. I don't see any changes from my prior comments. I would still consider put positions now or you could wait for an oversold bounce back into the $48.50-50.00 zone as their entry point to buy puts.

Earlier Comments:
TIME FRAME: Traders have to make a decision about their time frame with LULU. Normally I would give this trade a few weeks to work out but LULU is due to report earnings on December 1st. As a rule the newsletter almost never holds over an earnings report. At the moment we'll plan to exit this trade on November 30th if shares don't hit our exit before then.

- Suggested Positions -

Long DEC $47.50 PUT (LULU1117X47.5) Entry $3.54

- or -

Long 2012 JAN $45 PUT (LULU1221M45) Entry $3.63

11/21 trade opened on LULU's gap down at $47.63.

Entry on November 21 at $47.63
Earnings Date 12/01/11 (confirmed)
Average Daily Volume = 2.8 million
Listed on November 19, 2011

PACCAR Inc. - PCAR - close: 37.87 change: -0.52

Stop Loss: 41.50
Target(s): 35.50
Current Option Gain/Loss: +22.8%
Time Frame: 3 to 4 weeks
New Positions: see below

11/22 update: PCAR sank to new relative lows with a dip to $37.24 today. The stock trimmed its losses to close down -1.3%. PCAR continues to look short-term oversold here. I would wait for a bounce back toward likely resistance in the $39-40 zone before considering new bearish positions.

- Suggested (Small) Positions -

Long DEC $39 PUT (PCAR1117X39) Entry $1.75

11/21 new stop loss @ 41.50

Entry on November 18 at $39.42
Earnings Date 02/01/12 (unconfirmed)
Average Daily Volume = 3.7 million
Listed on November 17, 2011

Western Digital Corp. - WDC - close: 25.78 change: -0.33

Stop Loss: 27.75
Target(s): 21.00
Current Option Gain/Loss: Dec$25p: -16.7% & Jan22.50p: + 2.6%
Time Frame: 3 to 4 weeks
New Positions: see below

11/22 update: It was a quiet day for WDC. Shares drifted sideways in a narrow range but eventually closed down -1.2%. I don't see any changes from my prior comments. At this point I would wait for a breakdown under $25.00 before initiating new bearish positions.

Earlier Comments:
It is possible that the 2010 lows near $23.00 could be support but we're aiming for a drop to the $21.00-20.00 zone. We do want to keep our position size small because WDC has been very volatile the last few weeks.

- Suggested (Small) Positions -

Long DEC $25 PUT (WDC1117X25) Entry $1.49

- or -

Long JAN $22.50 PUT (WDC1221M22.5) Entry $1.13

Entry on November 18 at $26.04
Earnings Date 01/18/12 (unconfirmed)
Average Daily Volume = 6.4 million
Listed on November 17, 2011