Option Investor

Daily Newsletter, Saturday, 6/4/2016

Table of Contents

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

Market Wrap

Going Nowhere Fast

by Jim Brown

Click here to email Jim Brown

The last four days saw triple digit moves on the Dow but we finished only 66 points from where we started the week.

Market Statistics

Friday Statistics

The last four days the Dow has fallen triple digits intraday and yet ended back almost where it started. On Monday, the Dow traded in only a 50-point range and one of the narrowest in years. That was a consolidation day while we waited for traders to come back from the holiday weekend. The rest of the week was somewhat bullish with big afternoon rebounds and Thursday's close looked like a setup for a bullish breakout. Unfortunately, the Nonfarm Payroll report killed that breakout and produced another triple digit intraday decline.

The Nonfarm Payrolls shocked the street with a drop to only 38,000 new jobs in May and the lowest number since September 2010. That was down from the previously reported 160,000 in April and initial estimates for 170,000 jobs. However, April was revised down -37,000 to a gain of 123,000 and March was revised down from 208,000 to 186,000. The separate household survey showed a gain of only 26,000 jobs. This was a major hiccup in job creation and suggests the weakness in the economy is accelerating.

Technology jobs declined -34,000, temporary services fell -21,000, construction -15,000, manufacturing -10,000 and energy/mining -10,000. Private companies added only 25,000 jobs. Since September 2014 the energy/mining sector has lost -207,000 jobs.

The headline number would have been worse but the seasonal "adjustment" added 224,000 phantom jobs into the May calculation and that gave us the +38,000 job gain. Without the adjustment, the number would have been significantly negative. There were 231,000 phantom jobs added in April as well. Since 2007, the workforce has grown by 21 million workers but the number of jobs has only risen 5 million. Only 2 million of those were full time jobs.

The unemployment rate plunged from 5.0% to 4.7% because 458,000 workers dropped out of the workforce. This dropped the labor participation rate from 62.8% to 62.6% and close to a 40-year low. The low in 2015 was 62.4% in September. The number of people not in the workforce rose to a record 94.7 million.

The Verizon strike subtracted 34,000 jobs and those jobs will be back in June. Still, adding those back in only lifts the number to 72,000 and still a big miss since the three-month average would only be 127,000 compared to 181,000 last month.

The BLS used the excuse that the response rate to the survey was unusually low at 74% compared to an average of 82% over the last three years. That suggests there could be significant revisions in the coming months. However, note that the revisions this month were negative.

Offsetting the decline in the Nonfarm Payrolls was the ADP Employment on Thursday that showed a gain of +173,000 private sector jobs. However, the separate Household survey on Friday showed a gain of only 26,000 jobs and confirmed the decline in the Nonfarm Payrolls. One of these surveys is wrong. Either the ADP numbers were grossly overstated or the two BLS numbers were vastly understated.

In a separate Pew Research survey, they found that the number of 18-34 year old individuals living with their parents was the highest since the Great Depression at 32.1%. Young adults are having trouble finding good jobs that will support them living on their own or allow them to get married and start a family.

So far, in 2016, there has been a decline of 6,000 full time jobs but an increase of 572,000 low paying part-time jobs. The percentage of men not working between the prime working ages of 25-54 is at an all time high at 4.6% while the 25-34 age group is at 5.7% unemployed.

The ISM Nonmanufacturing Index declined from 55.7 to 52.9 and the lowest level since February 2014. This was the fifth decline in the last six months. The new orders component fell from 59.9 to 54.2 and employment fell from 53.0 to 49.7. Order backlogs fell from 51.5 to 50.0 and exports fell from 56.5 to 49.0. With multiple components falling into contraction territory and the services sector the strongest section of the economy the outlook is not good. This was a May survey so we cannot blame the weak GDP in Q1 for the decline in the sector in May.

Factory Orders for April rose +1.9% compared to +1.5% in March. The gain was in line with consensus estimates. Durable orders rose +3.4% with nondurables gaining only .4%. Capital goods declined -0.6%. The report was ignored because April was a long time ago in market time.

Despite the weak economic reports over the last couple weeks and the weak employment, the Atlanta Fed forecast for Q2 is still showing 2.5% growth. That is up significantly from the +0.8% growth in Q1 but there is still another month left in the quarter. We could easily be well under 2.0% by the end of June.

There is nothing material on the economic calendar for next week except for the Janet Yellen economic policy speech on Monday. You can bet Janet will spend the weekend rewriting her prepared comments after the employment report blew a hole in the carefully crafted "data dependent" rate hike we were expecting in July.

Actually, Janet is probably breathing a sigh of relief that the data turned sour after a rising number of Fed heads began calling for a hike in June. Now she can point to the data and say we are data dependent and it will be appropriate to raise rates when the data improves.

The FOMC meets the following week and nothing is going to change for the better before the meeting. The Brexit vote is the following week and the jobs data allows the Fed to pass on the rate hike without appearing to be politically motivated because of the Brexit event.

JP Morgan (JPM) said the probability of a recession over the next 12 months has risen from 30% to 36%. This is a new high for this economic expansion. Note that since 1969 whenever that probability has reached this level there was always a recession. Secondly, only ONCE since the Depression has a recession appeared that was not triggered by the Fed raising interest rates. Economic expansions do not die of old age but by Fed action.

We are already in a 7-year economic expansion and the average expansion cycle since 1945 has been 59 months or just short of 5 years. The clock is ticking on this current expansion and the bearish impact on the market.

The payroll numbers caused massive buying in treasuries with the yield on the ten-year falling -5.9% in one day to 1.70%. This is nearing a four-year low at 1.65%. There was definitely a flight to quality underway in treasuries on worries the employment numbers were a warning of an impending recession. The JP Morgan recession warning also spurred buying.

Twenty-three countries now have negative interest rates with more than $10 trillion in investments. The German 10-yr Bund closed at a record low yield of 7 basis points. The 2-yr has a negative yield of -0.54% and the 5-yr at -0.41%.

The dollar crashed immediately upon the release of the payroll numbers. If the Fed is not going to hike rates until September or December then the dollar could remain weak and move lower if the economic reports continue to weaken. Gold prices spiked significantly on the drop in the dollar. Crude prices remained weak but would have been significantly weaker were it not for the dollar drop. The Dollar Index declined -1.76% or -1.69.

The CME FedWatch Tool is now showing only a 3.8% chance of a rate hike at the June meeting. Last week there was a 28.1% chance. The July FOMC meeting still has a 31.3% chance of a rate hike, down from 60.7% last weekend. The September meeting is only showing a 43.7% chance today compared to 66.8% last week. The Fed may want to raise rates but the market is betting against it.

In stock news, the gun manufacturers crashed after the FBI reported background checks rose only 2.6% in May compared to 14.4% in April. May background checks totaled 942,970 compared to 918,710 in the prior May. There was little help from politicians in early May with gun control out of the headlines. However, over the last week it has been front and center so I would expect June sales to rise. President Obama went on a rant in filming for a Sunday news show so that should also help. He admitted his presidency had caused more gun buying than any other point in history. Smith & Wesson (SWHC) fell -7% and Sturm Ruger (RGR) fell -4.8%.

Broadcom (AVGO) reported adjusted earnings of $2.53 compared to estimates for $2.28. Revenue rose +119% to $3.541 billion but still missed estimates for $3.550 billion. The revenue was boosted by strong product cycles from broadband and switching systems but was offset by a drop in the demand for disk drives and "premium smartphones." That is code for iPhones but they are prohibited against mentioning them by name. Wireless communications revenue rose +38% because of high demand for the chips. Wired infrastructure revenue rose sharply on demand for routers and switches to 58% of total revenue. Enterprise storage revenues declined -12% to $525 million. The company had $2.041 billion in cash at the end of the quarter and paid a dividend of 49 cents. The Q3 dividend has been raised to 50 cents. They guided for Q3 revenue of $10.75 billion with gross margin around 60%. Shares rallied 5% on the news.

Chipmaker Ambarella (AMBA) reported earnings of 34 cents that beat estimates for 28 cents. Revenue of $57.2 million also beat estimates slightly. They announced a $75 million share buyback effective immediately, which is 5.4% of their market cap. They guided to Q2 revenue of $60-$66 million and the street was expecting $69 million.

The challenge is the residual problems from the Japanese earthquake that shutdown manufacturing for Sony (SNE). The plant reopened on May 21st but the chip fabrication is not expected to resume until the end of August. Sony image sensors are used in mainstream and high-end video cameras that also use Ambarella chips. Analysts expect a strong second half for Ambarella once Sony production resumes. GoPro is also expected to launch the Hero 5 action camera in September and that uses Ambarella chips. Shares rallied 9.4% on the news but they have a long way to go to regain past glory. Friday was simply a short squeeze but several analysts did raise their ratings.

Earnings for next week are scarce but there are several big names still reporting. Valeant is scheduled to report on Tuesday before the open and this is sure to be the topic on trading desks all day. The consensus estimate is $1.42.

On Wednesday Ctrip.com, Lululemon and Restoration Hardware will report. Thursday has Kroger, Oracle and Rite Aid.

The AAII Sentiment Survey spiked significantly from last week. Bullish sentiment rose +12.4% to 30.2% and a six-week high. Neutral sentiment fell -12.1% to 40.8%. Bearish sentiment barely moved with only a -0.3% decline to 29.1%. It is amazing what several days of a bullish market can do to sentiment. Note that all the increase to bullish sentiment came from those previously neutral. The bears barely flinched with only a fractional decline.

Buy the rumor, sell the news. The Biotech Index ($BTK) is up 470 points or 16% since the May 12th bottom. It has been strong support for the Nasdaq and the Russell 2000. On Friday, the ASCO cancer conference opened for a five day run with 35,000 attendees. Also on Friday many of the big biotech gainers leading up to the conference were crushed as traders took profits rather than have some negative conference headline over the weekend cause a massive sell off next week. The BTK fell -2% on Friday when most of the indexes were only marginally negative. The Nasdaq suffered the worst with stocks including REGN -7, EGRX -5, UTHR -5, FPRX -4, AGIO -4, RARE -4, ALNY -4, etc. The Nasdaq losers list this weekend looks like a biotech who's who. The odds are very good this selling will continue next week and that will be an anchor for the Nasdaq.

Traders were sitting on pins and needles all week worried about the outcome of the OPEC meeting on Thursday. As expected, nothing happened. Oil ministers all said they were happy with oil prices and the current upward correction. Since they are getting twice as much for their oil now than they did in February it would make sense the pressure has been relieved.

However, oil prices began to fade after the meeting because those same higher prices are causing some of the OPEC countries to produce more oil. The various outages are being corrected and the temporary balance of production and demand will quickly turn into a glut once again.

August is the highest demand month of the year with about two million more barrels consumed per day than in May, which is the lowest demand month. Saudi Arabia alone burns an extra one million barrels per day to generate electricity for cooling.

Analysts believe oil will be trapped in a $45-$55 range for the rest of the year with the risks to the downside rather than the upside. There are still some analysts that expect $65 and others expect $40 but they are in the minority.

The rising price of oil caused a spike in the rig count and that is not what Saudi Arabia wanted to hear. Active rigs rose +4 to 408. Active oil rigs rose +9 to 325 and the first gain in 11 weeks and only the second gain this year. Active gas rigs declined -5 to 82. Offshore rigs declined -3 to 21 and a new cycle low. Active rigs are down -1,523 from the peak in early 2015.


The prior week rally in the S&P stalled at 2,100 but there is no evidence of a pending decline. Four days last week the S&P declined to 2085-2088 intraday but recovered to close at the highs of the day. Three times the index closed at 2,099 and once at 2,105. That close over 2,100 had the appearance of a setup to push higher and retest the highs but the employment report killed that effort.

However, the constant rebound from those intraday lows and the return to 2,100 still looks like investors are expecting a breakout. Remember, much of those gains over the last two weeks were on the back of the 16% rally in the biotech sector with help from financials and semiconductor stocks. The biotech stocks are likely to decline next week. The chip stocks appear to have run their course after the Applied Materials earnings bounce and the higher production estimates for iPhones.

The financial sector was crushed on Friday as expectations for a rate hike evaporated. Goldman Sachs (GS) was the biggest loser on the Dow at -$3.61 with JP Morgan in second place at -$1.17. There is no reason for the financial sector to rally next week unless Yellen pulls a rate hike out of her purse in the speech on Monday.

The energy sector is also likely to fade as prices move away from $50. The offset there is a falling dollar that will support crude to some extent but concentrated selling in the futures could overcome the dollar impact. Basically, crude prices are going dormant without some new headline and that means energy stocks could also fade.

If we subtract biotechs, financials, chips and energy stocks from the S&P support base there is not much left. Those are major S&P sectors.

The index has significant resistance from 2100-2132 and it has failed at these levels on every test since last May. Eventually those levels will be broken but heading into the summer doldrums does not give me much hope for the coming month. A rally is possible because of the massive dip buying we saw last week but there has also been sellers waiting at 2,100 on every rebound.

The Dow remains under strong resistance at 17,925 and the index has tested lows at 17,700 for the last four days. The Dow has been the weakest index because it did not have a lot of biotech stocks for support. Weak financials and energy next week could be the anchor that pulls it lower. However, we have seen serious dip buying the last three days but the volume was light. They bought the dips but they could not push the index higher. Conviction stopped around 17,800.

The Nasdaq could have tough week ahead if the biotechs roll over as I expect. That sector has been major support and could now be a major drag. The Thursday gains stopped almost exactly at 4,968, which was resistance from April. This could be an ideal spot for a failure.

Without a lot of earnings or events next week, the Nasdaq will be left to find its own way. That direction may not be positive.

The Russell 2000 small caps surprised everyone with the close over major resistance at 1,165 on Thursday. Of course, that was due to the 2.5% gain in the biotechs that day. The Russell dipped back below that resistance on the -2% decline in biotechs on Friday. The Russell will follow the biotechs next week because there is no other sector that can counter the biotech pull. Financial stocks should be weak and energy should be weak and those three sectors should drag the index lower.

Fundstrat's Tom Lee believes we are in for a June Swoon now that the Fed rate hike has been pushed farther into the future. He said a confluence of events were setting up for a perfect storm. He warned the market's three months of gains, weakening financial stocks, high-yield spreads getting ready to widen, the U.S. dollar reversing lower and disappointing economic data is pointing to a less liquid environment for equities. He said a lot of the firm's clients that made money in May are booking profits. Lee is not a bear. His yearend target for the S&P is 2,325.

I would add in the FOMC Meeting on June 16th, Brexit on June 23rd and the apprehension over the political conventions in July.

There is no rule that says the markets have to go down in June but historically, even without all the various events above, the S&P is flat in early June, peaks around option expiration on the 17th and then closes the month at the lows.

However, since 1950 June has been up 33 years and down 33 years with an average return of -0.10%. July has been up 36 years and down 30 with an average return of 0.84%. August has been up 37 years and down 29 with an average return of -0.27%. September is the big change in trend with 29 up years compared to 37 down years and an average return of -0.68%. October flips back to positive despite some very strong declines early in the month. It has been up 41 years and down 25 with an average return of +0.8%. Source

I am neutral for next week with the exception of a potential decline in the biotech sector that weighs on the Nasdaq and Russell. Yellen's speech on Monday could move the market in either direction. Whether the move will be lasting is a coin toss.

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Random Thoughts

Walmart (WMT) said it was partnering with Uber and Lyft to deliver products to your door on the same day you order them. There will be a $7 to $10 charge for the service. The pilot program will be tested in Denver Colorado and Phoenix Arizona. Sam's Club will also have a pilot in Miami Florida in March.

The deliveries will handle both groceries and general merchandise. Walmart already has a grocery home delivery service in San Jose and Denver. They are planning on adding 14 cities in June. To place an order for home delivery you have to go online and specify a delivery window so the driver does not have to leave the items on your doorstep. Store personnel will pick and pack the order and then call a delivery driver. Walmart stressed there is no payment to the driver on delivery so I am assuming no tips.

Walmart has to do something to combat Amazon. Online sales growth has slowed in 7 of the last 8 quarters. Online sales account for only 5% of total sales. They also said they were experimenting with moving merchandise directly from the delivery truck to store shelves and not keep inventory in the back room. They also said they were "investing in prices" which means they are lowering prices in select areas to compete better with other retail stores.

Are you living in a video game? Elon Musk says it is possible but not likely. He explained to a crowd at the Code Conference that our existence could be a simulation being run by a highly advanced civilization. Seriously, this is from the guy that brought you PayPal, Spacex, Tesla, SolarCity and the Hyperloop.

He said, "The strongest argument for us being in a simulation is the following: 40 years ago, we had Pong. Two rectangles and a dot. Now, 40 years later, we have photorealistic 3D with millions playing simultaneously. If you assume any rate of improvement at all, then the games will become indistinguishable from reality, even if that rate of advancement drops by 1000 from what it is now. It is a given that we are clearly on a trajectory that we are going to have games that are indistinguishable from reality. It would seem to follow that the odds that we are in base reality is 1 in millions." In some circles he would be called crazy.

Musk plans to launch a rocket to Mars in 2018 and then follow it with some supply ships every 24 months until he sends people by 2025. Musk said he did not recommend transporting a human to Mars in SpaceX's Dragon II spacecraft because, for one, the interior space is akin to that of an SUV, which does not make for comfortable space travel. But, perhaps more importantly, the Dragon II does not have the ability to return to Earth. We would have to put that in really small print on the contract. "I mean if you are going to choose where to die, then Mars is not a bad choice," Musk said in response to whether he wanted to end up there. "But it's not some sort of a 'Martian' death wish."

Musk said Google would not be a potential competitor to Tesla in autonomous cars. He said Google has done a great job in showing the potential but they are not a car company. "I would not say they are a competitor." When asked about Apple he said, "They will be more direct." Musk has inside knowledge of Apple's plans because they have hired some Apple engineers and Apple has hired some of his engineers. Musk said Apple will not be in production before 2020. He previously dubbed Apple a "Tesla graveyard" in response to the defection of Tesla employees to Apple.

Facebook has entered the required zone. Tenants in a Salt Lake City apartment complex are "required" to "like" the apartment on Facebook as a condition of their lease. The City Park Apartments posted notices on some resident's doors reminding of their contractual obligation to post a like on the Facebook page and "friend" the apartment complex. The lease also allows the apartment to use pictures of the tenants and their visitors on the apartment's page.

If the tenants do not friend/like the apartment's Facebook page they can be found in breach of the rental agreement and forced to leave.

Over $100 trillion has disappeared from corporate assets. According to John Mauldin and the CIA Fact Book there are 1,656 trillion barrels of oil reserves worldwide. Oil in the ground is a corporate asset or country asset in the case of countries with state owned oil companies. These reserves can be sold to raise cash or they can be used as collateral for loans.

In mid-2014 oil was more than $100 a barrel. In February, it was selling for less than $30 a barrel. That means the asset value to corporations had declined more than 70%. If you multiply the 1.656 trillion barrels of reserves by the $70 drop in prices, more than $115 trillion in asset value evaporated in about 18 months.

The human mind has trouble with very large numbers. It would be hard to quantify in terms everyone could understand on how much money that really is. This is why crude prices are so important to the global economy. Entire countries are struggling today because of the low oil prices. In America alone more than 207,000 workers lost their jobs and more than 100 companies filed for bankruptcy. The "wealth effect" in those countries that depend on oil for their revenue is a real reason why the global economy is so weak. Countries cannot spend money at $40 oil as they could at $100 oil. If your salary were cut by 70% tomorrow, what would your life be like?

North Dakota had a $2 billion rainy day fund two years ago. Today they have a $1 billion deficit because their budget was built on $100 oil and the massive income from all the drilling in the Bakken. That drilling has vanished. As of Friday, there are only 22 active rigs in North Dakota. The tens of thousands of workers have vanished leaving only empty man camps and desolate subdivisions.

Harry Brown, Libertarian presidential candidate in 2000 and no relation to me, listed the top ten ways to preserve your wealth. Never assume your income stream will not stop. Never assume just because you created a lot of wealth in one endeavor that you can recreate it if that wealth was lost. If we could impart that concept to every high school graduate, it would help them immensely. How many times have you seen an article where some famous actor, athlete or past Lotto winner was filing for bankruptcy? Money and fame are fleeting. Plan to keep what you have rather than expect to make it again. How many oil companies are making plans to grow more slowly and save more money when oil prices return? The answer is "all of them."


Enter passively and exit aggressively!

Jim Brown

Send Jim an email


"Float like a butterfly, sting like a bee. His hands can't hit what his eyes can't see. Now you see me, now you don't. George thinks he will, but I know he won't.

He who is not courageous enough to take risks will accomplish nothing in life.

The man who views the world at 50 the same as he did at 20 has wasted 30 years of his life.

Service to others is the rent you pay for your room here on earth.

I know where I'm going and I know the truth, and I don't have to be what you want me to be. I'm free to be what I want.

The man who has no imagination has no wings.

It isn't the mountains ahead to climb that wear you out; it's the pebble in your shoe.

Silence is golden when you can't think of a good answer.

It is just a job. Grass grows, birds fly, waves pound the sand. I beat people up.

Don't count the days. Make the days count.

It is great to be humble but humble people don't make much history.

I hated every minute of training, but I said, 'Don't quit. Suffer now and live the rest of your life as a champion'.

Hating people because of their color is wrong. And it does not matter which color does the hating. It is just plain wrong.

Live everyday as if it were your last because someday you are going to be right.

It does not matter if you are a Muslim, Christian or a Jew. When you believe in God you should believe that all people are part of our family. If you love God you cannot love only some of his children.

I am the greatest, I said that even before I knew I was.

Muhammad Ali

Index Wrap

Biotech Failure

by Jim Brown

Click here to email Jim Brown

The biotech rally that has supported the market over the last three weeks has run its course. The Biotech Index gained 16% and 470 points since May 12th on the run up into the ASCO cancer conference this weekend. Shares began to roll over on Friday with the index losing -2% for the day. This could be the beginning of the end for the Nasdaq rally if the biotech profit taking continues next week.

The prior week we had three sectors lifting the market. Those were biotech, semiconductors and financials. None of those three are expected to continue their gains next week. The financials crashed on Friday because of the weak payroll report and the impact on expectations for future rate hikes. Semiconductors have peaked at an 11-month high and should begin to take profits. The Broadcom and Ambarella earnings on Thursday pushed their stocks to big gains but the sector index only gained 2 points and closed well off its highs. There is no way that two-week spike is going to continue higher without some profit taking.

Financial stocks are likely to remain stuck in a range with risks to the downside but that depends on Yellen's speech on Monday. She could resurrect the June/July rate hike scenario but that is very unlikely. Without the hope of higher rates the financial stocks have lost one of their supporting factors.

Energy stocks rallied as oil hit $50 but the lack of any plan by OPEC when they met on Thursday has doomed crude prices to remain locked in a range in the weeks ahead. The most likely range is $45-$50 but continued inventory declines could possibly lift it to $55 but I would not bet on it. I think energy stocks are trapped in a range as well and the easy money has already been made.

The NYSE Composite Index held its gains last week but the intraday ranges were progressively narrower. The 10500-10600 range remains strong resistance and the supporting sectors from the prior week will no longer be providing that support. Those levels should be difficult to break but the NYSE is a broad 1,900 stock index that contains the large stocks like GE and XOM as well as hundreds of miniscule stocks that barely maintain enough market cap to remain listed. Therefore, it really takes a broad based rally to push it higher. If we remove one or two of those sectors that provided support in May the weakness will return.

The Russell 2000 Small Cap index exploded through resistance on Thursday as the biotech sector gained +2.5%. That support evaporated on Friday when the biotechs declined -2%. Resistance at 1,165 was broken for one day but even if the index does move higher it is still facing major resistance at 1,200.

The S&P-400 Midcap Index continued to break out out to nine-month highs thanks to the biotechs. This is the most bullish of all the index charts. If the midcaps continue to move higher, it could provide a spark for the broader indexes. The index is only 49 points from a new high.

The Nasdaq 100 big cap index stalled at 4,500 as stocks like AAPL, NFLX and GOOGL all rolled over starting on Thursday. It is not likely the index will break through resistance at 4,575 unless all three of those stocks suddenly turn bullish. The big cap techs may be the leading edge of a future decline.

The Dow Transports also peaked on Tuesday and then dipped significantly lower at the open on Friday. The 7,640 low was a 9-day low. The longer-term trend for the transports is down and we could see that trend reassert itself next week. The airlines are fading from discounted prices and people not wanting to stand in a security line for 3 hours on each end of a plane trip.

High yield bonds continue to soar despite a record number of new issuance. However, analysts are expecting spreads to widen and were not sure as of Thursday if the trend would continue. After Friday's jobs report, the high yield instruments should continue to be in favor. We are watching for the red line (HYG) to move ahead of the black line (SPX) to signal a major rally in equities.

The Semiconductor Index always leads the S&P at major turning points. Look closely at the blue line and you can see the relationship. The SOX averages about a 10-14 day lead over equities. The correlation is nearly 100%. If the semiconductors begin to fade next week as I expect we could see the S&P follow the $SOX lower. Currently the spread/trend is bullish for equities but change could appear quickly.

The very long-term view of the market is still bearish. The S&P has traded in a 324-point range for the last two years. Eventually a breakout/breakdown will occur and the expected movement outside that range is 324 points. That targets either 2,458 on the upside or 1,456 on the downside.

The 10/21 month averages have crossed into a negative setup. Since 1995 if you had exited the market whenever the 10-month average moved under the 21-month and reentered when the averages reversed you would have captures the vast majority of the market moves in either direction. The averages turned bearish in March and remain bearish until the 10-month moves back above the 21-month.

The shorter term weekly chart has seen the 50-week average move below the 100-week average and that is also negative.

The short-term view is neutral. We are now into June and approaching the summer doldrums where volume is very light and volatility can increase. With funds flowing out of the market the last 8 weeks it suggests a lot of investors are choosing to wait safely on the sidelines until the summer is over.

Enter passively and exit aggressively!

Jim Brown

Send Jim an email


New Option Plays

Going Countertrend

by Jim Brown

Click here to email Jim Brown

Editors Note:

The biotech sector has supported the market since the May 12th low and has gained 16% over the last three weeks. The motivating factor was the impending ASCO cancer conference that started on Friday. Sell the news.


No New Bullish Plays


XBI - S&P Biotech ETF - ETF Description

The S&P Biotech ETF follows the S&P Biotechnology Select Industry Index. The fund holds 85 biotechnology and pharmaceutical companies. The XBI tracks the NYSE ARCA Biotechnology Index ($BTK) almost perfectly.

The $BTK has gained 16% over the last three weeks since May 12th. The reason for the rebound was the American Society of Clinical Oncology (ASCO) conference that started on Friday. More than 35,000 professionals in the field of Oncology attend this annual event. Any company with a new idea, treatment or drug will be there. A few will rocket higher after the event. Most will fall back into their original trend if they did not present anything new and notable.

The conference started on Friday and quite a few biotech stocks that rallied ahead of the event fell back 3% to 5% on profit taking. Investors wanted to take profits and not risk getting blindsided with some negative headline from the conference. If somebody announces a new drug that may work better than somebody else, then the loser gets crushed and the new guy gets praised.

I am proposing we buy a put on the XBI in anticipation of a return to the prior trend. Remember, both political candidates have been trashing the drug companies and promising to do something about the high cost of drugs. There is a new term being tossed around in the sector and that is "financial toxicity." That means the drug may work great but the cost will prevent it from being prescribed or covered by the insurance companies. This means, even without the political bashing drug prices are going lower.

Buy July $57 put, currently $2.25, no initial stop loss because of potential early weak volatility.

In Play Updates and Reviews

Third Time Not the Charm

by Jim Brown

Click here to email Jim Brown

Editors Note:

The S&P dipped to 2,085 at the open but worked its way back to positive territory to close at 2,099 for the third time in the last four days. After Thursday's close at 2,105 it looked like we might be poised to try and retest the historic high close at 2,132. The weak payroll report nipped that effort in the bud but the dip to 2,085 was bought for the third time in four days and we returned to that 2,100 resistance once again.

The problem we are having with the market is the lack of a trend. There were two big short squeeze gains last week and the market has gone sideways for the last six days. While we sit here in the 2085-2100 range with big dips and equal rebounds our directional option plays are simply evaporating.

Despite the S&P continually testing 2,100 the number of advancing stocks is declining. The market is being led by a few generals while the troops are losing traction.

The Nasdaq has been supported by the biotech sector for three weeks. With the ASCO conference over on Tuesday there will be a lot of biotech stocks giving back their gains. That should weaken the Nasdaq and the Russell 2000.

Current Portfolio

Current Position Changes

CAR - Avis Budget

The long call position was opened with a trade at $31.05.

Profit Targets

Check the graphic above for any profit stops in green. We need to always be prepared for a profit exit at resistance.

Stop Loss Updates

Check the graphic above for any new stop losses in bright yellow. We need to always be prepared for an unexpected decline.

BULLISH Play Updates

AMP - Ameriprise Financial -
Company Description


No specific news. Big drop at the open after the payroll numbers. A fed rate hike for June is off the table and that means all financial stocks fell hard. Shares did recover significantly but still ended with a big loss.

Original Trade Description: June 1st.

Ameriprise Financial is a large holding company of broadly diverse investment companies. They provide financial products to individual and institutional investors worldwide. They operate as a full service brokerage and provide investment products and advice to retail, high net worth individuals and institutional clients. They also provide mutual funds and exchange traded funds, variable product funds underlying insurance and annuity accounts. They also provide life insurance, disability income, property and casualty insurance through various relationships. The company was previously known as American Express Financial Corporation and changed its name in 2005.

Ameriprise is a complete provider of financial services. Acquiring the Emerging Global Advisors portfolio of ETFs gives them another line of products to sell to their high net worth clients. EGA launched its first ETF in 2009 and specializes on providing rules based, smart beta strategies in order to provide diversification and growth opportunities in emerging markets. In the first quarter the company applied to the SEC for registration of numerous additional ETFs that provide equity income to investors. Blackrock believes smart beta ETFs will reach more than $1 trillion in assets by 2020 and $2.4 trillion by 2025. Blackrock is a competitor whit its iShares series of smart beta offerings.

When AMP reported earnings on April 27th they missed the estimates of $2.20 with earnings of $2.17. Revenue was $2.8 billion. They blamed the miss on the extreme market volatility in January and February. They returned $568 million to shareholders in buybacks and dividends.

Shares declined on the news but analysts began saying given the volatility they did really well and shares have now moved over the April pre-earnings high.

Earnings are July 27th.

They have resistance at $109 and again at $115. With expectations for a Fed rate hike lifting the financial sector we should see a couple more weeks of gains on that alone. Since the July options expire before the earnings they do not have any expectation premium. Also, when June options expire in two weeks the July premiums will immediately evaporate. I am recommending we go with the more expensive September calls and plan on selling them before AMP earnings.

Position 6/2/16:

Long Sept $105 call @ $3.40, see portfolio graphic for stop loss.

ATVI - Activision Blizzard - Company Description


Big drop despite strong sales of Overwatch. Since its launch on May 24th the game has been played by more than 7 million players according to Activision. The game received a score of 92 out of 100 as reviewed by gaming critics. It retails for $59.95. A Cowen analyst said first week sales should be roughly 40-50% of its first year today and at the current rate they are now projecting 12-15 million units with the majority in 2016. The annual E3 video game show is June 14-16 in Los Angeles and Activision should be generating plenty of buzz.

Original Trade Description: May 28th.

Activision Blizzard designs, develops and publishes online, personal computer, video game console, handheld, mobile and tablet games. The company operates through two segments, Activision Publishing, Inc. and Blizzard Entertainment, Inc. The company develops, publishes, and sells interactive software products and content through retail channels or digital downloads; and downloadable content to a range of gamers. It also publishes subscription-based massively multiplayer online role-playing games; and strategy and role-playing games. In addition, the company maintains a proprietary online gaming service, Battle.net that facilitates the creation of user generated content, digital distribution, and online social connectivity in its games. Further, it engages in creating original film and television content; and provides warehousing, logistical, and sales distribution services to third-party publishers of interactive entertainment software, as well as manufacturers of interactive entertainment hardware products.

At the end of Q1, ATVI had 544 million monthly active users thanks to the acquisition of King Digital. King had a very diverse network of 463 million global game players. Activision said the acquisition will be accretive to 2016 revenues and earnings by 30% and significantly accretive to free cash flow per share. It also brings 463 million players into the Activision Blizzard massive multiplayer PC games like World of Warcraft that have monthly subscription fees.

Activision actually has a World of Warcraft movie premiering on June 10th. If you go to the movie, you will get a copy of the PC game World of Warcraft free. The movie characters have custom weapons that will be available to players after the movie debut.

Their new game "Overwatch" has been played by 9.7 million people in the open beta phase where it is released to the public in order to get the bugs out of it. It is a good bet the majority of those players will be buyers when the game launched on May 24th. Initial sales were huge and Jefferies expects ATVI to sell 5-7 million copies in Q2. When it reaches 10 million units Jefferies said that would produce up to $250 million in revenue for ATVI or 7-9 cents a share in earnings.

Metacritic has a 93 rating on the game and out of 11 professional reviewers five gave it a perfect 100. The Jefferies team that played the game in order to review it said "it was easy to learn but difficult to master."

Gamers spend $509 million in April in the U.S. alone.

Activision said they were working with Twitch and Instagram and would be producing a lot of content on Facebook live. They are planning on launching live streams of E-Sports programming to all of Facebook's 1.6 billion users. E-Sports provides live competition by gamers for millions of dollars in prizes as other gamers watch. Activision just launched its MLG.tv live streaming platform where gamers can watch others play in real time.

Webush believes ATVI could earn $3 per share by 2018 with $2 per share in 2016. The company reported 23 cents for Q1 on record revenue of $1.46 billion. Those numbers were up from 16 cents and $1.28 billion. Analyst estimates were for 12 cents and revenue of $823 million. The company raised guidance for Q2 and for the full year. They are guiding for earnings of 38 cents in Q2, up +192% on revenue of $1.38 billion, up +81%. For the full year they guided to earnings of $1.78, up +35% and revenue of $6.28 billion, up +36%.

Adding to earnings were continued sales of Call of Duty: Black Ops 3 and Candy Crush Jelly Saga.

Earnings are August 4th.

Shares are approaching new high resistance at $40 and should breakout, market permitting. I am proposing the August $40 calls even though they are a little more expensive than the July. I want to exit the position while those calls still contain some earnings expectation.

Position 5/31/16:

Long Aug $40 Call @ $2.18, see portfolio graphic for stop loss.

CAR - Avis Budget Group - Company Description


No specific news. Shares dipped hard with the market at the open and recovered about half of the losses by the close.

Original Trade Description: June 2nd.

Avis Budget Group provides car and truck rentals, car sharing and services to consumers and businesses worldwide. The Avis system has approximately 5,500 locations and the Budget system has 3,900 locations. The Avis system is the premium version while Budget is the economy version. Budget offers Zipcar, a membership based car sharing network that supplies vehicles to roughly one million members. The Payless brand has about 200 locations and they represent the "value" segment of the market. They also operate the Apex brand and the Maggiore brand. They also operate in the truck rental market with a fleet of 21,000 vehicles that are rented through roughly 1,000 dealers and 450 company owned locations. The company was founded in 1946.

Shares had been in the dumps since early January until news broke on the 17th that CEO John Tague purchased 66,000 shares to bring his total ownership to 220,000 shares. Shares began rising and institutional buying has accelerated. One institution purchased 3,000 June $13 calls on Wednesday. Call option volume was 3x normal on Wednesday and call buying was 14:1 over put buying. On Tuesday, an institution purchased 4,000 July $30 calls when the open interest was only 389 in the strike.

In their Q2 earnings, they missed the estimates on currency fluctuations and unusually soft seasonal demand. However, they raised guidance for the full year on earnings and revenue saying "pricing has already turned the corner."

With the spring and summer months a high demand season for car rental agencies this could be the time to speculate in the stock. The rebound on the insider buying and high call volume has pushed the stock over resistance at $30.50 with the next material level at $37.

Earnings August 3rd.

Position 6/3/16

Long Aug $32 call @ $2.35, initial stop loss $27.50.

DIS - Disney - Company Description


No specific news. Shares dipped with the Dow at the open but rebounded to close slightly positive.

Shanghai Disney opens June 16th and tickets are already being scalped for several times their official price. The new theme park is expected to pull as many as 20% of gamblers away from Macau in the months ahead.

Original Trade Description: May 19th.

Disney operates as an entertainment company worldwide through broadcast and cable television networks, domestic TV stations, radio networks, movies and media distribution of all types, theme parks, hotels and cruise lines.

Disney missed earnings on May 10th and shares have fallen from $106 to $98 over the last week. This sell off is overdone and shares are approaching support at $96. I believe now is the time to buy.

Disney's latest movie, Captain America: Civil War has already broken $1 billion at the box office in only two weeks. It could end up one of the highest grossing movies of all times. Disney has an entire list of movies headed for the theaters and some will be as big as Captain America. Star Wars: The Force Awakens has already grossed over $2 billion and there are many more episodes planned.

Disney Movie Schedule

May 27th, 2016 - "Alice: Through the Looking Glass"
June 17, 2016 - "Finding Dory"
July 1st, 2016 - "The BFG"
Aug 12th, 2016 - "Pete's Dragon"
Nov 4th, 2016 - "Doctor Strange"
Nov 23rd, 2016 - "Moana"
Dec. 16, 2016 - "Star Wars Anthology: Rogue One"
Mar 17th, 2017 - "Beauty and the Beast"
April 14th, 2017 - "Ghost in the Shell"
May 4th, 2017 - "Guardians of the Galaxy II"
May 26, 2017 - "Star Wars: Episode VIII"
June 16, 2017 - "Toy Story 4"
Mid 2017 - "The Incredibles 2"
July 17th, 2017 - "Pirates of the Caribbean"
Late 2017 - "Thor: Ragnarok"
Early 2018 - "Frozen 2"
May 4, 2018 - "Avengers: Infinity War - Part I"
2018 - "Untitled Star Wars Anthology Project"
Dec 25, 2018 - Mary Poppins Returns
May 3, 2019 - "Avengers: Infinity War - Part II"
2019 - "Star Wars: Episode IX"

They also are opening the Shanghai Disney theme park on June 16th and they expect up to 100 million visitors in the first year with tickets starting at the introductory price of $57-$75. There are 330 million people living within 4 hours of the park. That is truly a cash-printing machine.

Disney has sold off because of a decline in ESPN subscriptions. This is vastly over rated as a problem. Given their recent billion dollar movies and the cash flow from Shanghai the ESPN problems will be forgotten. At this point all the bad news is already priced into the market.

With support at $96 and shares closing at $98 today I am recommending a July call that will expire two weeks before their next earnings report. It is cheap and we can capture any rebound from support. There is risk of a further decline to that support so I am putting the stop loss under that $96 level.

Position 5/20/16:

Long July $100 call @ $2.15, see portfolio graphic for stop loss.

IBM - International Business Machines - Company Description


Dead stop on resistance at $153.50. No specific news.

Original Trade Description: May 26th.

IBM provides information technology products and services worldwide. The Global Technology Services segment provides IT infrastructure including outsourcing, integrated technology, cloud, and technology support services. IBM used to be a hardware company but that is rapidly shrinking and the services business is rapidly expanding. The company was founded in 1910.

Buffett calls IBM one of his "big four" investments in public companies including American Express, Cocs-Cola and Wells Fargo. He said IBM "possesses excellent business outlook and are run by talented managers that are shareholder oriented." He increased his stake from 7.8% to 8.4% worth $13 billion. IBM trades at 9x earnings and pays a dividend that yields 3.9% and has grown at an annual rate of 15% over the last five years. IBM is also a buyback machine. They routinely buy back billions in stock.

IBM has been suffering from a decline in revenue for the last several years. Their mainframe business is declining because China will no longer let critical companies by hardware from American companies for fear of spyware imbedded in the equipment. They also dumped their PC business to Lenovo in an effort to move away from commodity businesses and more into services.

Their cloud business is growing quickly. This week they announced a deal with FleetCor (FLT) to move its business to IBM's cloud. FleetCor processes 1.9 billion transactions a year. Forbes calls FleetCor one of its top 20 Most Innovative Companies. FleetCor manages more than a dozen datacenters globally at a cost of about $100 million. The company said, "IBM has more scale than us and we expect to see further efficiencies with IBM processing for us." They expect to save up to $40 million annually and expect greater security.

This is what IBM does best. They provide computing and services for Fortune 1000 companies. IBM said it signed 26 new service contracts last quarter for more than $100 million each. This is why IBM will rebound out of the funk they have been in for the last year. Amazon and Google do not have the capability to provide the services part of the cloud like IBM can. They provide hardware access but you do the rest. IBM does everything.

Earnings July 18th.

IBM shares have rebounded from $120 in February and are about to break out over 10-month resistance at $153.50. Once they break through that barrier, they could run for $15-$20 as unbelievers become believers and begin chasing the price higher.

If you want to take the cautious approach, you might want to wait until IBM trades at $153.75. I am recommending an immediate entry.

Position 5/27/16:

Long July $155 calls @ $2.40, see portfolio graphic for stop loss.

MKC - McCormick & Co - Company Description


No specific news. CEO will present at the Bernstein conference on June 3rd. We need a $3 bounce over the next week.

Original Trade Description: May 11th.

McCormick & Company, Incorporated manufactures, markets, and distributes spices, seasoning mixes, condiments, and other flavorful products to the food industry. It operates through two segments, Consumer and Industrial. The consumer segment offers spices, herbs, seasonings, and dessert items. It provides its products under the McCormick, Lawry's, Stubb's, and Club House brands in America. The company was founded in 1889.

This is truly a recession proof business. Everyone in the world uses spices in the food and you are not going to go without salt or pepper regardless of how poor you are. They reported earnings of 73 cents that beat estimates and revenue rose +2% to $1.03 billion. Cost of goods fell -1.6% and profit margins rose +1.8%. Cash on hand rose 36.7% and inventories declined. They guided for full year revenue growth of 4-6%, earnings growth of 6-8% and earnings of $3.68-$3.75. They pay $1.72 in annual dividends at 43 cents per quarter.

Earnings June 30th.

In mid April they acquired Botanical Foods Company based in Australia for $114 million. They provide packaged herbs and sales are growing at double digit rates. They export their products to 15 countries under the Gourmet Garden brand. McCormick expects the acquisition to be fully accretive to earnings in 2017.

The key point for this recommendation is that the shares are not going down despite the weak market over the last three weeks. Shares continue to climb despite the broader markets. However, they did decline 47 cents today after a four-week high yesterday. This will be a hedge against the market suddenly turning unexpectedly bullish. If shares move over Tuesday's high, I expect them to retest the April highs at $101.

Position 5/12/16:

Long June $100 call @ $.95, see portfolio graphic for stop loss.

OC - Owens Corning - Company Description


No specific news. Shares dipped with the market to to $50.32 at the open to stop us out by 3 cents.

Original Trade Description: May 25th.

Owens Corning, together with its subsidiaries, produces and sells glass fiber reinforcements and other materials for composites; and residential and commercial building materials worldwide. It operates in three segments: Composites, Insulation, and Roofing. The Composites segment manufactures, fabricates, and sells glass reinforcements in the form of fiber; and manufactures and sells glass fiber products in the form of fabrics, non-wovens, and other specialized products. Its products are used in pipe, roofing shingles, sporting goods, consumer electronics, telecommunications cables, boats, aviation, defense, automotive, industrial containers, and wind-energy applications in the building and construction, transportation, consumer, industrial, and power and energy markets. The Insulation segment manufactures and sells fiberglass insulation into residential, commercial, industrial, and other markets for thermal and acoustical applications; and manufactures and sells glass fiber pipe insulation, flexible duct media, bonded and granulated mineral fiber insulation, and foam insulation used in above- and below-grade construction applications. It sells its products primarily to the insulation installers, home centers, lumberyards, retailers, and distributors. The Roofing segment manufactures and sells residential roofing shingles, oxidized asphalt materials, and roofing accessories used in residential and commercial construction.

As you can see in the company description, they do a lot more than just fiberglass insulation but that is what they are known for in the industry. The sharp uptick in new home sales reported this week suggests there is a corresponding spike in new home construction both in the last several months and over the summer months. OC is the premier supplier of insulation materials for new home construction and their profits will blossom as a result.

In their recent earnings, they reported 53 cents compared to estimates for 33 cents. However, revenue was a slight miss at $1.23 billion compared to estimates for $1.24 billion. Shares were crushed for a 15% drop over the next four days. They have completely recovered and today's close was a new high.

In their guidance they said all three divisions were improving and this was for a winter quarter when demand is slower. I believe this is a better bet than investing in a homebuilder. All the builders use OC products so buying OC is a builder agnostic trade.

Earnings July 27th.

Shares do not move very fast but they have been a steady gainer since the February lows. Because it is a slow mover the option premiums are very cheap. Because Wednesday's close was a new high and the market has been up strongly for two days I am going to put an entry trigger at $52.50. We want to make sure there is a breakout before we enter and that the market is not going to tank at the open on Thursday.

Position 5/31/16 with an OC trade at $51.75

Closed 6/3/16: Long August $55 call @ $.85, exit .55, -30 cent loss.

SKX - Skechers - Company Description


No specific news. Uptick continued in a weak market.

Original Trade Description: May 4th.

Skechers designs, develops, markets and distributes footwear for men, women and children, and performance footwear for men and women under the Skechers GO brand. The company owns, operates of has franchised more than 872 stores internationally. They opened 78 stores in Q1 and plan on opening 160-165 more throughout the rest of 2016.

The company reported record earnings that rose from 37 cents to 63 cents for Q1 and easily beat the 43-cent estimate. Operating income rose 57.1%. Revenue surged 27.4% to $978.8 million and easily beat the estimates for $890 million. The company raised guidance for the current quarter to $875-$900 million.

Wholesale revenues rose 47.1% with an 8.5% increase in distributor sales and 23.2% increase in retail sales. Comparable same store sales rose 9.8%. Domestic retail sales rose 15.3% and international sales +59%. International same store sales rose 17.7%. To say that the company is doing everything right would be an understatement.

Earnings July 21st.

Shares split 3:1 in October just as a revenue miss for Q3 knocked the shares down 35% from $46 to $31. The stock went sideways for the last six months but has recently rebounded to resistance at $35. The strong earnings spiked the stock to that level and it has traded sideways for the last week as it consolidated those gains. In the last two days of market weakness shares lost $1 and were actually positive on Wednesday. I believe we are going to see a breakout to a six-month high.

I know it is strange to recommend a bullish position in a negative market but the lack of a market related decline in SKX suggests they will surge higher if the market were to turn positive.

I am going to recommend a slightly longer option on this position so the premium will not decay as fast if the market continues to be weak.

Also, because we are in a negative market I am going to put an entry trigger on the position. I do not want to recommend a bullish position and have the market gap down -100 points on Thursday. If SKX does not rebound to hit the entry point we lose nothing.

Position 5/9/16 with a SKX trade at $32.25:

Long July $35 call @ $1.00, see portfolio graphic for stop loss.

TWTR - Twitter - Company Description


Holding at 8-week high. Twitter held talks with Yahoo several weeks ago to discuss merging the two companies. Management held discussions but nothing ever materialized and Twitter bowed out of the bidding process. Twitter was interested in the millions of Yahoo users since both companies are heavily into news distribution.

Original Trade Description: April 9th.

Twitter operates as a global platform for public self expression and conversation in real time. I am pretty sure everyone knows what Twitter is so I am not going into depth in this explanation.

Twitter has become the bet of the year. Analysts either think it is going to single digits or going to the moon. The highest price target is $36 and the lowest is $11 with the average at $20.86 across a total of 27 brokers.

Twitter has trouble keeping users because the learning curve is steep and Twitter spam is increasing daily. Twitter bots can be programmed to spread tweets and make it appear there is a huge volume of interest in a specific subject. Andres Sepulveda, a Latin American political operative used custom software to direct 30,000 Twitter bots to create false enthusiasm for candidates and spread rumors about the opposition. Sepulveda said the tactics gave him "the power to make people believe almost everything." The man responsible for his operations said two American presidential candidates had contact him and one of those was Donald Trump.

Unfortunately, Twitter has been having trouble monetizing all the traffic regardless of whether it is real or fake. Their monthly active users include a lot of churn and barely any growth. While nobody expects Twitter to go out of business they are losing faith in the business model.

CEO Jack Dorsey is also CEO of Square and that carries mixed emotions. Some want him replaced and others want him full time. Almost nobody wants him to continue the dual role.

There are constant rumors that Twitter will be bought by someone like Google or Apple. If that were to occur it would carry a huge premium to the current $16 stock price.

Twitter has been earnings challenged for a long time and the stock has declined from $55 to the current $16 level on a lack of confidence they will turn the company around.

Earnings April 26th.

The stock is either going to single digits or it will be back well over $20 soon. It is not likely to continue moving sideways at $16.

I am recommending we do a strangle on Twitter using the June options. Regardless of the stock or market direction we should be able to profit. Because Twitter is $16 and stagnant the options are relatively cheap. I want to buy them now and hold over earnings because that is likely to be a volatility event. We could also get some market moving news with the earnings release.

You could use the $18 call and $15 put for a net debit of $2.22 if you want a cheaper option.

Position 3/11/16

Long June $17 call @ $2.07, see portfolio graphic for stop loss.

Previously Closed 5/17/16: Long June $16 put @ $1.45, exit $1.96, +.51 gain.

BEARISH Play Updates (Alpha by Symbol)

DLPH - Delphi Automotive - Company Description


No specific news. The 2% decline bought it another day in the portfolio. The stop loss is in the right spot but we need to see a break below $66 to breathe easier.

Original Trade Description: May 23rd.

Delphi, a former division of General Motors, manufacturers vehicle components and provided electrical and electronic, powertrain, and safety technology solutions to the automotive and commercial vehicle markets worldwide.

When they reported Q1 earnings of $1.36 they beat the estimates for $1.34. Revenues increased 7% to $4.05 billion but missed estimates for $4.08 billion. They repurchased 5.6 million shares worth $370 million in the quarter and had $137 million left to spend. In April the board authorized a new $1.5 billion repurchase program. They currently has $463 million in cash and $4.35 billion in debt.

On the surface it would appear they are a very healthy company. However, they are very dependent on U.S. auto production. The Autonation CEO said on his earnings call that auto inventories were at record highs and there was no space left to store them. He said manufacturers would have to cut back on production for the rest of the year to bring inventory levels back into balance.

Vehicle sales have been helped by low gasoline prices and the abundance of subprime loans available to consumers. Some 44% of borrowers were taking out 61-72 month loans. However, all good things must end. Gasoline prices are rising and are not likely to return to the recent lows for a very long time, if ever.

Recently banks reported that as many as 31% of those subprime loans were in trouble. While not technically in default, there have been problems like late or missed payments. Also, as many as 35% of those borrowers are underwater because the value of recently new cars has fallen sharply with the resale market still crowded with the used cars everyone is trading in to buy new.

As a result of those statistics the subprime auto loan market is evaporating. It is becoming increasingly hard to obtain financing and larger down payments are required. This is slowing the sale of new cars. In the March sales report the run rate fell to 16.6 million and a two year low. That rebounded to 17.4 million in April and analysts blamed the dip on the weather. However, the last five months have been significantly lower than the last five months in 2015 when the sales rate rose to 18.2 million. Manufacturers are compensating by raising incentives nearly to the rate immediately after the recession. Also, manufacturers leased a lot of cars in order to move inventory immediately after the recession. Those cars are now coming off lease with 2.55 million expiring in 2015 and that number will rise by 500,000 per year through 2018.

This is where Delphi runs into trouble. As auto sales decline it will reduce revenue for Delphi. We are also heading into the summer months when auto factories shut down to retool for the new models that come out in the fall.

Investors have caught on to the "peak auto" worries and Delphi shares have been declining since their earnings in early May. If a company is going to miss on revenue in the good times they are likely to miss again as auto sales slow.

Earnings August 3rd.

Position 5/24/16:

Long July $65 put @ $1.92, see portfolio graphic for stop loss.

NKE - Nike - Company Description


No specific news. Nike shares fell -2% after a week of sector losses as a result of the Sports Authority bankruptcy and account receivable losses these companies will suffer from the store liquidation. Nike closed at a 9-month low and could test $50, market permitting.

Original Trade Description: May 21st.

Nike designs, develops, markets and sells athletic footwear, apparel, equipment and accessories for men, women and kids worldwide. The company offers products in eight categories including running, basketball, football, men's training, women's training, sportswear, action sports and golf under the Nike and Jordan brand names.

Part of Nike's successful marketing involves signing deals with various celebrities, sports teams, franchises, etc, for endorsements and advertisements obtained by teams and players wearing Nike apparel. Sometimes Nike discounts their equipment to enterprises including colleges, group sports associations, etc along with an agreement not to use another brand.

Last week Nike signed an $870 million, 10-year deal with the Chelsea soccer club and they will provide all their equipment and apparel starting in 2017. I am pretty sure the club cannot use $87 million a year in uniforms, shoes, balls and nets. That means the rest of the money Nike is paying is for advertising the Nike swoosh on all their uniforms. That is an expensive advertising deal but evidently Nike thanks it is worth the money.

Recently Nike paid endorsements have reached unbelievable heights with LeBron James receiving a $1 billion lifetime contract to endorse Nike products and allow his name to be used for a line of basketball shoes. The problem occurs when these sports start quit playing. Within a few years they are all but forgotten as a new crop of athletes become the new superstars and a new crop of teenagers want new gear named after or endorsed by those new stars. Under Armour's Stephen Curry is a prime example. He is the new star on the block and they cannot keep his shoes in stock.

When Foot Locker reported earnings on May 19th they said Nike's basketball shoes were not selling. Nike shoes account for 60% of Foot Locker revenue. Foot Locker accounts for 20% of Nike revenue. Nike's basketball shoes for named players including LeBron James, Kobe Bryant, Kyrie Irving and Kevin Durant occupy the most shelf space at Foot Locker and sales of those high dollar shoes are slowing. I reported several weeks ago that Foot Locker was selling some of those shoes for 50% off in their online store. That is a clear sign of slow retail sales.

With so much of Nike's revenue coming from the Foot Locker chain it suggests Nike could have some earnings problems in the current quarter. If those shoes are not selling in Foot Locker they are probably not selling at Finish Line (FINL) either. Finish Line has been struggling with sales anyway and having a Nike product that is not moving could make the situation worse. Add in the bankruptcy and closure of 450 Sports Authority stores and another sales outlet for Nike bit the dust.

Nike is a good company. They have great products and they sell worldwide and online. Their last quarter earnings rose 22% to 55 cents and beat estimates for 48 cents. However, revenue of $8.03 billion missed estimates. Nike blamed the strong dollar for the revenue miss. They said futures orders rose 12% and that also missed estimates for 15%. They also missed on revenues in the prior quarter.

Now that basketball season is over and all those unsold basketball shoes are cluttering up store shelves we could see further weakness in the current quarter earnings due out on June 23rd. With all the retail earnings declines over the last couple weeks it makes sense that Nike may have been having some of the same volume problems. Since they missed on revenues in the prior two quarters, it would seem to be a good bet they will miss this quarter as well given the weakness in retail.

Shares crashed after their earnings problem on March 22nd and flatlined around $60 for a month. That sideways movement has now turned into a downward slide with the stock hitting a three-month lod on Friday before rebounding from the initial FL instigated dip. I believe the stock is going to continue to move lower and the bounce on Friday was an entry point.

Position 5/23/16:

Long July $55 put @ $1.75, see portfolio graphic for stop loss.

SPY - S&P 500 ETF - ETF Description


The S&P dipped to 2,085 again at the open but worked its way back to positive territory to close at 2,099 for the third time in the last 4 days. That was another spectacular recovery but resistance at 2,100 remains strong.

If we do not get a retracement of these gains next week, our June options will expire worthless.

Original Trade Description: March 16th.

All good things must come to an end. The market appears poised to rally and produce a new leg higher. However, there is serious resistance starting at 2,075 on the S&P and continuing through 2,100. The odds are very slim that a rally will make it through that resistance ahead of the earnings cycle and assuming earnings for Q1 are as bad as the guidance we have been getting then it is even more likely the market rolls over into the "Sell in May" cycle.

Nobody can accurately pick turning points in the market on a routine basis. There are far too many things that can push and pull the indexes but at critical resistance levels we can normally anticipate at least a little reaction to those levels.

The S&P has strong resistance beginning at 2,078, which equates to $208 on the SPY. That resistance runs from 2,078 to 2,105 or roughly $211 on the SPY. I am proposing we buy puts on the SPY starting at $207 with a stop loss at $213.

The S&P may never hit those levels or it could hit them next week. The close after the Fed decision was 2,027, which means it would still have to rally 50 points to hit our initial entry point. Once it reaches that level it will have rebounded for +268 points and would be extremely overbought when it reached that 2,078 level. That makes it even more likely it will fail when it gets there.

I am going to recommend the June $200 puts. They should cost about $4 when the SPY reaches the $207 level. I want to use June because we may not reach that resistance for a couple weeks, if at all, and once we do hit that level I want to be able to profit from any sell in May decline.

This position could go for several weeks without being triggered and there is a good chance we will not get to play it with numerous analysts calling for a failure at 2,040 and 2,050 along the way. There are analysts calling for a retest of the 1,900 level this summer with some projecting significantly lower levels. If you look hard enough you can probably find someone projecting targets a couple hundred points higher or lower than the ones discussed.

Morgan Stanley's Adam Parker slashed his price target for the S&P from 2,175 to 2,050 yesterday. Most of the major banks are in the 2,050 to 2,100 range so the expectations for a major rally from here are pretty slim.

Position 3/23/16 with SPY trade at $204.11

3/23/16: Long June $200 put @ $4.77 with SPY trade at $204.11
4/01/16: Long June $200 put @ $3.26 when SPY traded at $207.
4/19/16: Long June $200 put @ $1.95 when SPY traded at $210.
See portfolio graphic for stop loss.

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