Option Investor

Daily Newsletter, Wednesday, 10/28/2009

Table of Contents

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

Market Wrap

Disappointing Reports Slam the Market

by Judy Alster

Click here to email Judy Alster
Put down that knife; I'm only the messenger. If you must beef at someone, try the Commerce Department who was up at dawn, busily releasing the Durable Goods Orders report for September. It wasn't horrifying but it wasn't great either, and it came in enough under expectations to help the market continue its downward move. Add a very disappointing new home sales report and a downward revision of GDP estimates by at least three investment firms, and whaddaya got:


Starting off with durable goods, we saw stronger orders for capital goods, defense goods and machinery in September for a $1.6 billion or 1% increase in orders, the second rise in three months. But excluding a 1.1% rise for transportation equipment, durable orders rose 0.9%; without defense, orders rose 0.5%. Investors weren't impressed, evidently, and neither were economists, who were expecting a 1.5% rise.


Possibly they were glum because the August numbers were revised down from minus-2.4% to minus-2.6%, so the rise is smaller than it seems. And only two categories accounted for just about the entire $1.61 billion increase in orders: machinery with a gain of $1.7 billion (+7.9%) and defense aircraft with $618 million. (+12.5%).


Between this and other bleak news on Wednesday, it was almost a foregone conclusion that the major indexes would steadily make lower highs and lower lows all day, and they did. Major market indexes fell by the largest amount in about a month. The Dow Jones industrial average lost 119 points, or 1.2 percent, its third straight triple-digit drop. The Nasdaq composite index fell 2.7% while the S&P 500 fell 20.78 points or 1.95%. Decliners madly outpaced advancers by a factor of 8.7 on the NYSE and nearly six on the Nasdaq.


Stocks have been mostly falling since hitting their highest levels in a year at the start of last week. The slide of the past week isn't surprising given the climb of the last eight months and the mixed economic readings. Corporate profits have been improving but investors are still waiting for that rebound in sales.

Most durable goods orders were off for September, including civilian aircraft down 2.1% — Boeing saw orders drop sharply in September from the month before — motor vehicles, computers & electronics and electrical equipment, although orders for primary metals were up slightly. Even looking at the two positive categories, machinery orders year-to-date are down a steep 29% year-over-year and as for defense aircraft, well, with a war on, how can that miss?


If we needed additional proof that consumers are continuing to play Hide the Wallet, new orders for big-ticket items were down 20.4% year over year. This graph from the St. Louis Fed indicates just how much of a manufacturing setback we've seen in this downturn:


Even after a couple of months of recovery, the dollar value of business is below the lowest point of the 2002 recession, even before you adjust for inflation. Not good. What’s picking up the some of the slack is the production of defense products, which is up 32% from July 2007. We need guns and butter. Swords and plowshares. Defense is only about 6% of durable goods, and it’s never a good portent for it to be the sole area of strength. It wasn't total gloom, of course: Machinery orders saw the biggest rise in 18 months. Nondefense capital equipment goods, excluding aircraft, rose 2% after two straight monthly declines, with the new-orders component of the Institute for Supply Management index remaining in positive territory. Industrial production increased 0.7% and manufacturing output 0.9%. Overall, new orders for durable goods are up year over year, although still in double-digit negative territory. These core capital goods orders are considered the best gauge of capital spending by businesses, and economists — some economists anyway — insist business spending has turned the corner, bringing the recession to an end. Those economists probably weren't taking calls Wednesday.

But to get back to the slide, the Mortgage Bankers' Association purchase index fell a not-insignificant 5.2% last week while the refinance index dropped a sharp 16.2%, despite rates continuing low with 30-year fixed loans down three basis points to an average 5.04%. The MBA had no comment.

Rubbing salt into the wound, Commerce told us new home sales fell 3.6% last month, surprisingly, for the first time in five months. They were at 402,000, down from 417,000 in August, well below the expected 4440,000 analysts had forecast/hoped for. The decline was due to a 10.6% drop in the West and a 10% drop in the South, the largest recorded since August 2007. Sales were flat I the Northeast and actually up by 34% in the Midwest. Even this report was not without its upside: The median sales price rose 2.5% in September to $204,800 (although somewhat heartening that's still 9.1% lower than the median price a year ago). The seasonally adjusted estimate of the number of new homes for sale at the end of September was 251,000, the lowest since November 1982, not including foreclosures.


Home builders fell after the sales data. Hovnanian Enterprises (HOV), Beazer Homes (BZH) and Lennar (LEN) were all down about 7%. Further accentuating the negative, Goldman Sachs said that by its calculations, gross domestic product rose at an annualized rate of 2.7%, not 3% as it said earlier. Morgan Stanley cut its outlook to 3.8% from 3.9%. Bank of America-Merrill Lynch lowered its forecast to 2.3% from 2.5%. Economists in one survey still think GDP expanded at a 3.5% rate in the third quarter, the first growth in a year. The government reports tomorrow. Place your bets at that window right over there.

Auto lender GMAC Financial Services is in talks with the Treasury Department for yet another infusion of taxpayer aid, its third, as it faces a November deadline to raise the $11.5 billion capital cushion mandated by results of the government's "stress test" earlier this year. Of the 19 banks that underwent the government's stress tests, 10 were determined to be undercapitalized and GMAC is the only one of those to not have been able to raise all of its necessary capital from investors. It didn't appear to help the banking sector, which has been taking a severe hit lately. Expect Congress to fork over another $2.8 to $5.6 billion.


As if on cue, some earnings reports added to the worries. As one analyst put it, "It seems that unless you have a good report and good guidance and good analysts' expectations before the report, your stock is going to fall." Earnings that more than doubled weren't good enough for analysts, and Goodyear Tire and Rubber's (GT) shares fell $3.28 or 19.6% Wednesday after the tire giant shared its grim outlook for its big North American market. The company reported earnings of $72 million or 30 cents a share, up from $31 million or 13 cents a share in the year-ago period, as it cut costs and added products. Sales, however, fell to $4.39 billion from $5.17 billion on lower industry demand for tires and unfavorable exchange rates; analysts were looking for a profit of 36 cents on sales of $4.32 billion. The company expects to post a fourth-quarter operating loss in North America, its biggest segment by revenue, between $73 million and $123 million: Blame seasonal tire-buying trends and higher raw material costs. Goodyear continued to slash jobs in the quarter, cutting 300 more workers on top of the 5,500 or so in the year's first half. The stock fell $3.28 or 19.6% on almost nine times normal volume.


Storage- and server-management company Symantec Corp. (SYMC) said Wednesday that its income rose 19% in its second quarter despite a decline in revenue, as the company managed to scale back costs. (That song again. Still . . . . cutting costs and running a lean ship are not to be sneezed at, assuming companies can continue to be cost-conscious after the good times return.) Income was $150 million or 18 cents a share compared with $126 million or 15 cents in the period last year; revenue declined 3% to $1.47 billion, although its consumer segment had a revenue increase of 6%. Symantec's stock is up 20% in the last 52 weeks and has been rising slowly in recent months; it traded near $16.70 after hours.


It wasn't all bad. Unisys Corp. (UIS) shares surged as the tech-services provider swung to a third-quarter profit that exceeded Wall Street forecasts. The stock gained $4.10 or 17% after the company reported a quarterly profit of $61.1 million or $1.48 a share, compared with a loss of $34.7 million or 96 cents a year ago, even though earnings benefited from a reverse stock split and revenue declined, especially international sales. Government sales picked up, margins improved significantly, and of course there were cost efficiencies.


Crude futures fell under pressure from unexpected rise in gasoline inventories and a rise in the dollar. The Energy Information Administration reported a build in crude inventories last week, up 0.8 million barrels, coupled with a build in gasoline inventories, up 1.7 million barrels. Gasoline demand was up only 1.9 percent year-over-year vs. the prior week. Although demand plays a smaller role than it used to, oil prices are dropping. Crude oil for December delivery finished down $2.09, or 2.6%, at $77.46 a barrel on the New York Mercantile Exchange; representative oil stocks such as the United States Oil Fund (USO)and the Powershares Oil Fund (DBO) fell along with it. Distillates, down 2.1 million barrels, are now being drawn down as the winter kicks in but distillate inventories are still far above average.


Refineries continue to limit their runs, operating at only 81.8 percent of capacity. I always like to keep an eye on refineries like Valero (VLO), Calumet (CLMT), and Tesoro (TSO). Although not without volatility and despite thinning margins, their stock has risen over the last four months. Along with exploration and production companies, petroleum refining stocks stand to benefit early and heartily from an economic turnaround (take a look at where they were in 2002) and as I may have mentioned, they pay steady dividends.


Market talk this week that the OPEC cartel may increase production is also limiting the upside in the oil market. Several oil ministers have said in recent days that the Organization of the Petroleum Exporting Countries may raise output. Given what we know about OPEC, it could be just a lot of blahblah, but we'll see. The report lifted the dollar a bit and hurt commodities. Oil could correct further as the dollar firms and traders possibly lose their appetite for risk.

The dollar could strengthen considerably in coming weeks despite the current nonexistent interest rate. Since some investors figure the dollar can't get much lower, and that eventually the Fed will have to raise rates, they're buying calls on it. Lately, call options on a bullish dollar fund have been trading briskly, as have the shares. This is something to watch.


For the Asia watchers among us, as we go to press Asian stock markets are having an awful start after Wednesday's losses here, with Japan's Nikkei 225 Average is below the 10,000 mark for the first time since Oct. 9.

Thursday look for the Gross Domestic Product report to move the market. In earnings, there's Burger King, AutoNation, Barrick Gold, Colgate-Palmolive, France Telecom, Libbey, McAfee, Office Depot and Office Max, Motorola and Procter & Gamble, among many others as earnings season continues.

Returning Tuesday night from a few days out of town, I discovered there had been a power surge, and it caused computer problems that you don't want to hear about. I apologize for the lateness of this posting.

New Plays

Hard Drive Breakdown

by James Brown

Click here to email James Brown


Western Digital Corp. - WDC - close: 33.58 change: -0.97 stop: 36.55

Why We Like It:
WDC produces storage devices (a.k.a. hard drives). The rally in technology has fueled a big move in WDC. Now that the NASDAQ is breaking down we're seeing a similar reversal in WDC. This week's fall under support at $35.00 and its 50-dma is very bearish.

I would prefer to open bearish positions on a bounce or failed rally near $35.00 but we may not get the chance. I'm suggesting bearish positions now but only small positions. I'd start with a 1/4 position (25%) of your normal trade size. That way if WDC does bounce we can add to it as the bounce rolls over. Our initial target is the $30.50 mark. Our second target is $27.75.

Annotated chart:

Entry on   October 28 at $33.58 
Change since picked:     + 0.00   			
Earnings Date          10/22/09 (confirmed)    
Average Daily Volume:       4.2 million 
Listed on   October 28, 2009    

In Play Updates and Reviews

Sweeping Stops

by James Brown

Click here to email James Brown

Today's market decline swept through the stop losses for most of our remaining bullish positions. We did have two trades hit our target today.

BULLISH Play Updates

UltraShort Russell - TWM - close: 31.64 change: +1.97 stop: 26.30

Target achieved. The market's sell-off pushed the Russell 2000 index to a 3.5% decline. The TWM rallied 6.6% in response. The high today was $31.92. Our first target to take profits was at $31.90. I am raising our stop loss to $28.49. Our second target is $34.50.

This is the ultra-short (double short) ETF on the Russell 2000 index that seeks to deliver twice the inverse of the daily performance of the Russell 2000.


Entry on   October 24 at $28.41 
Change since picked:     + 3.23
                            /1st target hit @ 31.90 (+12.2%)
Earnings Date          00/00/00 
Average Daily Volume:       4.2 million 
Listed on   October 24, 2009    

BEARISH Play Updates

Navistar Intl. - NAV - close: 32.96 change: -1.82 stop: 40.25

NAV sank to $31.71 before paring its losses. The trend is down but shares look short-term oversold. I wouldn't be surprised to see a bounce toward $35-36. Our first target is $30.50. Our second target is $27.75.

FYI: We initiated this play with half a position.

Entry on   October 24 at $35.41 (buy half a position)
Change since picked:     - 2.45   			
Earnings Date          12/30/09 (unconfirmed)    
Average Daily Volume:       1.5 million 
Listed on   October 24, 2009    

NASDAQ OMX Group - NDAQ - close: 18.25 chg: -0.36 stop: 20.65

NDAQ actually gapped open higher but quickly reversed. The stock lost 1.9% on the session. Our target to take profits is at $17.85. We'll plan to exit ahead of the November 5th earnings report.

Entry on   October 26 at $19.45
Change since picked:     - 1.20   			
Earnings Date          11/05/09 (confirmed)    
Average Daily Volume:       2.8 million 
Listed on   October 24, 2009    

Netlogic Micro. - NETL - close: 38.16 change: -1.37 stop: 42.65

Semiconductor stocks have been leading the NASDAQ lower. NETL lost another 3.4% today. If you didn't open positions this morning readers may want to wait for a little oversold bounce instead of chasing it here. The SOX semiconductor index has fallen toward support and looks due for an oversold bounce as well.

This is going to be a very short-term play. NETL reports earnings on November 3rd. We'll plan to exit ahead of the report. Our first target is $35.25.

Entry on   October 27 at $39.53 
Change since picked:     - 1.37   			
Earnings Date          11/03/09 (confirmed)    <-- amc -->
Average Daily Volume:       392 thousand
Listed on   October 27, 2009    

SL Green Realty - SLG - close: 37.96 change: -1.63 stop: 43.65

SLG confirmed yesterday's bearish breakdown with a 4.1% drop today. If you don't want to chase it here look for a bounce or failed rally near $40.00. Our first target is $35.25. Our second target is $33.00.

This stock can be somewhat volatile. I'm suggesting small position sizes.

Entry on   October 27 at $39.59 
Change since picked:     - 1.63   			
Earnings Date          10/26/09 (confirmed)    
Average Daily Volume:       2.1 million 
Listed on   October 27, 2009    

Steel Dynamics - STLD - close: 13.64 change: -0.71 stop: 16.21

The steel and metal stocks have been getting hammered lower. Earnings in the sector hasn't been that great and we've heard some less than bullish comments out of management from various firms. STLD lost 4.9% today and settled on technical support at its 200-dma. If there was going to be a bounce soon it would be here. Our target to take profits is at $12.60.

Entry on   October 24 at $15.03 
Change since picked:     - 1.39   			
Earnings Date          10/19/09 (confirmed)    
Average Daily Volume:       8.0 million 
Listed on   October 24, 2009    

Financial SPDRs - XLF - close: 14.14 change: -0.45 stop: 15.51

The XLF lost just over 3% today. The sector is looking a little oversold. I wouldn't be surprised to see a bounce soon. Our target is $13.10 but that might be a little optimistic. The rising 100-dma and the exponential 200-dma will probably offer some support. A very similar play would be bearish positions on the IYF financial ishares.

Entry on   October 26 at $14.71 (small positions) 
Change since picked:     - 0.56   			
Earnings Date          --/--/-- 
Average Daily Volume:       102 million 
Listed on   October 26, 2009    


HMS Holdings - HMSY - close: 40.35 change: -0.65 stop: 40.40

Last night we raised our stop loss on HMSY to $40.40. Today's market weakness was enough to push HMSY right through our new stop.


Entry on   October 17 at $41.55 /gap open higher 
                           /originally listed at $41.30
Change since picked:     - 1.15 <-- stopped @ 40.40 (-2.7%)
Earnings Date          10/30/09 (confirmed)    
Average Daily Volume:       227 thousand
Listed on   October 17, 2009    

Jacobs Engineering - JEC - close: 43.10 change: -2.79 stop: 44.75

The relative strength in JEC has vanished. Someone replaced it with relative weakness. The stock plunged 6% and broke down through several different layers of support. JEC hit our stop at $44.75 this morning and closed the play.


Entry on   October 15 at $45.88 
Change since picked:     - 1.13 <-- stopped @ 44.75 (-2.4%)
Earnings Date          11/17/09 (unconfirmed)    
Average Daily Volume:       1.2 million 
Listed on   October 15, 2009    

Petrobras - PBR - close: 45.43 change: -2.82 stop: 45.95

The profit taking in PBR was a little bit stronger than expected. Shares fell to their 50-dma and hit $45.33 this afternoon. Our stop loss was tagged at $45.95 closing the play.


Entry on   October 08 at $46.80
Change since picked:     - 0.85 <-- stopped @ 45.95 (-1.8%)
Earnings Date          11/13/09 (unconfirmed)    
Average Daily Volume:      12.8 million 
Listed on   October 07, 2009    

Pride Intl. Inc. - PDE - close: 30.42 change: -1.54 stop: 31.49

Our plan was to exit tonight at the closing bell to avoid earnings but that exit was cut short. PDE hit our stop loss at $31.49 closing our play early.


Entry on   October 08 at $31.15
Change since picked:     + 0.66 <-- stopped @ 31.49 (+2.1%)
                         /sell half @ 32.95 (+5.7%)
Earnings Date          10/29/09 (confirmed)    
Average Daily Volume:       3.7 million 
Listed on September 12, 2009    

VisionChina Media - VISN - close: 8.65 change: -0.34 stop: 8.65

The Chinese stock markets were mixed. The Shanghai recovered from its lows to close positive but the Hong Kong Hang Seng plunged for a second day in a row. Shares of VISN has fallen sharply three days in a row and hit our stop loss at $8.65 closing our play.


Entry on   October 07 at $ 8.53 
Change since picked:     + 0.12 <-- stopped @ 8.65 (+1.4%)
                          /take profits 10/24/09 (+20.3%)
Earnings Date          10/29/09 (unconfirmed)    
Average Daily Volume:       407 thousand
Listed on   October 07, 2009    


Exide Tech - XIDE - close: 6.09 change: -0.52 stop: 8.05

Target achieved. XIDE broke support near $6.50 and immediately fell toward the next level of support at $6.00. The low today was $6.04. Our target to exit and take profits was at $6.10.


Entry on   October 21 at $ 7.21 
Change since picked:     - 1.11 <-- target hit @ 6.10 (-15.3%)
Earnings Date          11/05/09 (unconfirmed)    
Average Daily Volume:       545 thousand
Listed on   October 21, 2009