Option Investor

Daily Newsletter, Wednesday, 2/17/2010

Table of Contents

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

Market Wrap

Many Reports, Not Much Action

by Judy Alster

Click here to email Judy Alster
It was a very busy day for economic reports, and most of them were pretty fair. Some good earnings were out, too. But after Tuesday's big move up (a lot of short squeezing), the indexes were only minimally impressed.


For openers, the Federal Reserve made the summary of its January closed-door meeting public Wednesday, revealing that with the economy slowly mending itself, the group was debating when to start reeling in the massive stimulus they unleashed on the economy. Some officials evidently want to start selling assets on the Fed's books "in the near future" to sop up some of the stimulus money and shrink the Fed's (embarrassing) $2.2 trillion balance sheet. Other members said No, that will drive up interest rates and hurt the economic recovery. Among those assets are mortgage securities the Fed has bought from Fannie Mae and Freddie Mac, aimed at lowering mortgage rates and bolstering the housing market. The Fed is scheduled to end $1.25 trillion worth of such purchases at the end of March but is holding the door open to extending the program if the economy weakens further.

The Fed also released a forecast Wednesday predicting unemployment will stay high over the next two years because recession-scarred Americans, both consumers and businesses, are likely to stay cautious. The Fed left rates at a record low near zero to help nurture the recovery and reduce unemployment and said they'd stay that way for an "extended period." The Fed expects the economy to grow between 2.8% and 3.5% this year, and to between 3.4% and 4.5% next year and in 2012. As it happens, to make any dent in unemployment the economy needs to grow by at least 5% a year.

All in all, no real surprises: Fed policymakers said it will take "some time" for the economy and the jobs market to get back to normal but this time several members said it might take longer than the previously-publicized five or six years. The Fed said the unemployment rate this year could hover between 9.5% and 9.7% and between 8.2% and 8.5% next year; by 2012 that will come down to between 6.6% and 7.5%. That's pretty much what it told us in November. But this time they said unemployment will remain high heading into this year's congressional elections and the presidential election in 2012. For more insights into the Fed's view of the economy and its strategy for drying up some stimulus money, stay tuned to next Wednesday's House Financial Services Committee, when Bernanke delivers the Fed's semi-annual economic report to Congress.

The Dow closed at 10,309, up 40 points or 0.39% and a sliver above resistance. At 193 million volume was okay, but lower than Tuesday. We need a breakout, and this didn't really qualify:


The S&P500 almost touched resistance on not-good-enough volume.


Similarly, the Nasdaq closed just above resistance at around 2,226, and on fair but not monumental volume.


It don't mean a thing if it ain't got that swing. Without volume and only nosing around resistance, "lukewarm" about sums it up.

The housing recovery is still inconclusive but mildly better than expected, according to the January starts report, with housing starts (groundbreaking for new homes) rebounding but permits falling. Starts in January bounced 2.8% after dropping 0.7% in December; the annualized rate of 591,000 units was above the market forecast for 580 thousand; that's up 21.1% year-over-year and the highest level in six months. The January comeback was led by a 9.2% increase in multifamily starts, following a healthy 12.6% jump in December; the single-family component edged up 1.5% after a 3% slide in December. The big winner for starts was the northeast; the only slippage was the Midwest, down 3.2%.

Permits dropped 4.9% in January, following December's 10.9% jump. Still, that's an annualized rate of 621,000 units, up 16.9% year-over-year, with the drop coming after two months of large increases owing to the winding down of the of the first round of first-time-buyer tax credits. In any event, significant seasonal factors and crazy weather shifts make it hard to ascertain the direction of housing during the winter, and this winter's weather has been, if anything, crazier than usual. The latest level for starts is an improvement but the fact that recent gains have been heavily weighted toward unsustainable multifamily starts is a little alarming. Single-family increases have been more modest and actually about flat on average in recent months.

Historically, housing starts have tended to follow the stock market up. This graph shows that in 2008, the time of most uncertainty in the stock market, housing prices experienced their steepest declines; later, the March 2009 price bottom and subsequent rebound in stocks coincided almost exactly with the turning point in housing.


But starts didn’t continue to follow the stock market up, nor are they rebounding as quickly as analysts expected. Instead they haven’t done much over the last seven or eight months. And if the next graph means anything, it's unlikely that with this near-record number of vacant housing units there will be a strong rebound in housing starts. The vacancy rate has continued to climb even after housing starts began dropping. This can be attributed to a significant number of completions, to second homes ("hidden inventory") becoming available for sale or for rent, and to some households doubling up because of tough economic times.

Another correlating factor, naturally, is unemployment. In most recessions, there's been a lag of about 16 months between the bottom of single-family housing starts and the peak in unemployment. This suggests unemployment might peak this summer since housing starts bottomed in April 2009. We'll see. HOUSING STARTS VS. VACANT UNITS:

Confirming all this, last week according to the Mortgage Bankers' Association, applications for home purchases fell 4.0%, pulling down the four-week average to minus-1.2%; applications for refinancing fell 1.2%, taking that four-week average up 1.8%. The MBA now helpfully reports the percentage of activity that refinancing comprises, and that's 69.3% vs. 69.7% the week before. Mortgage rates were little changed in the week, averaging 4.94% for 30-year loans (still a steal).

In big news today, especially if you live in New York City, Walgreen (WAG) announced plans to buy privately held and wildly ubiquitous Duane Reade drugstores. Until now, you had to travel to find a Walgreen's in the five boroughs but buying Duane Reade makes it an instant dominant player in the biggest market in the country. The nation's largest drugstore operator agreed to pay about $623 million for Duane Reade Holdings, the biggest drugstore chain in the city (seriously, sometimes you'll find two Duane Reades on a single block), where it has operated for 50 years. Walgreen is trying to improve sales by converting thousands of stores to a new, cleaner layout, trimming the total number of products the company carries, and targeting consumer tastes more closely. Duane Reade's 2009 sales totaled about $1.8 billion; Walgreen had sales of $63.34 billion in fiscal 2009, but although sales keep growing due to new store openings, analysts are concerned that it is losing market share to rival CVS Caremark and to big box retailers.


In earnings, there was good news from several bellwether companies. Much-awaited results from Hewlett-Packard (HPQ) showed profit up 25% in the latest quarter because of cost-cutting and a stronger showing from its personal-computer division. Revenue was up in most of the technology company's major divisions and HP raised its 2010 outlook, citing "accelerating market momentum." The numbers show that technology spending by corporations is mercifully creaking back to life. HP is the world's biggest maker of PCs and printers and its rising revenue shows that businesses and consumers are spending on technology; also its latest results are the first from a major tech company to include the full month of January. After the market closed Wednesday the company said its net income was $2.3 billion or 96 cents per share, well up from $1.9 billion or 75 cents per share. Without one-time items, HP said it would have earned $1.10 per share, beating the average estimate of $1.06. The stock moved during the session and again after hours:


People seem to be traveling again, or at least some of them are. Shares of online travel leader Priceline.com Inc. (PCLN) did well Wednesday as the company reported that its fourth-quarter net income doubled to $78.5 million or $1.55 a share from $34.2 million or 75 cents in the quarter last year. Revenue rose 33.4% to $541.8 million. Worldwide gross travel bookings growth accelerated in the fourth quarter.


Martha Stewart Living Omnimedia (MSO) also reported a profit for the fourth quarter, reversing a year-ago loss, as its revenue got a big boost from $10 million in deferred royalties from Kmart. The company earned $20.8 million or 37 cents per share, up from a loss of $8 million or 15 cents a year ago; analysts were looking for 30 cents. Revenue was up 20% to $87.6 million, better than the expected $84.9 million. Publishing revenue fell, but ad revenue rose for the first time since the second quarter of 2008. Broadcasting revenue and Internet revenue were both sharply higher and merchandise revenue, including that $10 million from Kmart, was up 84% to $25.7 million. All segments saw improved profitability, with operating income for publishing and broadcasting swinging to profit -- a good sign for consumer spending. The stock zoomed over 8%.


Another bellwether, agricultural-equipment maker Deere & Company, posted higher-than-expected earnings as wider margins at its farm equipment and finance units helped it to overcome weak economic conditions. Even better, the company raised its outlook for fiscal 2010 machinery sales growth to 6% to 8%, after previously predicting a 1% loss. Profitability in the tractor unit was especially impressive, with margins of nearly 10% — triple what investors had expected. The company, the world's largest maker of ag machinery, credited staff cuts and lower raw material costs. Deere reported a first-quarter of $243.2 million or 57 cents a share, up from $203.9 million or 48 cents; revenue fell 6%. Analyst expected a mere 19 cents on sales of $4.12 billion. Net income at the company’s financial services unit nearly doubled to $85.1 million, as the spread between Deere’s borrowing costs and the interest it charges customers widened. One caution: Deere warned that industry sales in Europe, especially Central Europe and the former Soviet Union would remain under pressure due to economic conditions and low levels of credit. The market liked what it heard, sending shares soaring:


In retail, the ICSC-Goldman report said that retail sales fell back steeply last week, dropping 1.6% from the prior period for a year-over-year for rate of minus 0.7% -- the first negative year-on-year rate in six months. Let's assume the declines, since they followed a week of strong gains, were caused by the miserable weather. For February, ICSC-Goldman sees sales rising a year-over-year 2% percent, down from. January's 3%. Despite last week's drop, retail stocks are coming strongly out of a three-week slump:


As regards production, a solid gain at the nation's factories, mines and utilities in January raised hopes that the upswing in industrial output over the past two quarters may foster a genuinely sustainable recovery. The Federal Reserve reported a 0.9% monthly increase for January, the seventh straight monthly gain; year over year, industrial production last month improved to plus 0.9% from minus 2.2 % the month before. Year over year there were declines in business equipment, construction, non-industrial supplies and mining but month over month, production was up in every major market and industry group -- the first time we've seen that since last August.

Manufacturing output had the sharpest increase since August, up 1% after a 0.1% fall the previous month. But all major subcomponents of production showed improvement, a truly encouraging sign for the sustainability of the economic recovery. Much of the manufacturing rise was due to a jump in auto assemblies, but gains were healthy elsewhere, as in motor vehicles & parts, which jumped 4.9% after a 0.3% decline in December. The overall capacity utilization rate is still low but rose to 72.6% from 71.9%.

Just a note lest we throw our hats too high in the air: Even though capacity utilization is up 6% from the record low set in June, it's still below normal, and far below the pre-recession level of 80.5% in November 2007. This may be the highest level for industrial production since December 2008, as witness below, but production is still about 10% below the pre-recession levels at the end of 2007.


(Rises in industrial production eventually and inevitably lead to inflationary pressures, so we wish the Fed luck in their vow to keep interest rates low for that extended period they frequently mention.)

And in the sixth straight increase, the prices of goods imported into the U.S. jumped in January, driven by higher prices for oil and gas, the Labor Department said Wednesday. Import prices rose 1.4% after a 0.2% advance in December. Roughly three quarters of the increase was attributable to higher fuel prices. Import prices rose for the sixth consecutive month and 11.5% for the year ending in January, the largest 12-month gain for the index since a 13.1% jump in the period from September 2007 to Sept. '08.

All things considered the day could have been worse, especially with background worries about Greece defaulting. On the subject of which, about eight years ago, give or take a few months, I told a friend that I thought a standard European currency was – my exact words — "the worst idea since the square wheel." For backup I cited Jane Jacobs, the late, brilliant (a word I use maybe once a decade) writer on city and national economies and urban planning. Briefly, Jacobs pointed out that as we know, when a nation's currency declines in value relative to the currencies of its trading partners, theoretically the decline itself should help correct the nation's economy through simple feedback: Automatically the nation's exports become cheaper to customer nations, which should help to increase exports; and its imports become more expensive which should help its own manufacturers. A declining currency ought to work like both a tariff and an export subsidy for exactly as long as needed, triggering the appropriate correction.

But national currencies don't really do this. They're good at carrying feedback information, but bad at triggering the appropriate adjustments. Why? For the simple reason is that nations are not discrete economic units -- although we pretend they are and compile statistics and formulate policy based on that pretense. Cities are discrete economic units. Nations include greatly-differing city economies that need different corrections at a given time, and yet they all share a currency that gives them the same information at a given time. Indeed, this consolidated information on the nation's international trade is bad for cities with respect to their foreign and domestic trade. On a larger scale it's very bad for big heterogeneous countries like Europe trying to share a single currency: You have many different economic units with different needs unfortunately all receiving the same feedback. For most of a decade the euro kicked sand in the greenback's face. But now we have Greece at last proving Jane Jacobs's point, soon perhaps to be followed by Spain. Interestingly, the major Greek phone company (OTE) has taken a 34% dive since October but the Greek Coke bottling company (CCH) is down only 7.5%. Which tells us something about priorities.

Thursday's possible market movers are the Producer Price Index and jobless claims. The natural gas and petroleum status reports are always worth watching, and leading indicators may tell us something we need to know. Earnings continue with all eyes on Wal-Mart, as well as Daimler, CBS and Reliance Steel, among others.

New Plays

Turning Point

by James Brown

Click here to email James Brown

Editor's Note:

I think traders need to step back and see what happens. The S&P 500 has rallied toward resistance in the 1100-1110 zone with the 50-dma overhead at 1108. The NASDAQ composite has rallied toward resistance at its 50-dma. The DJIA has rebounded to its early February highs. What happens next will be a short-term turning point with a breakout higher or a reversal lower.

We already have a full play list on the newsletter. I am not suggesting any new positions tonight. Let's see what stocks do on Thursday first.

In Play Updates and Reviews

Targets & Triggers

by James Brown

Click here to email James Brown

BULLISH Play Updates

DSW Inc. - DSW - close: 26.22 change: -1.47 stop: 25.75

Ouch! What happened to DSW on Wednesday? The RLX retail index and RTH were showing strength so why did DSW reverse? I could not find any news to account for the sudden weakness. How odd that it happens as soon as DSW closes at a new 52-week high. There is no denying that today's performance is a short-term bearish reversal with a failure under $28.00 and a drop toward its 30 and 40-dma near $26.00 (25.92). More conservative traders will want to exit early right here to cut their losses. I am not suggesting new positions at this time. Our first target is $29.95. Remember, our plan was to keep your positions small to limit risk.

Entry on  February 16 at $27.60 (small positions)
Change since picked:     - 1.38   			
Earnings Date          03/24/10 (unconfirmed)    
Average Daily Volume:       416 thousand
Listed on  February 13, 2009    

Estee Lauder - EL - close: 58.86 change: +0.50 stop: 54.75

EL continues to extend its gains. Shares hit $59.00 this afternoon. Our target to exit is $59.75. I am not suggesting new positions at this time.

Entry on  February 06 at $55.40 
Change since picked:     + 3.46   			
Earnings Date          04/27/10 (unconfirmed)    
Average Daily Volume:       2.5 million 
Listed on  February 06, 2009    

Illionois Tool Works - ITW - close: 45.45 change: +0.76 stop: 42.75 *new*

ITW's bounce continues with a 1.7% gain. Shares gapped open at $44.95, which was above our first target to take profits at $44.85. I am raising our stop loss to $42.75. Our second and final target is $46.45.


Entry on  February 06 at $42.66 (small positions)
Change since picked:     + 2.79   			
                    /1st target exceeded/gap higher $44.95 (+5.3%)
Earnings Date          04/15/10 (unconfirmed)    
Average Daily Volume:       3.6 million 
Listed on  February 06, 2009    

NUCOR - NUE - close: 42.44 change: -0.25 stop: 39.95

NUE gapped open higher at $42.98, which changes our entry point on the play. Fortunately the plan was to use small positions to limit our risk. If shares fill the gap with a dip toward $41.00 we might double down and add to positions. Given the sharp decline from the highs in most of the metal stocks this morning I would be cautious about opening new positions. Keep an eye on the $41.00 level. You'll also need to keep an eye on the dollar. If the dollar continues to rally our play could be in trouble.

Our first target to take profits is at $46.75. Our second and final target is $49.85. Our time frame is about four to six weeks.

Entry on  February 16 at $42.98 (small positions)/gap higher entry
Change since picked:     - 0.54   			
Earnings Date          04/22/10 (unconfirmed)    
Average Daily Volume:       6.1 million 
Listed on  February 16, 2009    

ROSS Stores - ROST - close: 47.09 change: +0.64 stop: 44.85

Retail stocks continued to show strength with another gain on Wednesday. ROST added 1.3% to close above its early February high. If you were waiting for ROST to clear resistance it has now done so. Our target to exit is $49.75.

Entry on  February 13 at $46.43 (small positions)
Change since picked:     + 0.82   			
Earnings Date          03/18/10 (unconfirmed)    
Average Daily Volume:       2.4 million 
Listed on  February 13, 2009    

BEARISH Play Updates

Ameritrade - AMTD - close: 17.40 change: +0.07 stop: 18.60

Financial stocks spiked higher this morning but ran out of steam. AMTD hit its 21-dma and reversed. I'm not convinced the bounce is over yet. I am suggesting readers wait for a failed rally near the $18.00 level before considering new positions. Our first target is $16.10. Our second target is $15.05. Our time frame is about six weeks.

Entry on   January 28 at $17.88 
Change since picked:     - 0.48   			
Earnings Date          04/21/10 (unconfirmed)    
Average Daily Volume:       6.1 million 
Listed on   January 28, 2009    

Companhia Brasileira de Distribuicao - CBD - cls: 72.09 chg: +1.31 stop: 72.65

Our bearish play in CBD could be over soon. The stock is still inching higher toward resistance near $72.00 and its 50-dma. Shares actually closed above $72.00 on Wednesday. If we get stopped out at $72.65 I would expect CBD to make a run at its January highs near $78.00 and more nimble traders may want to try bullish plays to scalp a chunk out of that move. I am not suggesting new bearish positions at this time. Our first target is $61.00. Our second target is $56.00. Time frame is several weeks.

Entry on   January 26 at $69.40 (very small positions)
Change since picked:     + 2.69 
Earnings Date          03/03/10 (unconfirmed)    
Average Daily Volume:       261 thousand
Listed on   January 23, 2009    

Rockwell Collins - COL - close: 54.29 change: +0.16 stop: 55.26

Our bearish play on COL is now open. Shares spiked higher this morning and hit $54.57. Our trigger to open positions was at $54.50. The 50-dma at $55.18 and the $55.00 level should be overhead resistance. Our first target is $50.25. More aggressive traders may want to aim for the 200-dma currently near $48.00. Our time frame is less than three weeks.


Entry on  February 17 at $54.50
Change since picked:     - 0.21   			
Earnings Date          04/28/10 (unconfirmed)    
Average Daily Volume:       834 thousand
Listed on  February 09, 2009    

FISERV Inc. - FISV - close: 47.12 change: +0.17 stop: 47.26

FISV is still drifting higher but shares should have resistance at their 50-dma. If shares close above their 50-dma we'll drop them as a bearish candidate. We're still on the sidelines waiting for FISV to breakdown. The plan is to open bearish positions with a trigger at $44.70. If triggered our first target is $40.15.

Entry on  February xx at $xx.xx <-- TRIGGER @ 44.70
Change since picked:     + 0.00   			
Earnings Date          04/29/10 (unconfirmed)    
Average Daily Volume:       1.4 million  
Listed on  February 00, 2009    

GATX Corp. - GMT - close: 27.05 change: +0.42 stop: 27.65

I have been warning readers about a potential bounce toward the 200-dma in GMT. It looks like that bounce has begun. I'm not suggesting new positions at this time.

Our first target is $23.15. Our second target is $21.00. It could take several weeks to get there.

Entry on  February 04 at $25.95 
Change since picked:     + 1.08   			
Earnings Date          04/22/10 (unconfirmed)    
Average Daily Volume:       467 thousand
Listed on  February 04, 2009    

Life Technologies - LIFE - close: 49.50 change: +0.58 stop: 52.01

The oversold bounce in LIFE continues thanks in part to relative strength in the rest of the biotech sector. Shares should encounter resistance near $50 and its 50-dma. More conservative traders may want to lower their stops. Wait for the rally to reverse before launching new positions. Our target to take profits is at $45.55. More aggressive traders could aim lower but the 200-dma is probably support.

Entry on   January 30 at $49.71 
Change since picked:     - 0.21   			
Earnings Date          01/28/10 (confirmed)    
Average Daily Volume:       2.6 million 
Listed on   January 30, 2009    

SBA Communications - SBAC - close: 34.33 change: +0.00 stop: 35.05

After a very impressive multi-day rally it looks like SBAC might be running out of steam. The stock hit $34.54 intraday but closed unchanged on the session. I'd like to see some weakness first before launching positions but more aggressive traders may want to jump in now. Our target is $30.15. More aggressive traders could aim for the 200-dma.

Entry on   January 28 at $33.45
Change since picked:     + 0.88   			
Earnings Date          02/25/10 (unconfirmed)    
Average Daily Volume:       1.5 million 
Listed on   January 26, 2009    

J.M.Smucker CO - SJM - close: 60.34 change: +0.49 stop: 61.51

SJM is bouncing but I'm expecting resistance near the 50-dma. Readers may want to wait for another failed rally under $61.00 before initiating positions. Our target to exit is $55.15 although I am starting to think we may have to exit early to avoid holding over earnings.

Entry on  February 05 at $59.49
Change since picked:     + 0.85   			
Earnings Date          02/24/10 (unconfirmed)    
Average Daily Volume:       698 thousand
Listed on   January 30, 2009    

Warner Chilcott - WCRX - close: 26.26 change: +0.19 stop: 28.11

The oversold bounce continues in WCRX. We're expecting a rebound toward resistance at $28.00 and its 50-dma. Right now the plan is to open bearish positions at $27.75. Really nimble traders could try capturing the bounce toward $28.00.

-2nd Trade-
Entry on February xx @ xx.xx <-- trigger @ 27.75 
Change since picked:  - 0.00 

-1st Trade - Closed 02/13/10 -
Entry on   January 30 at $26.65 /gap down entry point
Change since picked:     - 0.76 <-- exit early @ 25.89 (-2.8%)
                             /1st target hit @ 25.00 (-6.1%)
Earnings Date          02/26/10 (unconfirmed)    
Average Daily Volume:       1.3 million 
Listed on   January 30, 2009    

WIPRO Ltd - WIT - close: 21.10 change: -0.10 stop: 22.15

Bingo! WIT rallied toward its 50-dma and reversed. The stock hit our trigger to open bearish positions at $21.35. Our target is $18.05.


Entry on  February 17 at $21.35
Change since picked:     - 0.25   			
Earnings Date          04/22/10 (unconfirmed)    
Average Daily Volume:       934 thousand
Listed on  February 00, 2009    


Joy Global - JOYG - close: 49.86 change: +0.69 stop: 44.95

Target exceeded. Our target to exit was $49.90. Imagine our surprise when shares of JOYG gapped open higher at $51.12 this morning. The play was closed immediately. I expect the stock to find resistance at its 50 and 100-dma.


Entry on  February 06 at $44.54 (small positions)
Change since picked:     + 6.58 /target exceeded/gap higher (+14.7%)
Earnings Date          02/24/10 (unconfirmed)    
Average Daily Volume:       4.1 million 
Listed on  February 06, 2009    


Best Buy - BBY - close: 36.28 change: -0.15 stop: 36.51

BBY also spiked higher this morning and reversed. Our new stop loss was hit anyway at $36.51 closing this trade. We had a tight stop on purpose to make sure we were able to lock in some gains. I would keep BBY on your watch list. It might provide another trade soon.


Entry on   January 12 at $38.95 (small positions)
Change since picked:     - 2.44 /stopped @ 36.51 (-6.2%)
                           /1st target hit @ 35.25 (-9.4%)
Earnings Date          03/25/10 (unconfirmed)    
Average Daily Volume:       8.0 million      
Listed on   January 02, 2009