Option Investor

Daily Newsletter, Saturday, 4/10/2010

Table of Contents

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

Market Wrap

Dow 11,000 Bell Has Rung

by Jim Brown

Click here to email Jim Brown

The Dow 11,000 bell was rung at the close and now the question is how long it remains at this level and will it move higher.

Market Statistics

The closing spike came on low volume and was obviously a small buy program that triggered some short covering above resistance at 10985. Yes, Dow 11K was touched but it is not the major milestone the press claiming it to be. It was psychological only and not a specific resistance level that changes the characteristics of the market. The last time the Dow closed over 11,000 was Sept-26th 2008.

The first Dow close over 10,000 during the rebound was October 14th. Since that close only five Dow stocks contributed 459 of the next 1000 Dow points. To say it was a broad based rally would be an error. The following five stocks contributed the most to the Dow gain.

Dow Movers

Dow Intraday Chart

There was only one economic report on Friday and that was the lagging Wholesale Trade report. The wholesale inventories rose by +0.6% in February after a +0.1% gain in January. February was the fourth month in positive territory in the last five months. Sales rose +0.8% compared to January's +0.9%. The report was seriously underwhelming and had no impact on the market.

There are a lot of reports next week but none are really market movers other than the Fed Beige Book on Wednesday. If the Fed says the regional economies were doing better or worse than in their last report then the markets could move on the news. It the report is just more of the same with slow improvement then it will likely be ignored.

The Philly Fed survey on Thursday will be of interest but I doubt it will be a market mover. The real problem for the markets next week will be earnings not economics.

Economic Calendar

Alcoa kicks off the Q1 earnings reporting cycle on Monday but all eyes will be on Intel, JP Morgan, Google and Bank America starting on Tuesday with Intel. There has been some discussion that Alcoa could miss earnings and that would not be a good way to start off the reporting cycle even if the majority of traders don't have a vested interest in Alcoa. They were downgraded twice last week so the negativity may already be priced into AA.

Intel is probably going to set the tone for the entire earnings cycle. Estimates have been raised to the point where they may not be able to hit the target. We know Intel is having a good quarter but analysts have built up expectations for a +39% jump in earnings. If Intel misses that target it could produce a serious crimp in market sentiment.

JP Morgan is in the same boat. Earnings are expected to be 65-cents per share compared to 40-cents a year earlier and I am not sure Jamie Dimon is going to be that excited about posting blowout earnings. That will just bring more government wrath down on the banking sector for higher taxes and fees on big banks.

Google always has trouble with earnings. Everyone always expects more than Google delivers and the stock normally tanks after the report. Will this time be different?

Bank America is expected to report only 8-cents compared to 44-cents in the year ago period. That is not likely to go over well despite the reasons being TARP repayment. Richard Bove posted a note on BAC on Friday that caused the stock to decline slightly although I thought it was positive. Bove said BAC would be worth three times as much if it were broken up instead of allowed to continue as a conglomerate. He projected a $53 stock price if it was split into three companies. He projected a double for JP Morgan using the same logic last week. He believes JPM would be worth $102 in a split.

I really hope the headliners in the earnings table below don't let the market down next week.

Earnings Calendar

Greece was back in the headlines on Friday as Fitch cut its debt rating on Greece by two notches to BBB- from BBB+. Fitch said Greece was facing new problems in raising fresh money on the global markets. This downgrade again roiled the markets but it was quickly reversed after several EU nations said they were ready to bailout Greece if needed. Greek debt is bid at 7.5% and rising and the EU bailout would lower that rate based on the guarantees. Greece needs 11.5 billion euros by next month to cover current obligations and another 32 billion euros by year-end.

I believe the Greek debt crisis is over. I don't think anything is going to happen to materially impact the global debt market. That does not mean there will not be volatility as events are announced. The EU and the IMF are ready to provide the bailout and this daily barrage of news is simply political wrangling and positioning ahead of the bailout. The other EU countries want to make it difficult for Greece to borrow the money so they will be forced to agree to stronger fiscal rules in order to get the funding. We know Greece will be bailed out so all this talk is wasted breath.

What we do need to worry about is the next shoe to drop in July when the ECB upgrades its outlook on the rest of the EU countries. The countries below are each going to get their time in the spotlight because nobody is going to want to loan them any more money until they get the same kind of guarantees Greek debt is about to get.

EU Debt Problems

The resolution of the Greek debt crisis, again, caused the Euro to spike a whopping +1.42 points to 134.58 and the dollar to plunge to the low for the week at 81.0 on the dollar index.

Chevron gave the energy sector a boost after they preannounced a better than expected quarter after the bell on Thursday. Chevron said its refining division would return to profitability in Q1 as margins increased. Refiners have been operating at less than 80% of capacity until the last couple weeks because of low demand and high inventory levels. The pickup in demand over the last month has increased crack spreads to nearly $14 per barrel and that is music to their ears.

Chevron said global oil and gas production of 2.75 mbpd in the first two months of the quarter was down slightly but increased oil prices would make up for the shortfall. Chevron is hoping to maintain 2.73 mbpd for the rest of 2010. Their average selling price in Q1 was $79 and that was significantly over the $43 average in Q1-2009. S&P quickly boosted earnings for Chevron by a whopping 38 cents to $1.95 per share. Chevron rallied +1.84 on the news.

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Palm (PALM) continued to find a bid after unconfirmed reports that Taiwan's HTC might be a potential suitor. HTC is the world's fifth largest smartphone maker. The acquisition of Palm would give HTC the access to the new Palm OS, which has been well received by the industry. The decline in Palm's stock price over the last couple months has reduced their market cap from $2.4 billion to $780 million. That is chump change for any acquirer. Earlier in the week Palm spiked on rumors that Lenovo was also interested in acquiring the company. Barclay's Capital immediately downplayed the potential Lenovo deal for various reasons. However, HTC could be a viable candidate.

Palm Chart

The major indexes hit a major milestone this week and I am not talking about Dow 11,000. They completed six consecutive weeks of gains. This has not happened since March/April 2009 when the rebound first began. The Dow has not had a single day with a -1% decline since February 4th. The markets have moved slowly higher on light volume with everyone and their brother talking about the impending correction.

That correction never comes and everyone is stuck scratching their heads and wondering if it is too late to go long. Those bears with conviction have been shorting every high to no avail. This is the worst kind of market for a bear. A melt up market lacking conviction provides almost perfect daily setups for the bears. You have the intraday spike and failed high and shorts start taking positions only to see a minor new high the next day and the process repeats.

This week the Dow resistance at 10985 was rock solid on Monday and Tuesday and Wednesday's high volume dip (9.5 billion shares) was the perfect confirmation for the bears after they shorted the 10985 highs. You could easily visualize them piling on the shorts on that cascade decline just before Wednesday's close. Unfortunately for the bears the Thursday rebound was yet another short covering rally and that continued into Friday's close. What intelligent bear wanted to carry already losing positions into a new closing high before the weekend?

Now the stage is set for next week. The market is at new highs and there are major earnings reports on tap. S&P is expecting earnings for the quarter to come in at +30% and that was before the upgrade from Chevron that will boost estimates for the entire energy sector. Earnings at +30% are great but lower than Q4 because the comparisons are more difficult.

On the downside the earnings expectations are already priced into the market. Intel has been stuck at its 52-week high for three weeks on anticipation of good news. JP Morgan is also holding at its resistance highs and can't seem to make any upward progress. Google is trading exactly where it was a month ago and there is no pre earnings ramp. Expectations are actually holding Google back this time.

At the risk of repeating every earnings cycle warning I have given over the last 13 years I believe we are setting up for an upset. The markets are up +75% over the last year. The economy is recovering but recovering slowly. The Fed is getting ready to change its bias and we are heading into the normal summer doldrums. I have reported on the "Sell in May and go away" trend more times than I care to count but this year I fear it will happen.

It is not going to happen because earnings are terrible or the economy is going to roll over. It is going to happen because it is time for the market to rest. The historical cycle for the markets is to be weak or choppy over the summer months and then rally again in the fall. The best six months strategy of being invested over the winter and in cash over the summer has been proven accurate over and over. That frees up investors from worrying about their investments while walking through Disneyworld or while driving across country on a vacation trip.

I took a four-week vacation a couple years ago and drove from Denver, to Vegas, Los Angeles, Yosemite, San Francisco, Seattle, Cor D'Alene, Yellowstone, Grand Teton and back to Denver. Roughly 4,500 miles with stops to visit friends and relatives in every major city. Keeping up with the market and my positions was a nightmare. Every night was drag out the laptop and see what happened. Millions of investors have figured this out and they simply clear the table of anything not a long term core position and tune out the markets over the summer.

Last year the markets were in full rebound mode and the Dow still lost -600 points from June 11th to July 10th. The Dow only gained +75 points from May 1st to May 29th. The markets were in rally mode and still suffered from the historical May-July weakness.

How are they going to hold up this year after a 75% rebound? I am concerned we could see a real correction of 5-10% sometime this summer. I am starting to see less bullish bias in the mainstream media. They have been in buy the dip mode since the January decline. I completely agreed and have been recommending the same thing. Now I am less confident and I am seeing more analysts hedging their bets with comments about a potential market dip. While having a rising number of analysts calling for a dip is actually a bullish signal for contrarians, I think retail investors are already cautious and that may make them even more cautious.

Obviously nobody can claim with 100% certainty that a dip or rally is about to occur but there is plenty of precedence to justify caution over the next three weeks.

For next week we have the major earnings from Intel and JPM and it is also option expiration. The market bias should be bullish through expiration assuming there is no major earnings disaster.

The following week has earnings from IBM, MSFT, AMZN, YHOO, and GS plus a dozen Dow components and over 500 other companies too numerous to mention. When that week is over the market will be primed for a decline. Add in the Fed meeting on April 27/28 and the potential for a language change and even a market rookie could find a sell signal.

Since the market exists to make fools of as many people as possible that will probably be the turning point towards Dow 12,000. Personally I am betting on the other direction so I will be the one farthest out on the prediction limb when the guy with the saw appears.

The Dow punch through to 11,000 on Friday lasted less than 30 seconds and was greeted by a huge cheer from the NYSE floor. Had it occurred at noon instead of 3:55 I suspect the closing print would have been much different as it would have been another shorting opportunity for the bears.

Closing at that level ahead of the weekend was due to short covering and the lack of anyone being around to apply any selling volume. Springtime Friday's are notoriously lacking in afternoon volume.

Despite the close at 10,997 the Dow is still at resistance. Plus or minus 10 points on the Dow is only a rounding error. The Dow hit 10987 on Monday and Tuesday so to bookend the week at 10,997 was not a big deal.

For Monday I suspect we won't see a big decline and the markets should remain relatively calm until the Intel earnings on Tuesday assuming there is not a news event that causes traders to become nervous. Once Intel reports and assuming they don't blow away earnings I think the tide will start to weaken. I don't really expect any material decline until the following week and the FOMC meeting but I am not trying to predict a short-term event today. I just want everyone to be prepared for additional weakness as April comes to a close. Whether that starts next week or the Friday before the Fed meeting is anybody's guess.

Dow Chart

The S&P resistance at 1200 is clearly the next target and one that I think could be tested next week. While the 11,000 level on the Dow was purely a psychological resistance level, S&P 1200 is real resistance PLUS it was the anticipated year-end target for the S&P by quite a few analysts. SPX 1200-1250 was the Holy Grail for analysts back in September when the S&P was 1000. The common comment was "This would be a +20% gain and the best we could hope for given the +40% rally from March." Surprise, surprise! Here we are in April and the S&P is up +65% from the March 2009 lows at 666 and there are still eight months left in 2010.

I have heard a couple analysts upgrading their targets to 1300 by year-end but most are being very quiet about their outlook. They either want the world to forget they predicted 1200 by year-end or they are hoping for a decline to appear so they can get a second chance at being right.

I believe touching 1200 next week would produce more bearish reaction than Dow 11K. This is a much more targeted number and like I said last week it would be the equivalent of an electric shock to the markets. If we reach that level I would be VERY surprised to see us pass it without a blowout number from Intel, Google, JPM and BAC.

S&P-500 Chart

The Nasdaq benefited on Friday from big gains in ISRG, CREE, CASY, ATLS, BIDU and DECK. All the other major players like GOOG, MSFT, INTC, RIMM, ORCL and DELL were either negative or up only a few cents. Most of those cents gained came on the closing spike. It was not a broad rally.

The Nasdaq came to rest at 2454 and almost exactly on the uptrend resistance and the resistance highs from August 2008. This is where the Nasdaq should fail if it is going to fail. Obviously with Intel earnings on Tuesday the Nasdaq bulls are going to be hesitant to put any more money into longs on the outside chance Intel is less than a blowout. With Google earnings on Wednesday they have double risk. I would be surprised if the Nasdaq moved higher but it is a broad market index and small positive gains on hundreds of stocks can offset hesitancy in the leaders.

A breakout on strong volume here would be bullish. I would have to hold my nose to go long but it would be bullish.

Nasdaq Chart

The Russell-2000 sprinted higher on Monday-Tuesday and then stalled after touching the uptrend resistance from Jan-2009. The first two days of the week were incredibly bullish but then the buying ended. I thought we were seeing another rotation from big caps to small caps but apparently it was not a broad market move and probably just a major fund restructuring positions.

I will be very surprised if the Russell moves higher this close to expiration, major earnings, FOMC meeting and summer. Small caps don't normally do well over the summer. Small caps are however a sentiment indicator for fund managers and despite the stall at resistance I see no indications today that managers are becoming squeamish.

Russell 2000 Chart

In summary, expiration week is normally bullish but earnings misses could sour that sentiment. I expect no major market changes next week without a major news or earnings event to provide motive power.

The following week has earnings from over 500 companies that will include nearly all the major companies left to report. When these earnings are over the earnings cycle will be over for all practical purposes. With the FOMC meeting the following Tue/Wed the potential for a decline increases. If the Fed does change the language in their statement I think the profit taking will begin. Obviously this is only my opinion but as a student of the market it is my best guess. I will continue to refine this outlook as April progresses and I will be publicly eating my words if we continue to move higher.

Jim Brown

New Plays

Short the NASDAQ

by Scott Hawes

Click here to email Scott Hawes

Editor's Note: We think the NASDAQ is due to take a breather so we are initiating short positions now.


Powershares QQQQ Trust - QQQQ - close: $49.03 change: +0.29 stop: 50.95

Company Description:
PowerShares QQQ Trust, Series 1 (the Trust) is a unit investment trust that issues securities called PowerShares QQQ Index Tracking Stock. The Trust holds all of the component securities of the Nasdaq-100 Index (the Index). The Investment objective of the Trust is to provide investment results that generally correspond to the price and yield performance of the Nasdaq-100 Index. (source: company press release or website)

Why We Like It:
The tech heavy NASDAQ 100 has had a remarkable rally over the past two months, gaining +15% since its February 5 intraday lows. In the month of March alone, the index gapped higher at the open on March 1 and has run +8.5% from the February close of $44.76. The index has rallied right into previous resistance and support from 2008 and 2007 respectively (pull up a weekly chart) and is entering a congestion zone. I feel the rally is getting vulnerable and sellers are beginning to show up. Plus volatility is low and options are relatively cheap right now. I view this as an aggressive and quick trade. We will either be right or be right out of the trade.

Suggested Position: Sell QQQQ at current levels, Stop Loss $50.95 (unopened)

Option Traders:
Suggested Position: Buy PUT May $49.00, current ask $1.00

Annotated chart:

Entry on (unopened)
Earnings Date Not Applicable
Average Daily Volume: 49.4 million
Listed on April 10, 2010

In Play Updates and Reviews

Semiconductors Finish the Week Strong

by Scott Hawes

Click here to email Scott Hawes

BULLISH Play Updates

Current Portfolio:

AU Optronics - AUO - close: 11.47 change: +0.18 stop: 10.90

AUO bounced off of its 50-day SMA on Thursday and also closed over its 20-day SMA on Friday. AUO has been consolidating between the $11.00 and $12.00 area for about 4 weeks. We need AUO to break above $12.00 for this trade to work and hit our target $13.25. If it breaks below $11.00 we will honor our stop at $10.90 and step aside to preserve capital. Readers who have not initiated positions could still consider entering as I believe there is a lot of support with the SMA's just below AUO. Our time frame is one to two weeks. Note: I consider this an aggressive trade and recommend small position size to limit risk.

Current Position: AUO stock @ 11.77

Annotated Daily Chart:

Entry on April 05 at $11.77
Earnings Date 04/22/10 (unconfirmed)
Average Daily Volume: 2.5 million
Listed on April 3rd, 2010

Broadcom Corp. - BRCM - close: 34.28 change: +0.58 stop: 33.25 *NEW*

The SOX semiconductor index regained most of Thursday's losses on Friday. BRCM had a great day closing up +1.72%. BRCM and the SOX index both bounced off their upward trend lines this week and BRCM also bounced off its 20-day SMA. In addition, BRCM and the SOX are at the bottom end of their upward channels which have remained intact over the past two months. The stock continues to look poised to rally higher as long as the broader market cooperates. We are nearing our first target on BRCM which is $34.95. We are up about +5.00% in this trade right now so I am suggesting traders begin to exit positions, especially if BRCM continues to rally next week. I would like to move our stops up to $33.25 which is just below Thursday's low. This will ensure a winning trade if BRCM can't rally. We have a more aggressive 2nd target of $37.40 with a time frame of several weeks.

Current Position: BRCM stock @ 32.66

Annotated Daily Chart:

Entry on March 11 at $32.66
Earnings Date 04/21/10 (unconfirmed)
Average Daily Volume: 8.0 million
Listed on March 10th, 2010

BorgWarner Inc. - BWA - close: 38.19 change: +0.42 stop: 36.90

BWA closed up +0.42% on Friday. Officially our trigger to open positions is at $40.25. If triggered our target is $44.75. BWA doesn't move very fast so this could take a few weeks for the stock to get there. Our initial entry point and stop loss set up is somewhat aggressive. More conservative traders may want to use a tighter stop. Aggressive traders may consider opening positions if BWA trades above $38.60 but I would view this as a quick trade with a tight stop. The Point & Figure chart looks very bullish and is forecasting a long-term $55 target.

Trigger to open bullish positions $40.25

Suggested Position: BWA stock @ 40.25 (unopened)

Option Traders:
Suggested Position: Buy CALL May $40.00 (BWA 10E40.00) current ask $1.15

Annotated Daily Chart:

Entry on April xx at $xx.xx
Earnings Date 04/29/10 (unconfirmed)
Average Daily Volume: 1.8 million
Listed on April 3rd, 2010

Cash America - CSH - close: 40.67 change: +0.39 stop: 38.99

CSH ended the week very strong. The stock is trading in a recently formed upward channel and is holding its longer term upward trend line. CSH looks poised to continue its rally and we are looking for the stock to at least retest its highs from last week at $41.50. If the stock trades to this level conservative traders should begin to tighten stops or sell into strength. We need to see CSH follow through or we will be looking for a quick exit on this trade. Aggressive traders can consider opening positions at current levels. Our first target is $44.90.

Current Position: CSH stock at $41.05

Annotated Daily Chart:

Entry on April 06 at $41.05
Earnings Date 04/22/10 (unconfirmed)
Average Daily Volume: 263 thousand
Listed on April 5th, 2010

Linear Tech. - LLTC - close: 28.56 change: -0.47 stop: 27.70

LLTC closed the week near its highs which also correspond to the intraday highs on March 17. LLTC looks poised to breakout from theis level but could see some resistance early next week. If it does breakout we expect the stock to challenge its 2010 highs near $30.00. If you own April options don't forget that they expire in 5 trading days. I would recommend selling those options to prevent any further time decay. Our first target is $29.95. Our second target is $30.95. LLTC reports earnings on Friday so we will be looking to exit the trade in the next few days. Selling into any strength, or near current levels if LLTC stalls, is probably the best strategy heading into the week.

Current Position: LLTC stock @ 28.25

Option Traders:
Current Position: CALL APR 28.00 (LLTC 10D28.00) @ $1.00

Annotated Daily Chart:

Entry on March 16 at $28.25
Earnings Date 04/13/10 (unconfirmed)
Average Daily Volume: 3.9 million
Listed on March 11th, 2010

MAXIMUS Inc. - MMS - close: 62.32 change: +0.74 stop: 59.75

MMS hit our bullish trigger and we are now long the stock. The stock has continued to peak its head out to new 52-week intraday highs and on Friday it closed at a new 52-week high. It looks poised to breakout higher and I expect follow through. This is a new all time high for MMS so I am suggesting readers be careful. I would like to place a stop at $59.75 to give this some room but if there is overall market weakness readers may want to exit the position early. Our time frame is several weeks. Our target on MMS $67.00 and our time frame is several weeks. I do need to label this trade somewhat aggressive since we normally do not trade stocks with average volume under 250K a day.

Current Position: MMS stock at $62.25

Annotated Daily Chart:

Entry on April 9 at $62.25
Earnings Date 05/06/10 (unconfirmed)
Average Daily Volume: 83 thousand
Listed on March 31st, 2010

Patterson Companies - PDCO - close: 31.13 change: +0.20 stop: 29.95

PDCO is forming an ascending triangle on its daily chart. We are waiting for PDCO to breakout to new relative highs. Currently PDCO has resistance near $31.30. I am suggesting we open bullish positions at $31.50. If triggered we'll use a stop at $29.95. Our multi-week target is the $34.50 level.

Trigger to open bullish positions at $31.50

Suggested Position: PDCO stock at $31.50(unopened)

Annotated Daily Chart:

Entry on April xx at $xx.xx
Earnings Date 05/17/10 (unconfirmed)
Average Daily Volume: 975 thousand
Listed on April 6th, 2010

Powershares UltraShort Real Estate - SRS - close: 5.54 change: -0.18 stop: 5.63

This was a new play on Thursday and our comments remain the same. Real Estate stocks have had a monster rally off of their February lows and we believe a pull back is overdue. SRS appears to be breaking its downtrend line which began on February 10. If a pullback in RE stocks gains steam SRS will benefit. I am suggesting we initiate positions if SRS trades to $6.10 which is above 20-day SMA in the coming days. Use a trigger to open long positions in SRS (which is a bearish play on RE stocks) at $6.10. Our first target is $6.85 which is just below prior support from December. Our second target is $7.15 which is just below the low on January 19 and I anticipate SRS reaching this level if there is overall weakness in the market. This is an aggressive play so please use smaller position size to limit risk. If triggered let’s place our stop at $5.65 which just below the recent swing low on March 25. Our time frame is about two to three weeks. *NOTE: Although this is listed as a long position in our portfolio, this is a bearish position on real estate stocks*

Trigger to open long positions at $6.10

Suggested Position: Buy SRS if it trades to $6.10, Stop Loss $5.65 (unopened)

Annotated chart:

Entry on (unopened)
Earnings Date Not Applicable
Average Daily Volume: 11.0 million
Listed on April 8, 2010

BEARISH Play Updates

Corrections Corp. of America - CXW - close: 19.60 chg: +0.05 stop: 20.55

CXW still looks vulnerable here but we need the stock to break down through $19.00 which has been acting as support. The stock's 20-day and 50-day SMA's are overhead which should provide resistance. If CXW breaks down we should have a good chance of hitting our target of $18.00. Our time frame is a couple of numbers.

Current Position: SHORT CXW stock @ 19.90

Annotated Daily Chart:

Entry on March 19 at $19.90
Earnings Date 05/06/10 (unconfirmed)
Average Daily Volume: 1.1 million
Listed on March 17th, 2010

Warner Chilcott - WCRX - close: 25.69 change: -0.01 stop: 26.26

Our comments remain the same on WCRX. The stock has been bouncing off of the $25.00 level since late January. The stock appears to have formed a new lower high and may be forming a descending triangle. Its 20-day, 50-day, and 100-day SMA are all overhead. We're still waiting for a breakdown under support at $25.00 but will need the overall market to cooperate.

I am suggesting we use a trigger to open bearish positions at $24.80. If triggered our first target is $23.00. The 200-dma is nearing the $23.00 region and could offer technical support. Our second, more aggressive target is the $20.25 mark.

Trigger to open bearish positions @ 24.80

Suggested Position: SHORT WCRX stock at $24.80 (unopened)

Option Traders:
BUY the April $25.00 PUT (WCRX 10P25.00) current ask $0.50

Annotated Daily Chart:

Entry on March xx at $xx.xx
Earnings Date 05/11/10 (unconfirmed)
Average Daily Volume: 1.5 million
Listed on March 29th, 2010