Option Investor

Daily Newsletter, Thursday, 3/17/2011

Table of Contents

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

Market Wrap

Green For Saint Patrick's Day

by Jim Brown

Click here to email Jim Brown
The markets celebrated St. Patrick's day by reversing a week long decline and posting some decent gains and ending in the green.

Market Statistics

It was turnaround Thursday for the markets with a sudden reversal of fortunes after better than expected economics caused a little short covering in a very oversold market. Leading the sentiment parade this morning was the Philly Fed Survey, which came in at 43.4 and the highest reading since January 1984. The prior reading was 35.9 and analysts had expected a DECLINE to 30.0. They missed the number by a very wide margin. Analysts had thought the +16 point rise in February was a timing issue that would be corrected in March. Instead of correcting we saw another strong gain.

New orders nearly doubled from 23.7 to 40.3. Capital expenditure plans more than doubled from 16.2 to 34.5. Six month expectations rose from 46.8 to 63.0 and very strong. However, there were some less than exciting components. Employment declined from 23.6 to 18.2 and backorders were flat at 14.9. Overall it was a great report and did wonders to rebuild bullish sentiment.

The gap between new orders and inventories, which is a good proxy for future production, widened in March from 21.6 to 28.3. This is the biggest gap since 2009 when industrial production was +7% annually.

Philly Fed Chart

The weekly Jobless Claims fell to 385,000 from 401,000 and that was below the consensus of 390,000. This is the fourth week out of the last six with claims under 400,000. Under 400,000 is seen as bullish confirmation of increasing employment.

The Consumer Price Index rose +0.5% in February following the +0.4% gains in the two prior months. The major component pressures were food (+0.6%) and energy (+3.4%). Of course when you strip out food and energy to get the Core CPI we see that inflation rose only +0.2%. That calculation makes me hostile every time I report it because I don't know anyone that does not consume food or energy.

The rise in the Core CPI is the fourth consecutively monthly gain after three months of zero inflation. On a year ago basis the Core CPI is +1.1% and less than half what the Fed would like to see. This suggests they will continue to keep rates low. I personally see the spike in the headline rate of +1.3% over the last three months as evidence the inflation monster is waking up from several years of slumber.

On a positive note the CPI has shifted away from the deflation risks of last summer so the worst is definitely behind us. This makes the Fed's job simpler in future months.

CPI Chart

The Conference Board of Leading Indicators rose by 0.8% and the largest gain in more than a year. The leading indicators have now risen every month since June. The surge in February is credited with a post winter bounce and fewer major storms in late February. Eight of the ten internal components rose compared to only five in January. The two components declining were new orders for manufactured goods and a drop in building permits.

Industrial production declined -0.1% in February but that was due to a major decline utility output. This was again a result of milder weather in the last half of February. Utility output fell -4.5% for the month to easily over power the +0.9% gain in durable goods, +1.2% in high tech orders and +4.2% in autos and parts.

The reports due out on Friday are the Risk of Recession and Weekly Leading Index. Neither are watched by traders.

Another factor pushing the markets higher on Thursday was the expected announcement this weekend by the Fed on what banks can raise their dividends. You may remember the banks took a stress test last year and submitted a plan to the Fed in January on how they planned to use the excess capital they built up during the recession. The Fed will compare their stress test scores and capital plans and announce which banks can raise their dividends and do stock buybacks. The announcement is expected on March 20th to Monday should be a good day for financial stocks. Banks rebounded sharply today in anticipation of that announcement.

RBC wrote that State Street Corp (STT) could have the largest dividend payouts with 20% of estimated 2011 earnings. Other banks expected to announce dividend increases and buybacks are BK, BBT, COF, FITB, JPM, PNC, USB and WFC. Bank of America and Citigroup are not expected to raise dividends next week. BAC is planning on an announcement in the second half of the year. RBC believes payouts from the various banks will be in the range of 20% to 30% of earnings. That is a huge number and should really give financial stocks a lift.

Oil prices soared today with WTI gaining +$3.50 to $101.48 and Brent +$4.40 to $115. Pushing prices higher were comments out of Libya threatening to attack military and civilian targets alike if outside countries were to attack Libya. Basically they are holding the people of Libya hostage against an attack from U.N. forces trying to stop the current fighting in Libya. Gaddafi has threatened to escalate the bombardment of cities if the U.N. interferes.

Late Thursday afternoon the U.N. Security Council voted 10-0 to impose a no fly zone and calls for a ceasefire. Five nations including Russia, China and Germany abstained. The resolution required nine votes to pass. The resolution authorizes "all necessary measures" to protect civilians but "excludes a foreign occupation force of any form on any part of Libyan territory." Ahead of the vote Gaddafi stepped up bombing on Benghazi and in a radio broadcast he warned the rebels "We are coming tonight, there will be no mercy." France, Britain, USA, UAE and Qatar have agreed to joint military action under the direction of the UN. France said it was ready to immediately launch planes to prevent the massacre of civilians in Benghazi while the U.S. Air Force said it could take a week before a no fly zone could be implemented. (What have U.S. planners been doing for the last four weeks while this was discussed?)

The escalation of fighting in Libya coupled with the threats to bomb "anything of value" by Gaddafi was only one factor in the rising oil prices. The situation in Bahrain is rapidly spiraling out of control. Reports of a massive crackdown on protestors and activists included soldiers seizing hospitals and not allowing doctors to treat wounded demonstrators. Citizens of other countries are flooding the airport in an effort to avoid the indiscriminate shooting. Helicopters were strafing homes and shooting ambulances. There are dozens of major fires in the capital city.

Bahrain does not have any material oil production but the big worry is that the unrest will spill over into Saudi Arabia with civil disobedience and possible disruption of oil production. In an effort to prevent problems in Saudi the king announced a $35 billion stimulus program two weeks ago and that appeared to pacify the people and the Day of Rage demonstration last Friday never appeared. Tomorrow King Abdullah will speak to the nation after midday prayers and he is expected to announce a change in government organization and food subsidies to offset rising food inflation. A televised speech by the 86-year-old ruler is rare and is a clear indication Saudi is afraid of the growing unrest all around them. He is expected to replace several interior ministers like the defense minister but he is expected to keep the oil minister. He will also promise to end corruption in the government and end high unemployment. Good luck with those goals. He will also announce a program to pay people back for losses they experienced in the stock market crash. Sounds like the standard chicken in every pot, Mercedes in every garage speech. He must be really worried over the rising unrest in the region.

WTI Crude Chart

Brent Crude Chart

Analysts at Nomura International said Japan's oil demand could jump by +3.9% or roughly 200,000 bpd for fuel to generate electricity. Others have suggested similar increases in imported diesel, gasoline, fuel oil and coal. Japan gets 25% of its electricity from 50 nuclear plants but 13 of those plants are now offline. The plant causing the most trouble today was responsible for 5% of the country's power. Coal fired plants are responsible for 28% of electricity generation and analysts expect a big increase in the amount of coal imported. Japan used 300,000 bpd of oil for electricity generation over the last peak period. Analysts are expecting that to rise to 500,000 bpd.

The increase in demand by Japan, which will only grow as the rebuilding effort gains speed, will be a problem since production of light crude is way down thanks to Libya. Indonesia also warned on Wednesday their production of light crude was declining. In Nigeria the MEND rebels warned they were about to embark on a major attack of oil facilities and warned oil companies to evacuate to avoid casualties. In 2006-2009 the MEND rebels knocked Nigeria's production of light crude down from 2.6 mbpd to just over one million barrels. They can inflict heavy damage when motivated. The April presidential elections are the motivating force today.

I don't anticipate oil prices going down in the near future other than a possible dip in WTI prices ahead of the contract expiration next Tuesday. Once past expiration the price should recover quickly.

The sharp rise in oil prices today powered the energy sector to very strong gains. Noble, Apache and EOG all gained more then $4. The leader was Carbo Ceramics with a $7.50 gain.

After the close Nike (NKE) reported earnings and it was not pretty. Nike shares dropped over $5 after reporting earnings of $1.08 compared to estimates of $1.12. Revenue was also light by $700 million. Nike said the miss was the result of higher product costs, higher freight costs and lower license fees. Inventories rose +18% year over year but Nike said inventories last year were exceptionally low. They did say future orders were up +9%.

Nike Chart

EMC said its RSA security division was breached by hackers. Since RSA is an "anti hacking" security service used by big military contractors, governments, banks and medical facilities this is a serious black eye for EMC. It was especially troubling since the RSA technology is built on making sure unauthorized people cannot access confidential data. There was no change in EMC shares.

The U.S. dollar plunged on Thursday to 76.00 on the dollar index. The problem was blamed on speculation in the Japanese yen. The decline was three quarters of a point and pushed the dollar to a five month low. The sharp drop in the dollar also helped support commodity prices like oil and copper. Copper spiked +3% on the expectations for a surge in demand to rebuild Japan.

The G7 held a teleconference late tonight to discuss the Japan problem. One of the options they were considering was a coordinated intervention in the yen to keep imbalances from skewing the global currency structure. That is what they announced at 8:15 tonight. The US, Britain, Canada and ECB will join with Japan in a "concerted intervention" in the currency markets on Friday. The dollar spiked sharply on the news.

Dollar Index

Copper Chart

There are worries that Japan's need to raise $250 billion for the recovery effort may cause them to sell some U.S. treasuries. Japan is the third largest holder of U.S. debt behind the Fed at $1.108 trillion, China $896 billion and Japan $877 billion. Of course selling a large amount of U.S. Treasuries would push our interest rates sharply higher and cause mutually assured economic destruction. We are a big export market for Japan and a market they depend on for revenue. While some analysts are worrying over this potential problem I believe they will find some other way to raise money other than printing yen. They can use swap lines or sell gold or any number of other options. They can do the equivalent of QE2 and print themselves out of trouble but they are very reluctant to seriously depress their currency.

Friday is a quadruple witching option expiration and I suspect that was a factor in today's rebound. I am sure there was some short covering involved but I am sure there was still impact from expiration. However, the volume does not support that assumption at least for Thursday. I believe the bigger impact from expiration was on Tue/Wed. Volume on Tuesday was 10 billion shares and 10.95 billion on Wednesday. Volume on Thursday was a meager 7.8 billion. That suggests the option impact was felt earlier this week. However, since index futures on the S&P expire at the open on Friday and the S&P was pinned at 1275 most of the day. Every deviation away from that level was quickly reversed.

Quite a few reports I read after the close are expecting the market crash to continue. At Wednesday's close the S&P had declined -88 points from its Feb-18th closing high to the closing low at 1256. That equates to a -6.5% decline and while decent is still well above a true 10% correction at 1209. I believe the decline may be coming to a close.

However, I missed the boat with my rebound call on Tuesday. I went on the news being published at the time by the World Nuclear News website that three of the four reactors had seen cooling restored and the fourth was nearing completion. Obviously that information was wrong. I thought that would produce a relief rally on Wednesday but the news stories of a bigger radiation leak on Wednesday prompted a continuing crash. If you have been following the Japan news for the last week you know the hourly stories have continually contradicted themselves and the global markets have been trading on the fear of nuclear contamination. Most people are very afraid of nuclear power and the resulting radiation when an accident occurs. You can't see it, smell it, taste it but it can kill you without you even realizing you have been exposed. What we have seen over the last week is mass panic over something that has little or no chance of spreading outside Japan. Eventually those problem reactors are going to be handled and the panic will cease. When that official headline appears claiming everything is under control and the crisis has passed the resulting market rebound could be strong.

I am not claiming that rebound will occur on Friday. It may but I seriously doubt investors will want to jump in ahead of the weekend event risk. We not only have the Japan trouble but potential problems in the Middle East. I suspect any real rebound will not occur until next week on confirmation many of those risks have passed. Futures are up strong tonight on the G7 news but that could just be a temporary knee jerk reaction.

The S&P touched 1250 on Wednesday before rebounding and avoided a retest of that level today. Most of the gains were t the open and we did see weakness intraday. This is far from a sign of conviction by traders. Remember volume was weak at 7.5 billion shares. We are seeing large volume on the down days and weak volume on the up days.

The S&P did stop its decline on the 100-day average as I speculated on Tuesday. This should be decent support (1260) but there is nothing in the internals that suggests it won't be tested again. S&P 1275 is decent resistance so opening at that level on expiration Friday is a high probability.

S&P Chart

The Dow chart is similar to the S&P with a stop just under strong resistance at 11800 after rebounding from 11600. This is far from bullish. Direction is a toss up and obviously depends on the news headlines out on Friday. We did successfully test 11600 twice on consecutive days so that is a plus. Any bank news on dividends should help but a drop in oil prices from the spike in the dollar would be a drag on the Dow.

Dow Chart

The Nasdaq has some serious problems. One fifth of the chips used in the USA come from Japan and we still don't know how many plants were affected and how that will impact shipping schedules to the USA. All of the big cap tech stocks closed well off their highs but several did manage to end with a gain. Techs are not looking positive until the news flow improves. The Nasdaq has support at 2610 and resistance at the 100-day at 2661.

Nasdaq Chart

The Russell barely closed positive and the Dow was up +161. That is a serious clue as to the underlying sentiment in the market. It remains negative until the news flow improves. The Russell has support at 780 and it has been tested twice in the last three days. A break below that level would be very bearish. Fund managers are not in a buying mode until they have some confidence the problems are over.

Russell Chart

Despite the solid bounce in the S&P futures tonight (+8) I am still concerned about the lack of conviction in the markets intraday. The short covering at the open was followed by lackluster buying the rest of the day. The sellers could not force it lower but they were leaning on it. Once the positive news (confirmed) out of Japan hits the wires we could see funds reenter the market. As we saw from the economic reports today the U.S. economy is still improving and quite briskly in some areas. This will be positive for earnings and the current decline is an excellent entry point once the bad news goes away. Unfortunately I am not betting on Friday. The weekend event risk is high and traders may want to wait until Monday for a fresh look at the news.

Jim Brown

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New Plays

Relative Strength in Oil Stocks

by James Brown

Click here to email James Brown

Editor's Note:

Additional stocks that caught my eye tonight were:

PLCM - Readers may want to launch bullish positions on a move past $51.00.

CRK - Traders might want to buy a dip in the $28-27 zone.

DKS - Wait to see how DKS reacts to NKE's earnings report that released tonight.

CBT & JBHT - A move past the 2011 highs could be an entry point.

- James


Patterson-UTI Energy Inc. - PTEN - close: 27.49 change: +1.34

Stop Loss: 25.95
Target(s): 31.50, 34.00
Current Gain/Loss: unopened
Time Frame: 4 to 6 weeks
New Positions: Yes, see trigger

Company Description

Why We Like It:
The oil and oil service stocks have weathered the recent market volatility pretty well. Shares of PTEN have already broken the very short-term bearish trend of lower highs seen over the last few days. Now the stock looks poised to challenge resistance near $28.00. Given the ongoing violence in Libya and rising worries over the situation in Bahrain and what might happen if things spread to Saudi will all contribute to strong oil prices.

I am suggesting we open bullish positions on PTEN if the stock can breakout past $28.00. We'll use a trigger at $28.25 to launch positions. The $30.00 mark might offer some resistance but I'm targeting a climb to $31.50 and the $34.00 levels.

Trigger @ 28.25

Suggested Position: buy PTEN stock @ 28.25

- or -

Buy the May $30 calls (PTEN1121E30) current ask $0.90

Annotated chart:

Entry on March x at $xx.xx
Earnings Date 04/28/11 (unconfirmed)
Average Daily Volume: 2.8 million
Listed on March 17th, 2010

In Play Updates and Reviews

Limited Gains

by James Brown

Click here to email James Brown

Editor's Note:
Stocks were bouncing on Thursday but gains were mixed. Energy stocks performed well thanks to an advance in crude oil futures. I don't see a lot of changes from my prior comments.


Current Portfolio:

BULLISH Play Updates

ACI Worldwide Inc. - ACIW - close: 30.59 change: -0.02

Stop Loss: 27.80
Target(s): 33.00, 34.75
Current Gain/Loss: + 3.2%
Time Frame: 6 to 8 weeks
New Positions: see below

03/17 update: Thursday proved to be a forgettable session for ACIW with the stock lost in a very narrow trading range. I remain cautious on the market overall. While ACIW is holding up pretty well I would hesitate to open new positions. You could try buying dips near $30 or the 30-dma. Our bullish targets are $33.00 and $34.75.

FYI: ACIW does have options but the spreads are very wide, which puts us at a significant disadvantage.

SMALL bullish positions

Current Position: Long ACIW stock @ $29.63

Entry on February 25 at $29.63
Earnings Date 04/28/11 (unconfirmed)
Average Daily Volume: 122 thousand
Listed on February 24th, 2010

Ford Motor Co. - F - close: 14.26 change: +0.08

Stop Loss: 14.19
Target(s): 16.45, 17.45
Current Gain/Loss: unopened
Time Frame: 6 to 8 weeks
New Positions: Yes, see trigger

03/17 update: Ford is consolidating sideways. There seems to be too much uncertainty over how or if the situation in Japan will affect auto production here in the U.S. There was some concern today that shut down parts suppliers in Japan might stall production for American cars.

Currently our plan is to open bullish positions at $15.05. If we see Ford close under Tuesday's low ($14.20) then I'll probably drop it as a bullish candidate. Should we get triggered at $15.05 we'll use a stop at $14.19. Our targets are $16.45 and $17.45.

Trigger @ $15.05

Suggested Position: Buy F stock @ $15.05

- or -

Buy the April $15 calls (F1116D15) current ask $0.50

Entry on March x at $xx.xx
Earnings Date 04/21/11 (unconfirmed)
Average Daily Volume: 82 million
Listed on March 15th, 2010

Gildan Activewear - GIL - close: 30.97 change: -0.12

Stop Loss: 28.99
Target(s): 34.85, 38.00
Current Gain/Loss: + 2.0%
Time Frame: 6 to 8 weeks
New Positions: see below

03/17 update: The early morning strength in GIL faded and shares spent the day hovering under the $31.00 level. I don't see any changes from my prior comments. I'm suggesting readers stay cautious. More conservative traders might want to raise their stops toward the $29.50 or $29.90 levels to reduce their risks. Currently our stop is at $28.99.

Current Position: long GIL stock @ 30.35

- or -

Long the April $30 call (GIL1116D30) Entry @ $1.60

03/08 Triggered $ 30.35
03/01 Adjusted buy-the-dip trigger to $30.35
03/01 Adjusted stop loss to $28.99

Entry on March 8 at $30.35
Earnings Date 05/12/11 (unconfirmed)
Average Daily Volume: 634 thousand
Listed on February 28th, 2010

Jos. A Bank Clothiers Inc. - JOSB - close: 45.71 change: -0.75

Stop Loss: 44.75
Target(s): 49.85, 52.25
Current Gain/Loss: - 0.6%
Time Frame: 4 to 6 weeks
New Positions: see below

03/17 update: JOSB continues to chop around its $45-48 trading range. The stock was underperforming today with a -1.6% decline. Readers could prepare to buy another dip near support around the $45.00 level soon.

FYI: The most recent data listed short interest at almost 25% of JOSB's 27.3 million-share float. There is definitely room for some short covering here. Plus, the Point & Figure chart for JOSB is bullish with a $62 target.

- Small Bullish Positions -

Current Position: Long JOSB stock @ $45.99

- or -

Long the April $50 calls (JOSB1116D50) Entry @ $0.95

Entry on March 7 at $45.99
Earnings Date 03/30/11 (unconfirmed)
Average Daily Volume: 355 thousand
Listed on March 5th, 2010

NVIDIA Corp. - NVDA - close: 17.86 change: +0.33

Stop Loss: 16.85
Target(s): 19.95, 21.75
Current Gain/Loss: - 1.8%
Time Frame: 4 to 8 weeks
New Positions: see below

03/17 update: NVDA displayed a little volatility this morning but traders continue to buy the dips. You could launch bullish positions now and raise your stop loss toward this week's low near $17.01 or you could wait for NVDA to trade over $18.35 before initiating new bullish positions.

Prior Comments:
This is a very speculative, higher-risk trade. Our upside targets to take profits are at $19.95 and $21.75. Remember to keep your positions small to limit your risk.

- small bullish positions -

Current Position: long NVDA stock @ $18.19

- or -

Long the April $20 calls (NVDA1116D20) Entry @ $0.72

Entry on March 14 at $18.19
Earnings Date 05/12/11 (unconfirmed)
Average Daily Volume: 35 million
Listed on March 12th, 2010

Weyerhaeuser Co. - WY - close: 24.32 change: +0.34

Stop Loss: 22.95
Target(s): 27.25, 29.25
Current Gain/Loss: - 1.4%
Time Frame: 4 to 6 weeks
New Positions: Yes, see below

03/17 update: WY is consolidating sideways near the $24 level. I would be tempted to buy the stock here but there is still a good chance WY might retest technical support at its rising 50-dma. Patient traders may want to wait for that dip (50-dma is currently near $23.30).

Prior Comments:
Keep your positions small to limit your risk.

Suggested Position: long WY stock @ $24.68

- or -

Long the July $25 calls (WY1116G25) Entry @ $1.64

Entry on March 16 at $24.68
Earnings Date 04/29/11 (unconfirmed)
Average Daily Volume: 6.4 million
Listed on March 15th, 2010

BEARISH Play Updates

Lennar Corp. - LEN - close: 19.29 change: +0.17

Stop Loss: 20.25
Target(s): 16.75
Current Gain/Loss: + 0.9%
Time Frame: 1 to 2 weeks
New Positions: see below

03/17 update: LEN saw a small gap higher at the open but the rally stalled near the $19.50 level. I remain bearish and don't see any changes from my prior comments. Our target is the $16.75 level, which is above the 200-dma. I would keep our position size small to limit our risk or consider buying the puts so you know exactly how much capital you have at risk.

Please note that this is a short-term play. Earnings are due out in late March. LEN could report a week from now but the date is unconfirmed.

FYI: I do want to point out that the most recent data listed short interest on LEN at 21% of the 159 million-share float. That is a high amount of short interest and raises the risk of a short squeeze although we are certainly not expecting a short squeeze with the market in decline.

- Small Bearish Positions -

Current Position: short LEN stock @ 19.47

- or -

Long the April $19 puts (LEN1116P19) Entry @ $0.80

Entry on March 17 at $19.47
Earnings Date 03/24/11 (unconfirmed)
Average Daily Volume: 4.3 million
Listed on March 16th, 2010

Overseas Shipholding Group - OSG - close: 30.13 change: -0.19

Stop Loss: 33.55
Target(s): 27.75, 25.25
Current Gain/Loss: + 6.4%
Time Frame: 8 to 9 weeks
New Positions: see below

03/17 update: The action in OSG today was encouraging. The stock's bounce attempt quickly failed this morning and OSG closed with another loss while the rest of the market bounced. OSG is clinging to support near $30.00. It could still see an oversold bounce toward the $31.50-32.00 zone, which we could use as a new entry point.

Our plan was to use small positions to limit our risk. The P&F chart is forecasting a $25 target.

- Small Bearish Positions -

Current Position: Short OSG stock @ $32.20

- or -

Long the April $30 PUTS (OSG1116P30) Entry @ $0.75

03/16 New stop loss @ 33.55

Entry on March 11 at $32.20
Earnings Date 05/04/11 (unconfirmed)
Average Daily Volume: 705 thousand
Listed on March 10th, 2010