Option Investor

Daily Newsletter, Tuesday, 12/4/2012

Table of Contents

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

Market Wrap

Tunnel Light?

by Jim Brown

Click here to email Jim Brown

We may have seen a glimmer of light at the end of the fiscal cliff tunnel today.

Market Statistics

The light was faint but if you are a Washington watcher it was clearly there. Two things happened. Several republican strategists called on the House to accept the extension of the Bush tax cuts for the 98%. The reasoning behind this was the obvious result if they don't. The president has painted himself into a very tight corner by saying he will veto anything that does not raise taxes on the 2% and reduce taxes on the 98%. The republicans cannot win this fight because the trump card for the democrats is the automatic expiration of all the tax cuts for 100% of the people on Dec 31st. The president can sign a bill today with higher taxes for everyone over $250,000 as he has promised or he can wait until January and get a tax hike on everyone. At that point the republicans would be seen as the bad guys for allowing the taxes to go up and then the democrats could offer a bill cutting taxes on a smaller number of people and be seen as working for the people. The republicans know this and are therefore working from a weak position.

The second point was a clue from the president. When he spoke for the cameras today he said we don't have time to reform the tax code and we certainly don't have time to find ways to cut billions in spending from critical social programs. (Medicare and Medicaid) His "we don't have time" speech shows that the most likely result of all this political theater is a big can kick down the road a year in order to erase the fiscal cliff cloud. Politicians love to delay major decisions when possible and Obama is no dummy. He knows there will be more democrats I office in 2013 than there are today and he will have a better chance getting tough legislation passed under those conditions.

I think we are looking at a compromise where the republicans accept the tax extensions on the 98% and allow the other cliff components to be postponed until late 2013 ostensibly to give everyone time to craft comprehensive tax reform and restructure spending.

It may take another week or two before this compromise appears because both sides are not done posturing for the cameras and their constituency. The last minute has not arrived. You may remember in 2011 both sides did not agree to extend the tax cuts until Dec 17th and the start of the Congressional holiday recess. Lawmakers can move mountains in a short period of time if it appears business will interfere with their holidays.

The markets traded sideways on low volume as the fiscal cliff headlines tended to be repetitive. The S&P slipped back under the 100-day average at 1410 but only by a couple points. Today was a day for watching rather than trading.

The economic calendar was light and provided no direction. The weekly chain store sales snapshot declined -3.1% after rising +3.3% the prior week. That should be no surprise since the prior week contained Black Friday.

The ISM-NY Index rose slightly from 559.9 to 561.1 and just slightly under the high set in September before hurricane Sandy. The minor hurricane weakness in the October report was erased. Most importantly the six-month outlook component surged from 57.7 to 75.3 and the highest reading since March. That suggests businesses in the New York area are suddenly very optimistic about the future. For comparison the current conditions component rose from 45.9 to 52.5 and showing much less enthusiasm. The expected demand component also spiked sharply from 50.0 to 69.5.

The calendar for tomorrow is highlighted by the ADP Employment report as the first read on the November employment. Expectations are for a gain of +125,000 jobs compared to +158,000 jobs in October.

The ISM Non-Manufacturing report is expected to decline as a result of Sandy. However, the ISM Manufacturing on Monday was expected to increase and instead it fell sharply to 49.5 and back into contraction territory. The decline was blamed on Sandy as will every other report that declines over the next month.

The Nonfarm Payroll report on Friday remains the biggest report of the week. Estimates are for a gain of +100,000 jobs. However, jobless claims spiked after Sandy so the number of jobs could be a lot lower.

Sandy will be blamed regardless of what number appears and the market will probably ignore a weaker than expected report.

Economic Calendar

There was a lot of stock news today thanks to the weak news flow on the cliff. NetFlix soared +14% on news they had inked an exclusive contract with Disney for first-run live-action and animated feature films. The deal included televisions, tablets, computers and phones. The deal includes immediate content availability from Disney Animation, Pixar Animation, Marvel Studios, Disney Nature and the archive library for films like Dumbo and Alice in Wonderland as soon as the content is released to pay TV. Financial terms were not disclosed but the stock exploded higher. The surge in the stock price was mostly short covering since the agreement does not begin until 2016.

NetFlix Chart

Darden Restaurants (DRI) shares declined -9% after it cut its profit forecast for the year. The company said failed promotions and bad publicity about its attempt to reduce healthcare costs for workers. The CEO said the promotions did not resonate with "financially stretched" consumers. He said the failed promotions showed the need to make bold changes. For the quarter the company expects same store sales to be down -2.7%. The company is now projecting Q4 profits to be in the range of 32 cents while analysts were expecting 46 cents.

Darden Chart

Edwards Lifesciences (EW) rose +4% after the company said it was raising its 2013 forecast above analyst estimates. For 2013 the company said it now expects adjusted earnings of $3.21 to $3.31 and a gross margin of around 75%. Analysts were looking for earnings of $3.19.

EW Chart

Best Buy (BBY) declined -6% after research group NPD said consumer electronics revenue declined -5.6% on Black Friday. The company said higher tablet and smartphone sales have been offset by weakness in TVs and laptop revenue. In another story Cerberus Group was rumored to be in talks to make a bid for Knight Capital Group (KCG). Cerberus had been rumored to be a possible backer of Best Buy founder Richard Schultz in a possible bid for Best Buy. If Cerberus does pursue Knight Capital that would take them out of play as a partner to Schultz. That would mean Best Buy was going to continue flailing about as a showroom for Amazon.

Best Buy Chart

Gap Stores (GPS) had been rumored to announce a special dividend. They announced today there was no change to Gap's dividend policy and the stock imploded. Gap had been expected to announce a special dividend because Gap founders, the Fisher family, owns 37% of the company. Declaring a special dividend would have been a windfall for the family. Apparently they did not feel the Gap was in a strong enough position to make a change to the dividend and that translated in the market as a week outlook by the family.

Gap Chart

Pandora (P) declined -$2 or -23% after the close when they announced earnings and lowered their guidance for the current quarter. Pandora beat the street for Q3 with earnings of 5 cents compared to estimates of a penny. However, they lowered revenue estimates for Q4 to $120-$123 million with analysts expecting $130 million. Earnings are now expected to be a loss of 9 to 12 cents compared to analyst estimates for a profit of a penny.

This is a prime example of a kitchen sink quarter. Pandora blamed the sales decline in Q4 on the fiscal cliff. That is a stretch of credibility that the impending fiscal cliff has impacted online music sales. This is the same kind of generic excuse we are going to see with companies blaming Sandy for weak earnings.

Pandora Chart

Big Lots (BIG) jumped +11% after the company said earnings for the full year would be as much as $3.05 compared to their prior estimate of $2.95. Analysts were expecting $2.80 so this was a big improvement. They also announced the retirement of the Chairman and CEO, Steven Fishman. In August they replaced the COO, CFO and chief merchandising officer positions as well after same store sales declined. Investors cheered today or maybe it was just the shorts screaming in pain but shares were up strong. There is strong resistance at $32 and that is exactly where the spike failed.

Big Lots Chart

Apple (AAPL) shares declined nearly -2% after Digitimes said Apple had reduced its orders for MacBook Pro models because of "high inventory levels." The publication said shipments of MacBooks to Apple were -20% below prior expectations. With the entire PC market in decline thanks to soaring tablet sales it is only reasonable that MacBooks sales would decline as well. Recent estimates suggest Windows notebook sales are off -10% as well. There was also a block trade of 2.36 million shares so somebody was definitely jumping ship. There are a lot of analysts that believe Apple is broken structurally and will continue to decline. However, Apple will begin selling the iPhone 5 in 50 more countries in December, bringing the total to more than 100 countries. That surge in sales is going to produce a very profitable Q4. Unfortunately Apple is still experiencing component shortages for the new iPhone so deliveries may continue to be sluggish.

Chartists point to the imminent death cross of the 50-day over the 200-day and suggesting Apple could be in for a long term correction.

Apple Chart

Another factor clouding the market is the riots in Egypt since Morsi declared himself pharaoh and above the law. More than 100,000 people took to the streets with 40,000 in Tahrir Square. The large mob advanced on the palace forcing Morsi to exit under heavy police guard. Two weeks ago Morsi declared his government to be above the law and could not be sued or affected by any court ruling. After violent protests against his ruling he said it was only temporary and would only last until a new constitution was approved. A rushed vote on the constitution was set for two weeks. The constitutional committee putting the document together protested they were not ready but were ignored. When the text of the constitution was released for the vote there were new paragraphs and phrases in it that were not in the one the committee had prepared. It appeared the Morsi government had made their own changes and then tried to force it through in a hasty vote.

The situation in Egypt is deteriorating but that is only one country. Syria was warned by president Obama and NATO today to halt preparations for use of chemical weapons. NATO warned that any use of chemical weapons would bring an immediate response by NATO. The U.S. said it appeared Syria was making preparations to use its chemical weapons against its citizens. The threat of chemical weapons caused an emergency move of Patriot anti-missile systems to Turkey. The French government said "movements on military bases storing the weapons" suggested they were preparing to use them and there would be "serious consequences."

In Europe there is a strong rumor that Moody's is preparing to downgrade Germany, Luxembourg and Belgium. The ratings agency put them on negative watch back in July and they downgraded France last week. Moody's said the recent debt deal with Greece and the rising commitments to the ESM and EFSF coupled with the recession in Europe was weakening the credit outlook.

Greek private creditors will apparently be forced to take another 70% haircut on their outstanding debt. The deal is not done but there does not appear to be any way around it of the IMF will back out of the Greek debt deal.

All of these factors weighed on the U.S. markets with the S&P slipping back below the 200-day average at 1410. The minor -2 point decline was nothing but noise and was mostly due to the declined in AAPL, GOOG, BIDU, DRI and AZO.

We are just passing time until there is a resolution of the fiscal cliff. Whether that resolution is real or just a can kick farther down the road is immaterial. The market just wants the clouds of uncertainty to clear so business can continue. It would be VERY helpful if a tax deal was done soon so the worry over the increase in the capital gains and dividend taxes would be lifted from the market. Otherwise we could see selling accelerate as we move further into December.

The S&P has support at 1400 and again at the 200-day average at 1385. Unless there is a highly publicized halt to discussions I would be surprised to see those levels broken.

S&P Chart

The Dow continues to fight resistance at 13,000 but it is still within striking distance should good news break out. No Dow stock gained or lost more than 78 cents so it was really a do nothing day. Initial support is 12,800 followed by 12,500.

Dow Chart

The Nasdaq also traded sideways as we wait on news. Considering Apple was down -10 and Google -7, I am surprised the Nasdaq only declined -5. The 3,000 level is turning into a price magnet and the 100-day at 3,020 is resistance. Support is well below at 2,950 and again at 2,900. With five point moves we are nowhere close to a breakout or breakdown.

Nasdaq Chart

Tuesday was a neutral day. There was nothing of substance to move the markets but the fiscal cloud remained a negative factor. There is a growing expectation for a resolution of some kind but I don't think we have gone through enough posturing yet for one to appear this week. Both sides have yet to appear conciliatory so there may still be some posture points they want to make before they decide to move the fight into 2013.

If by chance a resolution appeared we could see a 3-5% rally. Likewise if talks completely stalled we could see a 2-3% decline. Since most of the bad news is already priced in I expect the downside to be limited.

I remain in buy the dip mode until proven wrong.

Until a resolution appears, enter passively, exit aggressively!

Jim Brown

Send Jim an email

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New Plays

Software & Auto Parts

by James Brown

Click here to email James Brown


Pegasystems Inc. - PEGA - close: 20.79 change: +0.52

Stop Loss: 19.90
Target(s): 24.00
Current Gain/Loss: unopened

Entry on December xx at $ xx.xx
Listed on December 04, 2012
Time Frame: 6 to 8 weeks
Average Daily Volume = 257 thousand
New Positions: Yes, see below

Company Description

Why We Like It:
PEGA is a software company. The stock has been plunging the last three quarters. Yet after a drop from $40 to $19 it looks like PEGA may have finally found a bottom. The stock has spent the last three weeks building a base and traders just bought the dip again today.

Aggressive traders may want to open bullish positions now. I am suggesting a trigger to launch positions at $21.25. If triggered our target is $24.00 although more conservative traders may want to exit as PEGA nears potential resistance at its simple 50-dma instead.

Trigger @ 21.25

Suggested Position: buy PEGA stock @ (trigger)

Annotated chart:

Tenneco Inc. - TEN - close: 32.56 change: +0.76

Stop Loss: 31.45
Target(s): 37.00
Current Gain/Loss: unopened

Entry on December xx at $ xx.xx
Listed on December 04, 2012
Time Frame: 6 to 8 weeks
Average Daily Volume = 517 thousand
New Positions: Yes, see below

Company Description

Why We Like It:
TEN is in the auto parts industry. The stock has rallied back to resistance near its September highs. It's also nearing a major trend line of lower highs dating back to 2011. A breakout past this trend line could spark the next big leg higher.

I am suggesting we keep our position size small to limit our risk. We will use a trigger to open bullish positions at $33.15. More conservative traders may want to wait for TEN to actually close above the $33.00 level and then open positions the next morning. If triggered our multi-week target is $37.00. This trade could take weeks.

Trigger @ 33.15 *Small positions*

Suggested Position: buy TEN stock @ (trigger)

Annotated chart:

In Play Updates and Reviews

Triggered Trades

by James Brown

Click here to email James Brown

Editor's Note:
The market didn't make much progress either way on Tuesday but we did see two of our trades get triggered.

CHKR and SGY are now open.

Current Portfolio:

BULLISH Play Updates

Affymax - AFFY - close: 24.48 change: +0.16

Stop Loss: 22.65
Target(s): 27.50
Current Gain/Loss: + 1.6%

Entry on November 26 at $24.10
Listed on November 21, 2012
Time Frame: 3 to 6 weeks
Average Daily Volume = 678 thousand
New Positions: , see below

12/04/12: AFFY is slowly making progress. Shares look ready to challenge the $25.00 mark again. I am not suggesting new positions at current levels.

*Small Positions*

current Position: long AFFY stock @ $24.10

Bank of America - BAC - close: 9.91 change: +0.11

Stop Loss: 9.65
Target(s): 11.50
Current Gain/Loss: unopened

Entry on December xx at $ xx.xx
Listed on December 01, 2012
Time Frame: 6 to 8 weeks
Average Daily Volume = 150 million
New Positions: Yes, see below

12/04/12: After consolidating sideways all day BAC started to show some strength late this afternoon. We are waiting for a breakout past resistance near $10.00.

I am suggesting a trigger to open bullish positions at $10.10. If triggered our target is $11.50. More aggressive traders could aim for $12.00. This is a multi-week trade.

Trigger @ 10.10

Suggested Position: buy BAC stock @ (trigger)

- (or for more adventurous traders, try this option) -

buy the 2013 Jan $10 call (BAC1319a10)

Banner Corp. - BANR - close: 30.47 change: +0.14

Stop Loss: 28.90
Target(s): 34.00
Current Gain/Loss: - 0.1%

Entry on November 21 at $30.49
Listed on November 20, 2012
Time Frame: 8 to 10 weeks
Average Daily Volume = 157 thousand
New Positions: see below

12/04/12: BANR is still slowly drifting higher. Shares are now testing the $30.50 level. The trend is definitely up but I am not suggesting new positions at this time.

NOTE: BANR doesn't move very fast. This trade could take a couple of months.

*Small Positions*

current Position: Long BANR stock @ $30.49

11/21/12 out trade opened on the gap higher.

Ball Corp. - BLL - close: 43.70 change: -0.24

Stop Loss: 43.25
Target(s): 48.00
Current Gain/Loss: - 0.3%

Entry on November 06 at $43.85
Listed on November 3, 2012
Time Frame: 6 to 8 weeks
Average Daily Volume = 687 thousand
New Positions: see below

12/04/12: The unexpected and unexplained sell-off in BLL yesterday was bad enough. Now shares confirm the drop with another decline. If this selling continues we could see BLL hit our stop loss at $43.25 soon. More conservative traders may want to abandon ship right now.

current Position: Long BLL stock @ $43.85

11/24/12 new stop loss @ 43.25
11/17/12 new stop loss @ 42.55
11/06/12 triggered @ 43.85

EZchip Semiconductor - EZCH - close: 37.43 change: +0.04

Stop Loss: 36.40
Target(s): 44.00
Current Gain/Loss: - 2.4%

Entry on November 27 at $38.35
Listed on November 26, 2012
Time Frame: 6 to 12 weeks
Average Daily Volume = 414 thousand
New Positions: see below

12/04/12: It looks like traders bought the dip near EZCH's 200-dma again. I am cautious here. If the market turns lower tomorrow we could see EZCH hit our stop loss at $36.40. I am not suggesting new positions at this time.

Our multi-week target is $44.00. I would expect a pullback on the first test of potential resistance at $40.00.

current Position: Long EZCH stock @ $38.35

PerkinElmer Inc. - PKI - close: 31.26 change: -0.15

Stop Loss: 29.70
Target(s): 35.75
Current Gain/Loss: unopened

Entry on December xx at $ xx.xx
Listed on December 01, 2012
Time Frame: 6 to 9 weeks
Average Daily Volume = 661 thousand
New Positions: Yes, see below

12/04/12: Tuesday was a relatively quiet session for PKI. Technically today's drop would confirm yesterday's bearish engulfing candlestick reversal pattern. At the moment we're still on the sidelines.

I am suggesting a trigger to open bullish positions at $32.00. Our multi-week target is $35.75 as the $36.00 level looks like resistance. We will need to be patient as PKI doesn't move very fast.

Trigger @ 32.00

Suggested Position: buy PKI stock @ (trigger)

ValueClick, Inc. - VCLK - close: 18.78 change: -0.10

Stop Loss: 17.85
Target(s): 20.75
Current Gain/Loss: + 3.2%

Entry on November 20 at $18.20
Listed on November 19, 2012
Time Frame: 4 to 6 weeks
Average Daily Volume = 666 thousand
New Positions: see below

12/04/12: VCLK dipped to $18.50 and bounced. I am not convinced the pullback is over. We might see VCLK retest support near $18.00 again.

Earlier Comments:
I will point out that VCLK could see potential resistance at $19.50 and the $20.00 mark. I would keep our position size small. VCLK has been volatile in the past.

current Position: Long VCLK stock @ $18.20

11/28/12 new stop loss @ 17.85

BEARISH Play Updates

Chesapeake Granite Wash Trust - CHKR - close: 18.23 change: -0.03

Stop Loss: 18.75
Target(s): 16.40
Current Gain/Loss: - 1.8%

Entry on December 04 at $17.90
Listed on November 26, 2012
Time Frame: 6 to 8 weeks
Average Daily Volume = 226 thousand
New Positions: see below

12/04/12: Our CHKR trade has been triggered. The stock displayed relative weakness most of the day and broke down under $18.00. Our trigger was $17.90. Unfortunately a late day rebound lifted CHKR back above the $18 level. That's not a great start for our bearish trade. I am not suggesting new positions with CHKR above $18.00.

Earlier Comments:
Our initial target is $16.40 but we might reconsider and aim lower.

*Small Positions*

current Position: short CHKR stock @ $17.90

CIT Group - CIT - close: 36.60 change: -0.07

Stop Loss: 37.05
Target(s): 33.25
Current Gain/Loss: unopened

Entry on November xx at $ xx.xx
Listed on November 21, 2012
Time Frame: 3 to 6 weeks
Average Daily Volume = 1.5 million
New Positions: Yes, see below

12/04/12: CIT is little changed. The stock remains inside the $36.00-37.25 trading range.

We are waiting for a breakdown under $36 as our entry point. I am suggesting we use a trigger at $35.90 to launch small bearish positions. Our target is $33.25.

Trigger @ 35.90

Suggested Position: short CIT stock @ (trigger)

- (or for more adventurous traders, try this option) -

buy the 2013 Jan $35 PUT (CIT1319m35)

Cliffs Natural Resources - CLF - close: 29.40 change: +1.00

Stop Loss: 30.55
Target(s): 25.25
Current Gain/Loss: + 0.7%

Entry on November 28 at $29.62
Listed on November 27, 2012
Time Frame: 4 to 6 weeks
Average Daily Volume = 7.7 million
New Positions: see below

12/04/12: Warning! CLF is not cooperating. I could not find any news to explain the sudden shot of strength in CLF this morning. The stock actually gapped open lower and trade near $28.00 only to suddenly spike higher and surge toward round-number resistance at $30.00. CLF spent the rest of the day consolidating sideways just under $30.00. Technically today's bounce has created a bullish engulfing candlestick reversal pattern on the daily chart.

Currently our stop loss is at $30.55. More conservative traders may want to lower their stop so it's closer to the $30.00 level.

Earlier Comments:
I would classify this as a higher-risk trade because so many investors are bearish on CLF. The most recent data listed short interest at almost 20% of the 141 million-share float. That does raise the risk of a short squeeze but the trend is clearly down. We want to keep our position size small to limit our risk. You may want to use the put option to limit your risk.

*small positions*

current Position: short CLF stock @ $29.62

- (or for more adventurous traders, try this option) -

Long DEC $30 PUT (CLF1222x30) entry $1.60

12/03/12 new stop loss @ $30.55
11/28/12 triggered on gap down at $29.62

MICROS Systems - MCRS - close: 42.14 change: -0.21

Stop Loss: 44.05
Target(s): 40.10
Current Gain/Loss: + 1.7%

Entry on December 03 at $42.85
Listed on November 28, 2012
Time Frame: 3 to 6 weeks
Average Daily Volume = 542 thousand
New Positions: see below

12/04/12: MCRS is still drifting lower. The stock lost another -0.5% and spent most of the day hugging the $42.00 level. I am not suggesting new positions at this time.

current Position: short MCRS stock @ $42.85

12/03/12 triggered at $42.85

Stone Energy Corp. - SGY - close: 19.62 change: -0.29

Stop Loss: 21.35
Target(s): 16.00
Current Gain/Loss: + 0.9%

Entry on December 04 at $19.80
Listed on December 03, 2012
Time Frame: 3 to 6 weeks
Average Daily Volume = 719 thousand
New Positions: see below

12/04/12: Our new trade on SGY has been triggered. The stock initially bounced but reversed soon thereafter and fell to new 2012 lows. Our trigger to open bearish positions was hit at $19.80.

The next major support is all the way down near $15.00. We will target a drop to $16.00. FYI: The Point & Figure chart is bearish and forecasting at long-term $12 target.

current Position: short SGY stock @ $19.80