Option Investor

Daily Newsletter, Wednesday, 7/3/2013

Table of Contents

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

Market Wrap

Bullish Week but Not By Much

by Keene Little

Click here to email Keene Little
The first couple of days of a new month and the days in front of a holiday are typically bullish. So far we have a bullish week but nothing for the bulls to write home about.

Market Stats

Other than the Mideast wars burning like wildfires in the western U.S., a military coup in Egypt, and N. Africa melting from the turmoil, the world is a happy place and there are no worries affecting the market (wink). So the stock market has nothing to worry about and should easily continue higher (tongue firmly planted in cheek). We've had a bullish stock market since the June 24th low but it's starting to look a little tired already. But the bullish interpretation is that the past few days have been a bullish consolidation. It's very likely this consolidation is going to lead to a big move and it's possible Friday's Payrolls report will be the catalyst.

With the military overthrow of Egypt's government it's anyone's guess what this will do to the overseas markets and U.S. futures Thursday night into Friday morning. At this point it's simply an unknown potential influence.

Other than the price of oil crossing the psychologically important $100 level there certainly doesn't appear to be any great worries in other markets at the moment. Considering oil over $100 could start to fan the inflation fires and slow economies further, it might start to hurt the stock market. The U.S. dollar made a new high in last night's overnight session but then dropped sharply today, leaving a potentially bearish candlestick pattern. Bonds have been flat for the past several days but rallied some today. Was that a move into safety in front of the holiday and Friday's report and the anticipation of trouble in Egypt?

It was naturally a slow trading half-day session, which continued the slow week we've seen. The stock market gapped down this morning following the negative sessions seen in Asia and Europe. But a successful effort was made to get the indexes into the green before the 1:00 PM close. Before all indexes made it into the green we saw the DOW and NDX green while SPX and RUT were red, which made for strange bedfellows. The DOW was green while the TRAN finished in the red. Gold and silver, as well as commodities, and the miners were strong. The banks lagged while techs outperformed. All in all it wasn't the kind of bullish day that one would expect to see in front of the holiday.

This morning's ISM Services report was slightly negative, coming in at 52.2, down from 53.7 in May and worse than the expected 54.0. It's a 3-year low and obviously heading in the wrong direction and another sign of a weakening economy. That didn't help the initial mood of the market this morning.

The ADP report helped the mood a little, coming in at +188K vs. the +150K expected and better than the +135K for May. And initial unemployment claims came in a little lighter than expected, falling from 346K to 343K vs. the 348K expected. Both of these likely helped calm some worries about Friday's payrolls report. But keep in mind that a stronger than expected Payrolls report could see a negative reaction since market participants might worry anew that the Fed will use that information to justify why it needs to start considering tapering off its asset purchases. It's a crazy world we're trading.

Speaking of the Fed and its effort to spark inflation (to fight the dreaded 'D' word), the chart below shows one of the reasons why we're seeing deflation no matter how hard the Fed has been trying to stop it. Keep in mind that inflation/deflation has to do with money supply growth rate (e.g., velocity of money) and not prices paid. Prices are a reflection of inflation/deflation but not the definition of it. So the chart below shows how quickly household debt has declined since 2007, following the big increase from the 1990's. That's deflationary pressure. The government is of course doing its part to stoke inflation with its increased borrowing.

Household debt decline, 1980-March 2013, chart courtesy stansberryresearch.com

Demonstrating how two people can look at the same chart and see different things, I see the danger of deflation from the rapid decrease in debt (through defaults and payoffs), which points to further slowing in the U.S. economy and not something the stock market would like. But the folks at Stansberry Research, who put this chart together, sees it as bullish, as they not on the chart. They see the debt reduction as a good thing since it enables people to take on more debt again. Time will tell who's right and whether or not the consumer will step back in and start more buying on credit. Call me skeptical on that one.

It was only a half-day session and it's been a slow week so there's not much to cover. Besides, who wants to read a long report when a holiday is of more interest? We'll worry more after we get through Friday morning (smile).

The weekly chart of SPX is non-committal here -- it's holding above its broken uptrend line from 1991-1994-2002 and the trend line along the highs from 2000-2007 but it has not been able to get back above the mid line of its up-channel from October 2011 nor its broken uptrend line from November. Last week's candle is a bullish hammer but this week's (so far) is just a doji. Nothing here, move along folks.

S&P 500, SPX, Weekly chart

The broken uptrend line from November is currently near 1635 so I'd want to see it above that level on Friday before turning more bullish (which is the way I'm leaning). It's been consolidating below its 20- and 50-dma's (intraday pokes above its 20-dma but hammered back down by its 50-dma, currently near 1617 and 1625, resp. Its downtrend line from May 22nd is near 1632 on Friday. The bulls have some work to do to prove they're going to stay in control this month.

S&P 500, SPX, Daily chart

Key Levels for SPX:
- bullish above 1635
- bearish below 1565

Price-level support for SPX is near 1597 but there's not much support below that level until it gets down to 1560, a break of which would confirm the bears are fully in control. I see the potential for a small pullback Friday morning, possibly as an initial negative reaction to the Payrolls report, followed by the start of a stronger rally (maybe a disappointing number and then talk of a Fed that will have to continue full-on asset purchases).

S&P 500, SPX, 60-min chart

Jason Geopfert at sentimentrader.com made not of the price action in SPY today -- for the first time in its trading history it closed in the bottom half of its intraday trading range for 4 days in a row. This indicates weakness where the morning rally can't hold and the bears drive it back down into the close, which is the day's more important price. Afternoon supply of stock overwhelms demand and that's a sign of distribution. It's one of the things that has me nervous about my expectation for a further rally this month. So I pass it along for you to consider as well.

Like SPX, the DOW has been consolidating since the June 27th high just below its 20- and 50-dma's, testing them repeatedly and pulling back, including today. Currently near 15011 and 15063, resp., and with Monday's high at 15083, the bulls need to break the DOW over 15100 to get a good start on the next leg of the rally. The sideways consolidation is either a bullish consolidation below resistance or topping for its bounce off he June 27th low. If the bulls can get through 15100 the next resistance level is its downtrend line from May 22nd, near 15200. If it can rally above that level I think there would be little doubt that we'll see a new high this month, potentially up to about 15780 by the 3rd week (opex).

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- bullish above 15,200
- bearish below 14,550

The NDX continues to struggle with its 20- and 50-dma's although it at least closed above its 20-dma today, at 2932, and 7 points below its 50-dma at 2948. Its downtrend line from May 22nd is near 2968 on Friday.

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- bullish above 2972
- bearish below 2825

A little closer view of NDX shows what to watch on Friday. On Friday it rallied up to its broken uptrend line from June 24th and pulled back into the close. That's a bearish back test and kiss goodbye so far and therefore any continuation lower on Friday could turn much more bearish. It almost closed its June 20th gap down, at 2959.80, but didn't make it. Then it has its downtrend line from May 22nd to get over. Getting through all that, with a rally above 2972, is the reason I think it would be bullish for new highs. But the current short-term setup is bearish. It might only mean a sharp leg down for a larger 3-wave pullback from Monday's high (to slightly below Tuesday's low at 2913.48) before turning around and heading higher again. Again, be careful about potential volatility during Friday's light-volume trading.

Nasdaq-100, NDX, 60-min chart

The RUT has been my bullish indicator since early June (based on the corrective pullback from May's high) and I don't see anything yet to negate the bullish potential for a new high this month. If new highs are coming we should see the RUT as the first index to break its downtrend line from May 22nd, near 998 on Friday.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- bullish above 998
- bearish below 942

Bonds have been mostly flat for the past several days but the pullback in yields from the June 24th highs has the potential to be the start of the next leg down into the end of the year, making the June 24th high as THE high for the year. The larger price pattern suggests the 3-wave bounce off the July 2012 low has completed and the next big move will be back down to a final low later this year or early next year. As shown on the 30-year yield (TYX) weekly chart below, an a-b-c bounce off the July 2012 low achieved two equal legs at 3.642 (actually it missed it with a high of 3.63). However, the pullback so far has found support at price-level S/R near 3.47 (yesterday's low was 3.458) as well as the top of its parallel up-channel from July 2012, the top of which it broke through on June 20th and is currently near 3.485. A rally much above 3.65 would be a bullish move, especially if it can get above its 200-week MA at 3.67.

30-year Yield, TYX, Weekly chart

The price pattern of the 10-year Note is of course a mirror image of yield and it shows the same pattern. In this case, an a-b-c pullback from July 2012 has the c-wave equal to 162% of the a-wave at 124'290 (the low on June 24th was a few ticks above it at 125'005). It closed the week above its uptrend line from 2007-2011 and its 200-week MA, both currently at 126'065. Today's close at 126'080 is essentially holding the line so what it does from here should tell us whether or not support is going to hold. The bearish potential for prices from here is very bearish and it would mean a strong spike in yields. That in turn would convince most in the market that the Fed is losing control of rates. It would also crush any housing bounce.

10-year Bond contract, ZN, Weekly chart

The banking index is closest to achieving a new high for the year and is one of the indexes (along with the RUT) that has had me leaning long once we got the June 24th lows. Its May 30th high at 62.92 was close to being hit yesterday with its high at 62.80. I see upside potential to about 64.60. But the caution here is that the final wave in its pattern could finish at any time. There is no requirement, from a wave perspective, for BKX to rally any further.

KBW Bank index, BKX, Weekly chart

The Trannies look bearish here but it could clearly have the same pattern as the broader indexes. But with a rally up to its 50-dma and downtrend line from May, both near 6279, followed by a drop back down and back below its 20-dma, at 6223, it looks like the bears are taking over. The TRAN needs to get above 6285 to support any rally in the blue chips.

Transportation Index, TRAN, Daily chart

The dollar's whippy price action leaves both sides guessing the next short-term move but the longer-term pattern continues to support further upside this year, with an upside target near 87. The sharp rise back up from June 13th looks ready for a pullback to correct, starting with today's reversal off the overnight high. So maybe a pullback to about 82 and then the start of the next rally leg.

U.S. Dollar contract, DX, Weekly chart

Gold's bounce off last Friday's low looks like it could be the start of what I think will be a bounce/consolidation into August, and maybe up to about 1300, before the next leg down to complete the leg down from September 2012. There is the bullish possibility for the start of a major gold rally but I haven't seen any evidence yet in the small bounce so far.

Gold continuous contract, GC, Weekly chart

Looking a little closer at silver, its daily chart below shows the idea that it still needs to stair-step lower into October/November. The next leg down after a bounce/consolidation could see it drop down to near 15 and then another up-down sequence with an ultimate low near 12-13. But if it follows a path similar to that shown for gold above we should see silver find support between 15 and 16 (and possibly the low is already in).

Silver continuous contract, SI, Daily chart

This morning's report showing crude inventories dropping by -10.3M barrels only aggravated the price worries from the Mideast. Oil finished up about +1.6% at 101.23 after rallying above the psychologically important $100 level. Oil's rally this week has confirmed a break out of the smaller sideways triangle pattern I've been tracking since the high in September 2012 by breaking above that high at 100.42. The upside target is now the top of a larger sideways triangle, which is the downtrend line from May 2011, currently near 103.40.

Oil continuous contract, CL, Weekly chart

Oil would be more bullish above 104 and confirmed bullish if it gets above the March 2012 high at 110.55. The higher probability is for a decline back to at least the bottom of the larger triangle, near 81 by October, which says the risk premium (due to the Mideast and N. Africa problems) is going to come out of the price of oil. That would be good news for the world and the global economies. A rise above 104 would say the world and economies are not going to be in good shape.

The only report of interest on Friday morning is of course the Payrolls report. How the market will react is anyone's guess in this Bizarro Market (where up is down and vice versa). And even an initial reaction is likely to be reversed. Needless to say, trade carefully, especially since the light trading volume will likely exacerbate any movements.

Economic reports and Summary

The U.S. market is closed on Thursday but not overseas markets and that means anything could happen before our market opens Friday morning. Futures during Thursday night into Friday morning could set the tone for the day, possibly negating anything we get from the Payrolls report.

The EU GDP will be released on Thursday, as well as the BOE's (Bank of England) and ECB's announcements of their monetary policies. We'll have more developments from Egypt and a promise by the Muslim Brotherhood for protests and potential violence. Needless to say, anything can happen.

I continue to lean long the market, especially if we get only a pullback Friday morning followed by a reversal to new highs for the move up from June 24th. It's a long way back down but the bears are not in control until the break below the lows of June 24th so be careful about the potential for a head-fake break to the downside followed by a sharp reversal back up. Next week we should at least get back to "normal" summertime light volume.

I hope everyone enjoys a day away from the markets if you can and do a little recharging before we tackle Friday. I'll be back with you next Wednesday.

Keene H. Little, CMT

In the end everything works out and if it doesn't work out, it is not the end. Old Indian Saying

New Plays

Happy Fourth of July!

by James Brown

Click here to email James Brown

Editor's Note:

The U.S. markets will be closed tomorrow for the Fourth of July Independence holiday.

We are not adding any new trading candidates tonight.

Don't forget that the jobs report will be out on Friday morning and volume will be very light. The combination could create exaggerated volatility in stocks on Friday.

In Play Updates and Reviews

Minor Gains on Wednesday

by James Brown

Click here to email James Brown

Editor's Note:
The major U.S. indices managed minor gains ahead of the July 4th holiday.

Our CYH trade was stopped out on Wednesday.

Current Portfolio:

BULLISH Play Updates

American Realty Capital Prop. - ARCP - close: 14.50 change: -0.32

Stop Loss: 14.35
Target(s): 16.00
Current Gain/Loss: - 0.7%

Entry on June 24 at $14.60
Listed on June 22, 2013
Time Frame: 6 to 8 weeks
Average Daily Volume = 4.8 million
New Positions: see below

07/03/13: Our ARCP trade could be over soon. The stock underperformed the market on Wednesday with a -2.1% decline. Shares look headed for the $14.00 level. Currently our stop loss is at $14.35.

*small positions*

current Position: Long ARCP stock @ $14.60

07/02/13 new stop loss @ 14.35

Engility Holdings - EGL - close: 28.85 change: +0.08

Stop Loss: 27.45
Target(s): 32.50
Current Gain/Loss: + 2.1%

Entry on June 25 at $28.25
Listed on June 24, 2013
Time Frame: 6 to 8 weeks
Average Daily Volume = 96 thousand
New Positions: see below

07/03/13: EGL delivered another quiet day with shares drifting sideways. The next hurdle for the bulls is the $29.00 level.

Earlier Comments:
A breakout could spark some short covering. The most recent data listed short interest a 10% of the small 12.7 million share float.

current Position: Long EGL stock @ $28.25

06/29/13 new stop loss @ 27.45

iShares Japan Index - EWJ - close: 11.45 change: +0.01

Stop Loss: 10.98
Target(s): 12.40
Current Gain/Loss: - 0.9%

Entry on July 02 at $11.55
Listed on July 01, 2013
Time Frame: 6 to 8 weeks
Average Daily Volume = 66 million
New Positions: see below

07/03/13: The EWJ saw some minor weakness this morning but traders eventually stepped in to buy the dip. I would still consider new positions now at current levels or you could wait for a rally above Tuesday's high.

current Position: Long EWJ stock @ $11.55

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

Long 2014 Jan $12 call (EWJ1418a12) entry $0.58

Fiesta Restaurant Group. - FRGI - close: 34.89 change: -0.10

Stop Loss: 33.80
Target(s): 39.50
Current Gain/Loss: unopened

Entry on July -- at $--.--
Listed on July 02, 2013
Time Frame: 6 to 8 weeks
Average Daily Volume = 245 thousand
New Positions: Yes, see below

07/03/13: There is no change from my new play comments on Tuesday night. FRGI is still consolidating below resistance near $35.00 and looks poised to breakout higher.

Earlier Comments:
You can see on the daily chart below that FRGI has been struggling with resistance at the simple 30-dma. Now it's testing the 10-dma, 20-dma and the 30-dma. A breakout higher here could spark the next leg higher.

We are suggesting a trigger to open bullish positions at $35.25. If triggered our target is $39.50.

Trigger @ 35.25

Suggested Position: buy FRGI stock @ (trigger)

MetLife, Inc. - MET - close: 46.27 change: -0.30

Stop Loss: 45.40
Target(s): 50.00
Current Gain/Loss: + 0.0%

Entry on July 01 at $46.25
Listed on June 27, 2013
Time Frame: 6 to 8 weeks
Average Daily Volume = 8.7 million
New Positions: see below

07/03/13: MET dipped to short-term support at the $46.00 level this morning. I would still consider new positions here or you could wait for the bounce. Don't forget that the jobs report on Friday morning could spark a rally or a crash in stocks.

*small positions*

current Position: Long MET stock @ $46.25

07/02/13 new stop loss @ 45.40

Nexstar Broadcasting - NXST - close: 35.55 change: +1.05

Stop Loss: 33.49
Target(s): 39.50
Current Gain/Loss: + 0.1%

Entry on June 27 at $35.53
Listed on June 26, 2013
Time Frame: 4 to 8 weeks
Average Daily Volume = 615 thousand
New Positions: see below

07/03/13: NXST finally bounced and shares rallied +3.0%. The stock's next hurdle is resistance at the $36.00 level. More conservative traders may want to adjust their stop closer to Monday's low (33.95).

*small positions*

current Position: Long NXST stock @ $35.53

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

Long Aug $40 call (NXST1317H40) entry $1.14

06/27/13 triggered on gap higher at $35.53 (trigger was 35.50)

Polypore Intl. Inc. - PPO - close: 40.74 change: -0.31

Stop Loss: 39.30
Target(s): 44.75
Current Gain/Loss: -0.0%

Entry on July 01 at $40.75
Listed on June 29, 2013
Time Frame: 3 to four weeks (unless you're trading the options)
Average Daily Volume = 3.3 million
New Positions: see below

07/03/13: Hmm... PPO underperformed on Wednesday with a -0.75% decline. Traders did buy the dip near its 50-dma. On Tuesday I suggested buying a dip or a bounce near $40.50 and today's low was $40.40.

Earlier Comments:
If shares build on Friday's rally PPO could see another short squeeze. The most recent data listed short interest at 39% of the small 42.7 million share float.

*small positions*

current Position: Long PPO stock @ $40.75

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

Long Jul $40 call (PPO1320G40) entry $1.75*

*07/01/13 option entry price is an estimate since the option did not trade at the time our play was opened.

The Charles Schwab Corp. - SCHW - close: 21.40 change: +0.10

Stop Loss: 20.65
Target(s): 24.50
Current Gain/Loss: - 0.7%

Entry on July 01 at $21.55
Listed on June 29, 2013
Time Frame: Exit prior to earnings in 2 to 3 weeks
Average Daily Volume = 12.2 million
New Positions: see below

07/03/13: SCHW rebounded off its morning lows to close up +0.4%. I don't see any changes from my earlier comments.

Earlier Comments:
I would like to aim for $24.50 on this stock but we may not have enough time. The company could report earnings in the next two or three weeks and we'll plan to exit prior to the announcement. I am suggesting investors keep their position size small to limit risk.

*small positions*

current Position: Long SCHW stock @ $21.55

BEARISH Play Updates

Cliffs Natural Res. - CLF - close: 16.08 change: -0.52

Stop Loss: 16.51
Target(s): 12.15
Current Gain/Loss: unopened

Entry on June -- at $--.--
Listed on June 26, 2013
Time Frame: 6 to 8 weeks
Average Daily Volume = 11.5 million
New Positions: Yes, see below

07/03/13: It looks like the rebound in CLF might be failing at its 10-dma. That's good news if you're bearish. Currently there is no change from my earlier comments.

Earlier Comments:
If the $15.50 level breaks the next stop could be its 2009 lows near $12.00 (actually $11.84). I am suggesting small bearish positions if CLF hits $15.40 or lower. If triggered our target is $12.15. I am suggesting small positions because CLF is arguably oversold here. Instead of shorting CLF you may want to try and limit your risk by using put options (your risk being the cost of the option).

Trigger @ 15.40 *small positions*

Suggested Position: short CLF stock @ (trigger)

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

Buy the Aug $15 PUT (CLF1317T15)

Energy XXI Ltd. - EXXI - close: 23.06 change: +0.31

Stop Loss: 23.55
Target(s): 20.25
Current Gain/Loss: + 1.5%

Entry on June 27 at $23.40
Listed on June 25, 2013
Time Frame: 6 to 8 weeks
Average Daily Volume = 1.0 million
New Positions: see below

07/03/13: Our potential gains in EXXI are slowly fading as the stock continues to bounce. Today's close above $23.00 might signal trouble for the bears. I am not suggesting new positions at this time.

Earlier Comments:
We are aiming for $20.25 as our exit target but the April 2013 lows could be support. More conservative traders may want to take profits early in the $22.00-21.50 area.

current Position: short EXXI stock @ $23.40

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

Long Jul $24 PUT (EXXI1320S24) entry $1.20

06/29/13 new stop loss @ 23.55


Community Health Systems - CYH - close: 45.60 change: -0.94

Stop Loss: 45.85
Target(s): 51.00
Current Gain/Loss: - 2.6%

Entry on June 26 at $47.05
Listed on June 25, 2013
Time Frame: 6 to 8 weeks
Average Daily Volume = 1.2 million
New Positions: see below

07/03/13: Healthcare stocks were weak this morning as the market reacted to news that the full implementation of Obamacare will be delayed. Shares of CYH gapped open lower at $45.93. Our stop loss was quickly hit at $45.85. CYH could still have support at its rising 100-dma.

closed Position: Long CYH stock @ $47.05 exit $45.85 (-2.6%)

07/03/13 stopped out
07/02/13 new stop loss @ 45.85