Option Investor

Daily Newsletter, Tuesday, 4/1/2014

Table of Contents

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

Market Wrap

Off to a Good Start

by Jim Brown

Click here to email Jim Brown

Money flowed back into the market on April 1st. Let's hope investors were not April fools.

Market Statistics

April has 21 trading days and the first one is now in the history books. Since 1950 April has been a bullish month for the equity markets. Over the last ten years there was an average gain of +3.4%. It is too bad that past performance is no guarantee of future results or we would all be buying stocks with every penny of margin available to us.

If the market followed the recent historical trend of a +3.4% gain that would take us to 1,928 on the S&P. With yearend targets by a significant number brokers in the 1,900-1,950 range that suggests moving much over 1,928 would be difficult since they will be recommending to their clients to lighten up once those targets are hit.

There are also analysts with targets well over 1,950 but those are in the minority. Lastly, most analysts are terrible market timers and their targets are rarely seen as gospel. Relying on any one analyst for his market call would be hazardous to your financial health. We should take the general consensus of analysts and realize that the majority of retail investors will make decisions about remaining long the market based on that consensus.

At the beginning of the year the average target of the top 15 market forecasters was 1,954. That ranged from 1,850 from David Bianco at Deutsche Bank to Tom Lee's 2,075 at JP Morgan. These are targets not yearend estimates. Numerous analysts believe the markets will rally this spring and then fade into the summer and midterm election cycle then rally again into year end. Here is the complete list.

The problem with these forecasts is that they all were based on earnings expectations from December. That was before the polar vortex hit and wiped out earnings for Q1. S&P Capital IQ was looking for 5.3% earnings growth for Q1 when the quarter started. Now they are looking for +0.31%. That is going to put a big dent in the earnings for the year and analysts are already lowering their forecasts.

Unless you have a crystal ball you are as confused about the future as everyone else. Earnings guidance is always important but in this earnings cycle it will be critically important. This is going to be a kitchen sink quarter where companies will throw all their accounting problems into Q1 earnings and blame the poor performance on the weather. In theory that will allow them to perform better for the rest of the year without those accounting charges hanging over their heads. Also, since the majority of companies have already warned for Q1 and reduced guidance there is always the potential for a steady stream of earnings beats over that lowered guidance. Alcoa will kick off the Q1 cycle when they report earnings next week and it will be interesting to see how companies are going to guide for the rest of 2014.

April is off to a good start with the S&P closing at a new historic high at 1,885.67 on Monday. Helping to push the market higher were some positive economics plus the influx of new money into retirement accounts. The momentum stocks that were so out of favor in March came roaring back. Leading the charge were the biotechs.

On the economic front the ISM Manufacturing Index for March rose slightly from 53.2 to 53.7 and a three-month high but missed the consensus estimates for a rise to 54.0. Analysts were all in a tizzy claiming the slight gain was evidence of a bounce back after the severe winter weather. Pardon me if I don't get too excited over the minor gain.

New orders rose slightly from 54.5 to 55.1. If we were really having a snapback from the winter weather I would have expected a bigger jump in orders. Employment fell from 52.3 to 51.1 and the lowest level since June. If business was improving you would not expect employment to fall to nine-month lows.

On the positive side backorders rose from 53.0 to 57.5 and that suggests the employment component could rise in April. Overall the report was slightly stronger but nothing to brag about.

Construction spending rose +0.1% for February after a +0.1% rise in January. This was in line with estimates. The majority of the spending came in non-residential with a +1.2% gain compared to a -0.8% decline in residential spending. This report was ignored.

The Intuit Small Business Employment Index rose +0.1% in March, up from a flat reading in February. Employment at companies with less than 20 workers was flat for the second month. Compensation was up +0.4% to an average of $2,747 or $33,000 per year. Hours worked rose +0.2% and slightly less than the +0.3% pace in February. Since there were no material changes from February the report was ignored.

Weekly Chain Store Sales soared +3.6% after declining -1.5% the prior week. I view this as real evidence the weather is improving and there is significant pent up demand from consumers that have been stuck at home for the last two months while blizzards raged outside. That was the biggest gain in 2014. However, these numbers are adjusted for the Easter shift on the calendar so it is hard to tell how much of that gain was real and how much was an accounting adjustment. The report showed that 7.3% of consumers claimed they did not shop anywhere during the week. That is the largest number in four-years. Gasoline prices have been steadily rising and that is eventually going to pressure consumers.

The best report for the day was the Vehicle Sales for March. The headline soared to 16.4 million vehicles on an annualized basis. This was well over the 15.4 million rate in February and the 15.8 million estimate. Obviously there was no weather impact in the automobile sector in March. Consumers confined to their homes by the weather in Jan/Feb broke out and headed for dealer showrooms as the ice began to melt.

March sales were +7.1% higher than the same month in 2013. Some of that was due to heavy incentives from dealers in an effort to bring customers into the showrooms. Car sales rose to 7.8 million units and truck/suv sales rose to 8.6 million units. Chrysler sales were the highest since 2007 at 2.1 million annualized units. Ford sales returned to their 2013 highs. However, Honda, Toyota and Nissan captured 40% of sales and the highest over the last year. Nissan sales hit a record high.

We can't assume the pace of sales will continue since most of this is a snapback from the weak Jan/Feb storm depressed numbers.

The economic calendar for Wednesday is headlined by the ADP Employment report. The consensus estimate is for a rise in jobs from 139,000 to 193,000. This is going to be a key metric for the rest of the week. We need a Goldilocks number in the 175,000-195,000 range to keep the rally going. Anything materially higher or lower could derail the rally as investors begin worrying over either the economy or the rapid end of QE.

The ECB decision on Thursday could also be momentous. If the ECB decides to launch its own QE program it could be positive for the markets.

The Nonfarm Payrolls on Friday will be more important than the ADP report but without any material disappointment in the numbers it will be anticlimactic. The two reports do diverge quite often and sometimes by a large amount. The Goldilocks number for the Nonfarm report would also be in the +185,000 range.

The official manufacturing PMI for China came in at 50.3 and a +.01 point improvement over February. The official government produced PMI is derived from a lot of large corporations, many of which are government owned, so its validity is always questioned. The HSBC PMI, compiled independently from a survey of smaller private companies, fell to 48.0 and an eight-month low. This is proof the economic slowdown in China is continuing. Any number under 50 represents contraction. The HSBC PMI has been under 50 for the last three months. Premier Li Keqiang said last week that the necessary policies were in place and the government would push ahead with infrastructure improvement. That translates into "stimulus ahead."

The surge in auto sales did not help the price of oil, which fell -$1.90 today on cooling tensions in the Ukraine and a negative article in Barron's. The article titled "Here Comes $75 Oil" said oil prices will decline over the next five years with $90 as the ceiling. The article referenced the bogus claim that the U.S. would become a net exporter over the next five years. That is not going to happen. We currently import more than seven million barrels per day and production growth is only expected to rise +1.5 mbpd over the next two years because of the rapid depletion of shale oil wells. We simply can't drill wells fast enough to outrun the faster depletion rate of shale wells. I cover this all the time in the OilSlick.com newsletter.

Lastly, OPEC will not let prices decline that low because they need $95 oil to fund their budgets and keep their citizens swimming in stimulus programs and not rioting in the streets. The actual facts of the issue did not keep traders from selling oil and driving the price lower.

Microsoft (MSFT) shares posted a fractional gain of +43 cents after a strong move the prior two days. The announcements last week of Office for the iPad provided those gains. However, Microsoft has another boost coming when support for Windows XP expires on April 8th. Currently Windows XP is still being used on 29.5% of PCs. That is the second largest operating system behind Windows 7 with 47.3% of the market. Windows 8 is turning into another Vista debacle with only 10.7% share after 17 months on the market.

Windows XP users were surprised when they logged in to their PC today with a popup window that said support would expire on the 8th. Most Windows XP users are not leading edge adopters and most probably did not even know there was a deadline. In today's virus infected world with new vulnerabilities still being discovered almost daily in XP you don't want to lose support.

This means users are going to have to switch to one of the new operating systems. For most that will mean buying a new PC. The process of updating from one operating system to another is daunting for most users because all the users programs have to be installed again and most don't even know where their prior program documentation is today. Where did I put that Office DVD? That means they will probably have to buy Office again as well.

This should provide a continued revenue boost for Microsoft and Hewlett Packard should see hardware sales rise as well. I personally think Microsoft is overbought at this level and I would wait for a dip to nibble at those shares.

GM shares held up pretty well despite a couple hours of hostile interrogation of the new CEO Mary Barra by a House committee. They want to know who was at fault for not correcting the problems years ago. The faulty ignition switch has caused 13 deaths and dozens of injuries and it would have only cost a few dollars to fix it. More than 2.6 million cars have now been recalled. Complicating the problem the ignition switch was redesigned in 2006 but the supplier (Delphi) used the same part number. Now GM does not know exactly which cars have the defective switch or the redesigned switch. She was also asked if GM would hide behind its 2009 bankruptcy in an effort to avoid liability. She said nobody in senior leadership was aware of the problem at the time of the bankruptcy.

GM announced another recall of 1.5 million vehicles this week to correct a power steering issue. So far in 2014 GM has recalled more than 7 million vehicles. Mary Barra was just appointed CEO several months ago and probably would not have taken the job had she known what was ahead. She was asked if her predecessor, Dan Akerson, was aware of the defect and she said she did not know. I seriously doubt that unless Akerson has gone into hiding and not answering his phone. The first thing I would have done would have been call him and get the history of the problem. GM shares were down only fractionally but as this problem gains traction I suspect they will trend lower. One representative wanted GM to put $1 billion in escrow for claims by injured parties. Because of the length of time this problem existed and the potential for hundreds if not thousands of people to come forward with a claim this could get expensive for GM.

Intuitive Surgical (ISRG) shares added +$55 after the FDA cleared a new surgical robot, the Da Vinci Xi. The new robot includes longer instrument shafts, smaller, thinner surgical arms and a new joint design that improves the range of motion. There are other new features that overcome some of the problems in earlier models. ISRG has had problems with claims that patients were harmed with the older versions. The use of the robots had declined along with the revenue to ISRG, which sells the disposable parts that must be replaced after every procedure. Doctors and hospitals had also cut down on the number of surgeries due to the cost of the procedure and the outstanding problems with the older versions. ISRG hopes the new model has removed the health concerns but they still have to fight the costs. The robots do make it easier for doctors to operate in confined spaces and the patients have less trauma to overcome after surgery.

The casino stocks (LVS, MGM and WYNN) rallied on news that gambling revenues in Macau rose +13.1% to $4.44 billion in March. That was good for casinos but it was dramatically lower than the +40.3% rise in February. That spike was fueled by the weeklong Lunar New Year holiday and massive vacationing during that holiday. January saw an increase of +7%.

For April Deutsche Bank is projecting a +16% rise in revenue. A Wells Fargo analyst said the rest of 2014 could be challenging because of decelerating credit in China and a softer macro environment. WYNN is getting a lot of recommendations because of a new casino they are opening that will be pointed at the "masses" rather than the high rollers. Analysts expect it to be deluged by players once it opens.

Remember last week when the S&P was testing critical support at 1,840? The bears were coming out of the woodwork and you would have thought Putin was talking about annexing Manhattan. Now, three days later, the S&P closed at a new record high at 1,885.52. If you bought the dip you are a happy camper. What changed?

This was strictly a timing problem. The last couple weeks were the end of the quarter and time for investors to cash in stocks to pay the taxman. The momentum stocks were sold and large gains from 2013 captured. Tick, tock, the quarter ended and now we are off to the races for a new earnings cycle. I am not going to repeat my earlier comments on earnings but it appears investors are setting up for a breakout rally.

With the S&P closing at a new high we should see some additional short covering on any future gains. I am sure there are a lot of bears expecting this high to fail like it did in early March. If it does add a few more points those bears should be running for cover.

The S&P consolidated for the entire month of March so there is a very nice base from which to move higher. The next obvious target is 1,900 followed by 1,925 and then it gets really tough. There was no late day fade today so hopefully that trend has expired.

Initial support appears to be 1,870 followed by 1,850. However, if we visit those levels again they may not hold because it means the rally failed.

The Dow closed at 16,532 and about 44 points from a new high. It is also uptrend resistance. However, I do expect a breakout because of the pattern of higher lows over the last two weeks. The Dow did breakout of its consolidation range and only has a little farther to go to the new high levels. Initial support is well below at 16,200 and resistance would be the old high at 16,576.

The Dow Transports also broke out to a new high and that suggests the Dow Industrials will also make a new high this week.

The Nasdaq posted a decent gain of +1.64% or +69 points but it is still well below new high levels. The Nasdaq decline over the last three weeks was dramatic and it will take some heavy lifting by the big caps to put it back into contention as a market leader. There were some big gainers today with PCLN, ISRG, GOOG and NFLX leading the charge. If they duplicated those numbers every day for the rest of the week we could see the Nasdaq back over 4,360. The rally was broad based with stocks from multiple sectors in the big gainer list.

The Nasdaq has downtrend resistance at 4,290 then horizontal resistance comes back to haunt us at 4,327-4,337. The March high at 4,371 is the goal and once we make it that far the earnings will be the factor that drives us higher or lower.

The Russell 2000 chart is similar to the Nasdaq with a textbook rebound off uptrend support but plenty of overhead congestion. Getting to a new high could be a challenge. The Russell gained +1.33% compared to +1.64% for the Nasdaq. There was also a sharp intraday decline but buying returned by the close. This suggests fund managers are not entirely confident about small cap performance in the weeks ahead. If the Russell continues to lag it would mean fund managers are putting their excess cash in the big caps where they can extract it quickly once the "sell in May" cycle begins. Caution is advised.

I believe the rest of the week will be positive assuming there are no monster surprises in the ADP report on Wednesday. This is the last week before earnings begin and traders will be positioning themselves in their favorite stocks before they confess. Earnings don't matter because of the polar vortex but guidance is critically important. Without strong guidance we don't have a chance of combating the normal summer decline. This is a midterm election year and summer declines are even more likely in midterm years. I would position myself to take advantage of any April gains and then tighten the stops as we near May.

Enter passively, exit aggressively!

Jim Brown

Send Jim an email


New Plays

New Multi-Year Highs

by James Brown

Click here to email James Brown


Applied Materials - AMAT - close: 20.62 change: +0.20

Stop Loss: 19.75
Target(s): to be determined
Current Gain/Loss: unopened

Entry on April -- at $--.--
Listed on April 01, 2014
Time Frame: exit PRIOR to earnings on May 15th
Average Daily Volume = 14.8 million
New Positions: Yes, see below

Company Description

Why We Like It:
AMAT is in the technology sector. The company makes equipment and software for the semiconductor, flat-panel display, and solar photovoltaic (PV) industries.

The stock has been showing relative strength outperforming the market both last year and this year. Traders bought the dip at its 10-dma and now AMAT is poised to hit new multi-year highs.

The March 21st intraday high was $20.81. I am suggesting a trigger to open bullish positions at $20.85. Plan on exiting positions prior to earnings on May 15th.

Trigger @ $20.85

Suggested Position: buy AMAT stock @ (trigger)

Annotated chart:

In Play Updates and Reviews

The Bounce Continues

by James Brown

Click here to email James Brown

Editor's Note:
The bounce in the U.S. market continues with stocks up three days in a row.

THRX hit our stop loss. We're updating the entry point strategy on POT.

Current Portfolio:

BULLISH Play Updates

Delta Air Lines - DAL - close: 35.75 change: +1.10

Stop Loss: 32.80
Target(s): to be determined
Current Gain/Loss: + 3.3%

Entry on March 28 at $34.60
Listed on March 27, 2014
Time Frame: exit PRIOR to earnings on April 23rd
Average Daily Volume = 11.6 million
New Positions: Yes, see below

04/01/14: DAL continues to show relative strength with a +3.1% gain. The stock is nearing resistance at $35.00 and its March highs.

We will plan to exit prior to DAL's earnings report on April 23rd.

current Position: long DAL stock @ $34.60

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

Long May $35 call (DAL1417E35) entry $1.55*

03/28/14 triggered @ 34.60

Genworth Financial - GNW - close: 17.89 change: +0.16

Stop Loss: 16.90
Target(s): 20.00
Current Gain/Loss: + 0.4%

Entry on April 01 at $17.81
Listed on March 31, 2014
Time Frame: 4 to 5 weeks
Average Daily Volume = 7.4 million
New Positions: see below

04/01/14: Our trade opened this morning at $17.81. Unfortunately, the rally in GNW stalled a bit with shares hugging the $17.85 level half of the session. Look for short-term support at $17.50 and $17.00.

Our short-term target is $20.00. More aggressive investors may want to aim higher. The Point & Figure chart for GNW is bullish with a $23.25 target.

current Position: long GNW stock @ $17.81

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

Long MAY $18 call (GNW1417E18) entry $0.70*

04/01/14 trade opens at $17.81
*option entry price is an estimate since the option did not trade at the time our play was opened.

Potash Corp. of Saskatchewan - POT - close: 35.32 change: -0.90

Stop Loss: 34.65
Target(s): to be determined
Current Gain/Loss: unopened

Entry on April -- at $--.--
Listed on March 31, 2014
Time Frame: exit PRIOR to earnings on April 24th
Average Daily Volume = 5.0 million
New Positions: Yes, see below

04/01/14: POT was downgraded this morning. That sparked a pullback toward round-number support at $35.00 and technical support at its 10-dma. We want to take advantage of this pullback and open bullish positions tomorrow morning. We will move the stop loss to $34.65. More conservative traders may want to wait for a rise past $35.50 before initiating positions.

We want to keep our position size small to limit our risk. We're not setting a bullish target yet but plan on exiting prior to POT's earnings report on April 24th.

FYI: The Point & Figure chart for POT is bullish with a $46.00 target.

*small positions*

Suggested Position: buy POT stock @ (at the opening bell)

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

Buy the May $36 call (POT1417E36) current ask $0.71

04/01/14 strategy change: open bullish positions tomorrow morning with a new stop loss at $34.65. More conservative traders may want to wait for a rise past $35.50 before initiating positions.

Quanta Services, Inc. - PWR - close: 37.04 change: +0.14

Stop Loss: 35.75
Target(s): 39.85
Current Gain/Loss: + 2.7%

Entry on March 06 at $36.05
Listed on March 04, 2014
Time Frame: 6 to 8 weeks
Average Daily Volume = 2.0 million
New Positions: see below

04/01/14: Traders were in a buy the dip mood with PWR today but the stock remains under short-term resistance near $37.25. I am not suggesting new positions at this time.

current Position: Long PWR stock @ $36.05

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

Long Apr $35 call (PWR1419D35) entry $1.70*

03/27/14 new stop loss @ 35.75
03/22/14 new stop loss @ 35.45
03/13/14 new stop loss @ 34.85
03/06/14 triggered @ 36.05
*option entry price is an estimate since the option did not trade at the time our play was opened.

Tyson Foods, Inc. - TSN - close: 43.45 change: -0.56

Stop Loss: 42.25
Target(s): 46.50
Current Gain/Loss: + 8.2%

Entry on March 05 at $40.15
Listed on March 01, 2014
Time Frame: 6 to 8 weeks
Average Daily Volume = 4.3 million
New Positions: see below

04/01/14: TSN hit some profit taking today with a -1.27% pullback. The $43.00 level could be short-term support. More conservative traders may want to take some money off the table. I am not suggesting new positions at this time.

*small positions*

current Position: Long TSN stock @ $40.15

03/29/14 new stop @ 42.25
03/27/14 new stop @ 41.35
03/22/14 new stop @ 40.65
03/18/14 new stop @ 39.90, adjust exit target from $44.50 to $46.50
03/15/14 new stop @ 39.45
03/12/14 new stop @ 38.95
03/05/14 triggered @ 40.15

Wells Fargo & Co. - WFC - close: 49.77 change: +0.03

Stop Loss: 48.75
Target(s): to be determined
Current Gain/Loss: unopened

Entry on March -- at $--.--
Listed on March 29, 2014
Time Frame: 6 to 8 weeks
Average Daily Volume = 17.6 million
New Positions: Yes, see below

04/01/14: WFC is still moving sideways below resistance at the $50.00 level. Fortunately shares seem to be building up steam for a breakout higher.

We are suggesting a trigger to open bullish positions at $50.15. I am not setting an exit target.

Trigger @ 50.15

Suggested Position: buy WFC stock @ (trigger)

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

Buy the May $50 call (WFC1417E50)

BEARISH Play Updates

OSI Systems, Inc. - OSIS - close: 61.01 change: +1.15

Stop Loss: 62.05
Target(s): to be determined
Current Gain/Loss: -2.1%

Entry on March 27 at $59.75
Listed on March 26, 2014
Time Frame: exit PRIOR to earnings in late April
Average Daily Volume = 155 thousand
New Positions: see below

04/01/14: Warning! Today's move in OSIS could spell trouble for the bears. The stock spiked up toward the $62 level this morning before fading lower. Shares also managed to close above technical resistance at the 50-dma. More conservative traders may want to exit immediately. I am not suggesting new positions.

current Position: short OSIS stock @ $59.75

04/01/14 the action today looks like trouble. Readers may want to exit early
03/27/14 triggered @ 59.75

Textura Corp. - TXTR - close: 25.20 change: -0.01

Stop Loss: 26.35
Target(s): 20.25
Current Gain/Loss: unopened

Entry on March -- at $--.--
Listed on March 29, 2014
Time Frame: 4 to 8 weeks
Average Daily Volume = 386 thousand
New Positions: Yes, see below

04/01/14: TXTR tagged new four-week lows before bouncing back toward unchanged. I don't see any changes from my prior (new play) comments.

The February 2014 intraday low was $24.70. We are suggesting small bearish positions if TXTR can trade at $24.60. If triggered our target is $20.25.

NOTE: Traders may want to use put options to limit their risk instead of shorting the stock.

Trigger @ 24.60 *small positions*

Suggested Position: short TXTR stock @ (trigger)

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

buy the JUN $22.50 PUT (TXTR1421R22.5)


Theravance Inc. - THRX - close: 31.33 change: +0.39

Stop Loss: 32.85
Target(s): to be determined
Current Gain/Loss: + 0.0%

Entry on March 21 at $32.85
Listed on March 17, 2014
Time Frame: 6 to 8 weeks
Average Daily Volume = 761 thousand
New Positions: see below

04/01/14: Biotech stocks saw a big bounce today. THRX was leading the pack this morning with a +6.5% gain. Shares hit our stop loss at $32.85 only to reverse near its 20-dma (near $33.00).

Earlier Comments:
I want to remind investors that biotechs can be volatile stocks to trade. You may want to consider buying the put options as a way to limit your risk.

closed Position: short THRX stock @ $32.85 exit $32.85 (+0.0%)

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

Apr $30 PUT (THRX1419P30) entry $0.90* exit $0.40** (-55.5%)

04/01/14 stopped out
**option exit price is an estimate since the option did not trade at the time our play was closed.
03/27/14 new stop @ 32.85
03/21/14 triggered @ 32.85
*option entry price is an estimate since the option did not trade at the time our play was opened.