Option Investor

Daily Newsletter, Saturday, 1/30/2016

Table of Contents

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

Market Wrap

Fed Off the Table

by Jim Brown

Click here to email Jim Brown

Declining economics and a move to negative interest rates by the Bank of Japan has removed the potential for a rate hike until February 2017 according to the CME futures.

Market Statistics

Friday Statistics

The Bank of Japan introduced a negative interest rate policy targeting banks that park money at the BOJ. The bank will charge commercial banks a 0.1% fee on current deposits. This will encourage the banks to make more loans and put their cash to work. The Japanese economy is expected to grow a miniscule 1.1% in 2015 and 1.7% in 2016. This is just the first shot and the rate was kept low to begin the process but the BOJ said they would increase the rate until and as long as needed until the inflation rate reaches 2.0%.

This is a new process for Japan but not new in the world of central banks. The ECB rate is now -0.3%, Sweden -0.35%, Denmark -0.65% and Switzerland -0.75%. The Japanese market spiked +2.8% and China's Shanghai Composite rallied +3.1%.

In the U.S. the first GDP reading for Q4 fell to +0.7%, down from +2.0% in Q3. We knew this was coming because the Atlanta Fed GDPNow had been declining for the last month. Inventories reduced the GDP by -0.45%, exports -0.47% and fixed nonresidential investment by -0.24%. Consumer spending added +1.46% and residential investment +0.27%.

The headline number was still below most forecasts with the consensus estimates falling to -0.8% growth but the average of the blue chip forecasters tracked by the Atlanta Fed was still +1.8%, down from +2.7% forecasted in September.

The outlook is going to get worse before it gets better. Q1 has been weak for the last couple years and this year could be worse. Q1-2015 initially came in negative at -.75% but was revised up to +0.6%. Q1-2014 ended at -2.11%. However, the BEA changed their formula in the middle of 2015 to "compensate" for the trend in Q1 weakness. This is why you can never compare current data with old data in any economic report. The government continually adjusts they way they account for it to make it look better.

It is widely believed that Mario Draghi and the ECB are going to increase stimulus again in March. When combined with the move by the BOJ and the declining economics in the U.S. the potential for more Fed rate hikes has dwindled to nearly zero. According to the CME's FedWatchTool using the Fed funds futures, the chance for a rate hike in March are less than 16%. April has fallen to 21%, June 33%, July 35%, September 43% and November 46%. December is the only month in 2016 that currently has better than a 50% chance of a rate hike, currently 53%. February 2017 jumps up to 56% and not very convincing.

The Fed will try to talk those chances higher in order to maintain control over treasury prices but a continued drop in U.S. economics and another move by the ECB will make it tough.

Yields on the ten-year Treasury closed at a nine-month low of 1.93% on Friday. The Dollar Index jumped more than 1% on the Japanese news despite the drop in our GDP. The dollar index is nearing the critical 100 level. It has not been above that level since April 2003. This means more pain for U.S. manufacturers and international retailers.

Consumer Sentiment for January declined from 93.3 to 92.0 for January. The present conditions component declined from 108.1 to 106.4 and the expectations component was flat at 82.7. The expectations component has been roughly flat for the last four months at that 82.7 level. Analysts blamed the three-week decline in the equity markets for the decline in sentiment. Even falling gasoline prices could not provide a gain.

There are a lot of reports on the calendar for next week but only three really matter. The national ISM Manufacturing Index on Monday will update on the health of the sector. Manufacturing has been in a recession for two months and that is expected to continue.

The ADP Employment on Wednesday is expected to show 220,000 job gains and that would be a Goldilocks number. The Nonfarm Payrolls on Friday are also expected to show more than 210,000 new jobs and that is right at the threshold that the Fed needs to see to remain positive on future rate hikes.

However, the weekly jobless claims are at six-month highs and while this is a seasonal event that does suggest employment could be weaker than expected.

The only splits announced last week were reverse splits in order for companies to maintain their listings.

For the full split calendar click here.

The markets overcame some serious headwinds to post major gains on Friday. The biggest headwind on the Nasdaq was Amazon (AMZN). Shares had been down as much as -$95 on Thursday evening after they reported a major earnings miss.

Amazon reported earnings of $1.00 compared to estimates for $1.56. Revenue rose +22% to $35.75 billion. That was slightly below the $35.93 billion analysts expected. Amazon has now posted a profit for three consecutive quarters.

Amazon Web Services saw revenue rise +69% to $2.41 billion and above estimates for $2.38 billion. Profits rose +187% to $687 million in that division and operating margins rose to 28.5%.

North American retail revenue rose +24% to $21.5 billion and international revenue rose +12% to $11.84 billion. The strong dollar knocked $1.2 billion off international revenue. Overall operating income rose 88% to $1.1 billion.

Full year net revenue rose +20% to $107 billion. Prime memberships rose 51% but the company still will not say how many Prime members there are. Amazon guided to a range of $26.5 to $29 billion for revenue in Q1 compared to analyst estimates for $27.8 billion. The company gave a wide range for profits from $100 to $700 million, compared to analyst estimates for $665 million.

Analysts said the monster afterhours drop to long-term support was a buying opportunity and shares rallied off the $540 lows to close at $587.

Facebook (FB) shares continued their post earnings sprint with an additional gain of +$3. Analysts cannot say enough good things about Facebook's earnings. The company reported earnings of 79 cents that beat estimates by 11 cents. Revenue spiked 54% to $5.84 billion compared to estimates for $5.37 billion. Some analysts believe the Oculus Rift virtual reality headset will be the most popular retail product hitting shelves in 2017 and could easily outsell PlayStation. Everything Facebook is doing is working and they have a lot more inventory of potential advertising on Facebook owned sites including Instagram and WhatsApp.

Chevron (CVX) reported a loss of 31 cents on Friday that was well below consensus estimates for a profit of 47 cents. The low oil prices were the biggest blow to earnings. The company said it was cutting capex spending by 24% in 2016 to about $25 billion. If prices do not recover, they will cut it even more to the $20 billion range in 2017.

That was the first quarterly loss since 2002. To put things in perspective that -31 cents equates to about a $588 million loss on $28 billion in revenue despite a 50% decline in oil prices. For the full year, Chevron earned $4.6 billion so the minor loss is a drop in a very big bucket. That was down from $19.2 billion in 2014 and Chevron had $11.3 billion in cash at year-end. Chevron is handling the downturn very well. The CEO has said multiple times that maintaining the dividend, currently over 5%, as Chevron's top priority. Everyone knows that oil prices will go back up and Chevron is just passing time until they do.

Chevron added 1.2 billion barrels of proved reserves in 2015. Production rose to 2.67 million barrels of oil equivalent per day in December. Chevron has multiple major projects that will come online over the next two years that will increase production significantly. Chevron is a leader in the energy sector and with their commitment to maintain the dividend while they increase production. Even if crude goes lower in the short term as expected, I doubt Chevron will retest its lows.

MasterCard (MA) reported earnings of 79 cents compared to estimates for 69 cents. Revenue rose +4.4% to $2.5 billion but missing estimates for $2.6 billion. Gross dollar volume of transactions rose +12% to $1.2 trillion and a 12% increase in the number of transactions processed to 12.3 billion. The number of MasterCards in circulation rose +100 million to 2.3 billion.

The earnings beat and rise in revenue is not following the economic forecasts for a global slowdown and the weak retail sales for Q4. With transactions and dollar volume both up +12% it would seem like the consumer is alive and well. However, some analysts were expecting revenue growth of +6% and were disappointed by the results. On a constant currency basis, revenue growth would have been 5% higher and earnings 8% higher. Shares rose +7% on the news.

American Airlines (AAL) reported adjusted earnings of $2.00 compared to estimates for $1.97. The airline benefitted from a 40% decline in fuel prices over the year ago quarter. American earned $1.3 billion for the quarter and $6.3 billion for the year. That represents a lot of bag fees. The company bought back $1.1 billion in shares in Q4 and about 10% of its stock in the last two quarters.

Rising competition from low cost rivals and the rapidly spreading Zika virus put a cloud over future expectations. Weak demand from Latin America saw revenue from the area decline -17% and that was before the Zika virus scare. Overall passenger unit revenue declined -6% in Q4. American will take delivery of more than 100 new planes in 2016.

Honeywell (HON) reported earnings of $1.58 on revenue of $9.98 billion. Both matched analyst estimates. That was 24.9% growth in earnings for the quarter. They made $6 billion in acquisitions in 2015 that will bolster their positions in various sectors in 2016. They increased the dividend by 15% and returned $3.5 billion to shareholders. Costs declined -8.6%. Honeywell is one of those companies that most investors overlook. They are not a sexy tech stock and they are rarely in the headlines but they continue to deliver. They just need to figure out how to make their stock price rise again after consolidating for a year.

Xerox (XRX) reversed course from last year and said they were going to split into two companies. The CEO said they were going to split the business process business out from the document technology business. Basically, hardware will go into one company and the service businesses in the other with each as a public company. Activists had pressured them for the last couple years and about a year ago the company made a strong case for why they should stay together. Activists finally got their point across and the split is now on the table.

The company reported earnings of 32 cents compared to estimates for 29 cents. Revenue of $4.653 billion missed estimates for $4.729 billion. That was also down from the $5.033 billion in the year-ago quarter. The company guided conservatively for 2016. Shares rose +6% on the split news.

Colgate (CL) posted better than expected earnings but revenue declined for the 11th consecutive quarter. Earnings of 73 cents beat by a penny but revenue declined -7.5% to $3.899 billion and under estimates for $3.95 billion. The problem was the dollar, which reduced revenue by a whopping -11.5%. North American sales rose +1% but elsewhere it was dismal. Latin American sales fell -12%, Europe/South Pacific fell -14.5%, Asia declined -5% and Africa/Eurasia fell -16.5%. Much of those declines were related to the currency problem. Shares rallied +4% on strength in North America.

As of Friday 40% of the S&P-500 companies have reported. Of those 72% have beaten on earnings and 50% have beaten on revenue. Those beats come on a set of significantly lowered expectations. The average earnings beat has been 1.7% compared to the five-year average of 4.7%. To date the earnings have declined -5.8% and is on track for the third consecutive quarter of earnings declines. The last time that happened was in 2009. Revenue has declined -3.5%.

Thirty-three companies have issued negative guidance and only six have issued positive guidance. Next week 118 S&P companies will report earnings.

The last of the FANG stocks reports earnings on Monday. Google (Alphabet) is expected to report $8.10 per share. UPS reports on Tuesday with the results of their holiday shipping season. GoPro reports on Wednesday and it could be ugly. Linkedin is the highlight on Thursday and Berkshire Hathaway on Friday.

The energy sector was up a lot last week and it was all due to headlines by people that have a lot to gain by oil prices rising. The rumor began the prior week that Russia and Saudi Arabia were discussing a deal where OPEC and Russia would cut production by 5%. Comments from multiple officials in Russia, OPEC and Saudi Arabia made headlines all week but everyone in Saudi Arabia and officials in OPEC said there was no truth to the rumor. As the week progressed, various officials in Russia made offhand comments about "meeting with oil officials to discuss a production cut" and Saudi officials said they were always willing to discuss global production cuts to rebalance the market. However, once every comment was traced back to its source it turned out to be far less than what the press was claiming.

After Saudi Arabia denied making the 5% proposal for about the 5th time, they said this was an old proposal made by Venezuela months ago.

The key here is that Russia produces about 10.6 million barrels per day and Saudi Arabia about 10.2 mbpd. Russia exports about 8 mbpd of crude and refined products and Saudi Arabia exports about 8 mbpd of crude. At $100 oil, they were both bringing in about $1 billion a day in revenue. At $30 oil, they are losing more than $600 million a day.

Russian officials figured out that by floating these headlines in the press they could spike oil prices significantly. A $5 increase per barrel at 8 million barrels per day is a lot of money.

It started with Russian energy minister Alexander Novak. He is the one that first commented on the months old proposal from Venezuela as through it was new and from Saudi Arabia. A day later Russian Deputy Prime Minister Arkady Dvorkovich said Russia would not intervene to balance the market. "We take the position that our oil sector is, to a significant extent, private, and is commercially minded. It is not under the direct control of the state. Our market is governed by the decisions of individual companies, and that is how it will continue," Dvorkovich said. His comments over shadowed Novak's.

Just a few hours later Russia's foreign ministry said veteran minister Sergei Lavrov, who almost never comments on oil policies, would visit the UAE and Oman to discuss the oil market. Even Putin got into the act when he was quoted as saying he was open to discussions. That is about as vague as you can get.

This weekend a headline is claiming the Venezuelan oil minister is headed to Russia to talk about production cuts. Whether he actually goes or not is immaterial. It is the headline that will probably spike prices on Monday.

As long as the Russians are going to continue spamming the headlines with random comments the price of oil may remain firm. However, on Friday Iran jumped into the act and said they would not cut production. Iraq bragged they were producing a record amount at 4.1 mbpd and expected to increase that in the months ahead. That kills the idea of a deal with OPEC for an across the board cut.

Most analysts claim there are only two chances for a Russia/OPEC deal. Those are slim and none.

Prices dipped intraday on Friday to $32.65 but shorts covered at the close and prices rebounded to $33.67.

In theory, we should see these rumors fade away and the buildup in inventory levels weigh on prices. Inventories rose by 8 million barrels last week to a record high at 494.9 million barrels. Record inventory levels and rising prices do not match. We should see another build this week and for the next eight weeks.

Baker Hughes said active rigs declined by -18 last week to 619. Oil rigs fell -12 to 498 and gas rigs declined -6 to 121. Both of those are 18-year lows. However, U.S. production declined only 14,000 bpd to 9.221 mbpd. Eventually production is going to decline significantly and that will be the start of the end game for this oil cycle.


The Dow rallied nearly 400 points on Friday in what would appear on the surface as a major market event. Volume was strong at 10 billion shares. Advancing volume was 9:1 over declining and advancers were 6:1 over decliners. However, there was some index shuffling at the close and some reallocation by funds. The ratios between equities and treasuries became skewed over the last several months and the end of January is when those ratios are rebalanced. With treasuries at nine-month highs and equities at two-year lows, there was a lot to rebalance. The move by Japan overnight triggered another short squeeze with futures up +20 before the open and it was a perfect storm for equities. Longer-term shorts were suddenly caught off balance when the S&P moved over 1,915 at the open.

Another factor juicing the market on Friday was the completion of the Precision cast Parts (PCP) acquisition by Berkshire Hathaway. This was an all cash acquisition for $37.2 billion. This had been widely anticipated to complete on Friday and that was a major injection of cash into the market. Anyone holding those shares had a week to decide what they were going to buy to put that money back to work. The notices went out on Monday and investors spent the money on Friday. Art Cashin reported there was $4 billion in market on close orders to buy on the NYSE at the close.

As if that was not enough surplus cash flowing through the market the $36 billion acquisition of Broadcom (BRCM) by Avago (AVGO) was also completed at the close on Friday. The new shares of the merged company, Broadcom Limited, will begin trading on Monday. Approximately 315 million shares elected to receive cash at $54.50 per share ($17.167 billion). That means there was an additional $17 billion in cash looking for a new home Friday and Monday.

Nothing really changed in the fundamentals. The market had been basing for the last two weeks at the 1,900 level on the S&P with alternating days of triple digit gains and losses on the Dow. However, we did have a decent run of high profile companies beating on earnings. Amazon was the exception. I am sure some investors decided to throw in the towel on the sell side and not risk the Asian markets exploding higher on Sunday night. Their decision was aided by the surge in buying from the PCP/BRCM cash.

The Chinese markets could be volatile next week because they are closed the following week for the Lunar New Year. They will be closed from the 8th through the 12th. That means traders will be squaring positions ahead of the closures. Given the recent volatility, it will be interesting to see how their markets react. It was not a good week for the Chinese markets with a decline of -5.14% on the Shanghai Composite. Would you leave your long positions intact ahead of a week long holiday after weeks of market declines?

Oil prices were up for the week but depending on the headline spam, they are not expected to be up next week. The correlation between oil and the S&P is currently the highest in 26 years. That suggests a return to falling oil prices next week could derail any continued market rally.

The S&P surged +47 points on Friday and closed +126 points off last week's lows at 1,812. Friday's close at 1,938 is just below decent resistance at 1,950 and a potential trouble spot for next week. I am sure there is still some PCP/BRCM cash that remains unspent and that could give the market a pop on Monday. That 1,950 level will be the key number to watch.

The Dow gained +372 points for the week after a +397 gain on Friday. That alone should give you an idea of how volatile the week had been. Only three Dow components report earnings next week so the impact to the Dow should be minimal. Exxon and Pfizer report on Tuesday and Merck on Wednesday.

The upside level to watch on the Dow is 16,590, call it 16,600 as the closest round number. Near term support is 15,885 followed by 15,450 from the prior Wednesday's low.

All 30 Dow stocks were positive on Friday with a lot of strong gainers. A lot of the big gainers were stocks that were near their lows on Thursday. This was short covering hell for many traders.

The Nasdaq added a very minor +23 points for the week. The reason was the implosion in the biotech sector. The Biotech Index ($BTK) declined a whopping -9.5% or -306 points for the week. The sector is in retreat and there does not seem to be any relief in sight. Support at 3,000 failed and now we are testing 2,880. If that fails, we could be looking at 2,700 very quickly. Helping to push biotech stocks lower was comments from Trump about high drug prices. He joined Hillary and Sanders in complaining about excess profits.

Google is the big Nasdaq reporter on Monday and expectations are high. If they miss, I would not expect as big a decline as we saw in Amazon but it could be painful. The last two earnings reports saw significant upside spikes and that is where the expectation was created for this report. Google is going to breakout all their businesses in this report so we will be able to see who is a drag and who is contributing to their success.

The Nasdaq eased over resistance at 4,605 on Friday with the next material level at 4,715. If the biotechs are still weak and the PCP/BRCM buyout cash dries up we could see that 4,600 level come back into play.

The Russell 2000 gapped open to 1,020 and moved sideways until after lunch they surged another 14 points at the close to 1,034. This was a major move and clearly short covering at the open and then a short squeeze at the close as the buyout cash was put back to work.

The next material resistance would be in the 1,050 range followed by 1,082. We cannot make any determination on market direction from the Russell since they were threatening to break support on Thursday at 1,001 and then suddenly spiked 32 points on short covering. This was not investors suddenly deciding to buy small caps. This was heavily shorted small caps in a short covering frenzy.

I wish I could tell you the Friday rally was the start of a new bull market but we cannot make that determination from a cash infused short squeeze. One day does not make a trend. We did see a week of uncertainty and consolidation at the bottom and that is how lasting bottoms are formed. It is just too early to tell if this one is going to stick.

If oil prices roll over next week and head back to $30 the equity market is going to follow oil lower. We need several days of gains that are not stimulated by some news headline. We just want to see investors buying stock because they want to own it at this level. We need to see the sellers either run out of stock or decide it is no longer safe to be short.

Friday's +397 point spike and the likely gain at the open on Monday should put some fear into sellers and maybe we will see some balance return to the market. A lot of analysts are calling for a retest of the lows in February once the earnings cycle is over. I really hope they are wrong but we need to be prepared just in case. Trade what the market give us rather than what we want to see.

If you like the market commentary you have been receiving and you are on a free trial then now is the time to subscribe. Do not wait until you miss a newsletter to decide you want to take the plunge.

subscribe now

Random Thoughts

With Donald Trump out of the Apprentice TV shows they needed some new blood or in this case some old blood. Warren Buffett has agreed to be an advisor on the next Celebrity Apprentice. Along with Warren will be Steve Ballmer, former CEO of Microsoft, Tyra Banks, Jessica Alba and Patrick Schwarzenegger, nephew of Arnold Schwarzenegger. Arnold will take over as the new head of the boardroom. That gives "your fired" an entirely new meaning.

For the week ended on Wednesday, which was a -227 point day for the Dow, the AAII investor sentiment poll showed a big jump of +8.2% in the bullish category and -8.7% decline in bearish sentiment. Apparently, the bulls were right.

Sweden said it was sending home 80,000 refugee immigrants after law and order collapsed and violence and crime escalated. German Chancellor Angela Merkel said on Saturday that the 1.1 million immigrants in Germany would need to go home once the war is over. Violence in Germany has reached multi-decade highs. The right wing Alternative for Germany party said new immigrants trying to cross the border into Germany should be shot by border police. Europe expects more than 1 million additional immigrants in the spring.

Remember Greece? The international lenders will meet in Greece this week to review the progress Greece has made in implementing the required reforms agreed to in the last bailout program last year. Needless to say the group is not expecting wide ranging progress.

Facebook has now banned gun sales on the social network. That shows you how uninformed I am. I did not know there was a thriving person-to-person private gun sale network on Facebook. The company said licensed retailers will still be able to promote their websites but no sales can be made online. Online sales by dealers are already illegal so nothing changed there.

At the end of September Sanmaay Ved saw Google.com on the list of domains available for sale at his registrar. He thought there was some mistake but he bought the name anyway for $12 and charged it on his Discover card. When Google discovered their error in not renewing the domain name they tried to cancel the transaction. He was never able to actually change the landing page on the domain because Google realized their mistake almost immediately when the transaction went through. Initially Google offered him $6006.13, which they claimed was the numerical version of the word google. He declined and said he was going to donate the domain to charity. Google immediately doubled their offer to $12,000. Ved directed that the money be donated to the Art of Living India Foundation and gave the domain back to Google. He had previously been a Google employee for 5 years. Ved is now a MBA student at Boston College. I would say he let them off cheap.

Tesla Ceo Elon Musk picked up a few more shares of Tesla last week for the bargain price of $6.63 each. He exercised an option that allowed him to buy 532,000 shares of Tesla at the December 4th, 2009 price when he was given the option. Unfortunately, he had to pay $50 million in taxes on that exercise plus the $3.5 million as the exercise price. The shares are worth $101 million today. That big tax bill is part of living in California. He paid that tax bill out of his personal funds and did not sell any Tesla shares to raise the $50 million. Musk now owns slightly more than 28.9 million shares in Tesla worth more than $5.5 billion at Friday's close.

Forbes published a list of interesting factoids about the Super Bowl next weekend.

Did you know:

Over ONE BILLION chicken wings will be consumed.

Ten million pounds of ribs will be eaten. The 4th biggest day of the year.

12.5 million pounds of bacon will be put on the table.

11.2 million pounds of potato chips.

8.2 million pounds of tortilla chips.

3.8 million pounds of popcorn. That is a lot of popcorn!

3 million pounds of nuts.

The Super Bowl is the 5th busiest day of the year for pizza delivery.

The average viewer will consume 2,400 calories in the four-hour event.


Enter passively and exit aggressively!

Jim Brown

Send Jim an email


"The one fact pertaining to all conditions is that they will change."

Charles Dow, 1900


New Plays

Buying the Dip

by Jim Brown

Click here to email Jim Brown
Editor's Note

When quality stocks reach bargain levels and multiple analysts change their ratings from sell to buy, we should listen.

The big banks have been beaten down severely over the last several years and fined tens of billions of dollars for alleged activities in the financial crisis. Regulators and legislators have written thousands of pages of new rules and prohibitions but those banks just keep making money. Should we really be ignoring a bank that made $15 billion in profit in 2015 despite all those new rules?


BAC - Bank of America - Company Profile

Bank of America has been ignored since late December and their earnings report in early January did not generate a lot of excitement. The bank said it earned 28 cents that beat estimates for 27 cents. That equates to a profit of $3.3 billion. They ended the full year with a $15.9 billion profit. From where I am sitting that is outstanding since it was up from only $3.38 billion in 2014.

The bank did not get a bounce from earnings because the CFO said increasing revenue was difficult in this market because the bank is more heavily exposed to low interest rates because it has a large retail banking business and very little profit centers like stock and bond trading that support Goldman and JP Morgan. The earned their profits the old fashioned way one retail customer at a time and by slashing costs wherever possible. They eliminated 10,000 of its 223,715 employees and closed 129 branches. That leaves them with 4,726 locations.

BAC has $21.3 billion in energy loans and had $75 million in energy charge-offs in the quarter. The bank had $19.53 billion in revenue for the quarter and ended the year with $1.2 trillion in deposits. Once interest rates begin to rise the profits are going to explode higher.

BAC returned $4.5 billion to shareholders in 2015, $1.3 billion in Q4, through stock buybacks and dividends.

The last nine analyst ratings changes have been upgrades. On Friday Credit Agricole upgraded them from sell to buy and skipping the hold level in the middle. Sandler ONeil, Wells fargo, Nomura, Bernstein and Robert W Baird have all upgraded BAC to buy.

Multiple analysts published notes last week recommending Bank of America at the current three-year low. Their legal troubles are about over with the vast majority of the financial crisis problems behind them. They are well away from any level that could be worrisome in the Fed's stress test scenarios. They are making money and staying out of trouble and they are paying nearly a 2% dividend.

For people looking for a stock they can own and sleep at night this is it. The upside from the $14 close on Friday is $18, which has been resistance for two years. That equates to about a 28% gain if we were going to hold it that long.

To summarize, I believe the worst is over for the large banks and Bank America is in the sweet spot for when interest rates do rise.

With a BAC trade at $14.25

Buy BAC shares, stop loss $12.75


Buy May $15 call, currently 54 cents, no stop loss due to cheap option.


No New Bearish Plays

If you like the trade setups you have been receiving and you are on a free trial then now is the time to subscribe. Don't wait until you miss a newsletter to decide you want to take the plunge.

subscribe now

In Play Updates and Reviews

Tough to be Short on Friday

by Jim Brown

Click here to email Jim Brown
Editors Note:

A sellers worst nightmare came true on Friday with a tsunami of cash hit the market causing a system wide short squeeze.

The $54 billion in acquisition cash from the PCP and BRCM acquisitions hit the market on Friday and the shorts were buried in an avalanche of buying. This buying generated a monster short squeeze and it turned into a feeding frenzy at the close with the Dow up +396 points.

There may be some follow through on Monday because I doubt all the fund managers successfully put all the money back to work. However, after any 400 point market gain there is normally a sell the rally event where those squeezed out the day before try to reestablish new short positions in expectations of a return to the prior trend. Monday could be another battle between acquisition cash and dumb money trying to short the market again.

Current Portfolio

Current Position Changes

KRE - Banking ETF

The new short position in the Banking ETF remains unopened.

UFPI - Universal Forest

I raised the stop loss on UFPI.

USO - US Oil Fund

The long position remains unopened due to the spike in WTI.

SWHC - Smith & Wesson

I raised the stop loss on SWHC.

GEF - Grief Inc

We were stopped out on the monster short squeeze. I am recommending we reload.

OIH - Oil Services ETF

We were stopped out of the stock position on the short squeeze in WTI. The put option remains open.

Stop Loss Updates

Check the graphic above for any new stop losses in bright yellow. We need to always be prepared for an unexpected decline.

BULLISH Play Updates

SWHC - Smith & Wesson - Company Description


S&W exploded over resistance thanks to the short squeeze and inflows of cash. I raised the stop loss to $19.85.

Original Trade Description: January 21st.

Smith & Wesson is a gun manufacturer. Business has been very good but they announced this week they are looking for some acquisitions in other outdoor areas so their business is not so tied to the cycles in gun sales. Whenever an administration begins talking about more gun control measures their sales soar. When there are no politicians trying to ban guns we see sales decline.

The current administration has been the best for gun sales since the Clinton assault weapons ban. The FBI said the increase in the number of background checks for gun purchases has been so strong that their system is overloaded and they have had to halt appeals for denials until they can add some more personnel.

December saw a record of 3.3 million background checks, which was more than 500,000 above the prior record for December in 2012. On Black Friday alone there was a record 185,345 checks and a new single day record.

While this surge in gun sales has powered Smith & Wesson to record profits the company realizes that the election of a pro gun administration will slow those sales. For this reason S&W announced this week they were looking into getting into the $60 billion outdoor sporting goods market. They will likely be trying to acquire brands that they can add to their lineup that are not directly related to guns.

S&W said they were on the hunt for candidates but did not have any announcements at the current time.

This is a good move for S&W for obvious reasons. By branching out into other products, it will also help widen the S&W brand even if those new products have their own brand names.

Shares spiked to record highs over $26 when they reported earnings in early January. The post earnings depression appears to be over and shares dropped back to support at the 100-day average. This is a good spot for people to launch new long positions and once the current market weakness is over the small cap stocks like S&W with strong growth will be in demand.

Earnings March 8th.

Position 1/25/16:

Long SWHC shares @ $21.35, see portfolio graphic for stop loss.


Long June $23 call @ $1.75, see portfolio graphic for stop loss.

UFPI - Universal Forest Products - Company Description


Finally a breakout of the flag formation with new resistance now at $70.

Original Trade Description: January 16th

UFPI recently experienced a -20% pullback from its December 2015 highs but shares are still trading at levels not seen for almost ten years. More importantly it appears that the correction is over.

UFPI is in the industrial goods sector. According to the company, "Universal Forest Products, Inc. is a holding company with subsidiaries throughout North America and in Australia that supply wood, wood composite and other products to three robust markets: retail, construction and industrial. The Company is headquartered in Grand Rapids, Mich., and is celebrating its 60th year in business."

The big surge in the stock in mid October was a reaction to the company's Q3 earnings report. It was a record-breaking quarter for UFPI in spite of a -17% drop in the lumber market. Here is an excerpt from the company's earnings press release:

"UFPI announced record-breaking 2015 third-quarter results. The Company posted the best third-quarter earnings in its history with net earnings attributable to controlling interests of $25.6 million, an increase of 32.9 percent over the same period of 2014. It also posted the highest year-to-date net earnings in its history, at $61.7 million. Earnings per diluted share were $1.26 in the third quarter of 2015, up from $0.96 in the third quarter of 2014. Net sales of $762.3 million for the third quarter were up 6.8 percent over the same period of 2014."
The stock has been trading very technically with investors keying in on support and resistance levels. Shares of UFPI did see a rough December after a downgrade on December 8th. However, after a -20% pullback investors started buying UFPI last week. That is noteworthy since the broader market was crashing lower last week. You'll notice on the daily chart that UFPI found support at its simple 200-dma and delivered a pretty good gain for the week.

We think this bounce continues and want to hop on board. There is very short-term resistance at $67.00. Tonight we are listing a trigger to launch bullish positions at $67.15. Investors may want to limit their position size to reduce risk since UFPI has proven itself to be somewhat volatile.

FYI: UFPI does have options but the spreads are too wide to trade them.

Position 1/19/16:

Long UFPI stock @ 67.37, see portfolio graphic for stop loss.

USO - US Oil Fund ETF - ETF Description


The USO long remains unopened because of continued bogus comments from Russian officials spiking WTI. I raised the target entry point to $9.

Now that the Russians have figured out that they can talk the market up with bogus headlines they may try and continue the process.

Original Trade Description: January 27th

The USO ETF attempts to reflect the performance of West Texas Intermediate crude oil. The ETF invests in futures contracts for oil, diesel, heating oil, gasoline, natural gas and other fuels traded on the Nymex in an effort to track WTI and avoid futures roll over bleed.

Typically, a futures oriented ETF buys forward contracts. As those contracts expire, the funds are rolled over into the next series of futures contracts at higher prices. This causes a disconnect between the actual price of the underlying commodity.

The USO attempts to reduce that as much as possible by spreading the terms and types of futures contracts it holds.

If you are still reading this you are probably wondering why I am recommending a somewhat perishable ETF on oil when we all expect oil prices to go lower. Good question!

Yes, oil prices "should" go lower as inventories build over the next two months. However, the entire world of professional investors understands this but prices have spiked twice in the last week on rumors of a Russian - OPEC agreement to cut production. If such an agreement was actually reached, we could see prices back over $50 very quickly.

I am proposing we try to buy the USO on the next dip on the chance that an agreement will eventually be reached. Last week it traded down to $7.92. When oil was $38 in December the USO was $11. If we can buy it in the $8.50 range we could see a 30% gain on any deal announcement and even more once oil prices reacted to the change in production dynamics.

Obviously, we cannot predict that a deal will happen. Saudi Arabia and Russia are enemies. However, they both have the same problem and that is they are hemorrhaging cash. In July 2014 when oil prices were $105, Saudi Arabia was taking in about $1.06 billion a day in revenue. Today at $30, they are receiving $303 million. That is a loss of $757 million a day, every day, and the kingdom is suffering from it. Russia is losing about $650 million a day. They both have millions of reasons to put their differences aside and reach an agreement.

While we cannot guarantee this will happen the headline chatter is growing daily. They may not be ready to call a truce just yet but together they are losing more than $1.4 billion a day. That is a huge incentive to do something. The next regular OPEC production meeting is early June. I am recommending we buy the USO on the next dip and hold it until July. I cannot imagine OPEC continuing the madness past the June meeting and they are likely to hold an emergency meeting earlier if crude drops back into the $20s again.

Typically, prices rise when inventories begin to decline in late April as refiners ramp up production for the summer driving season. Even if Russia and OPEC do not reach an agreement, we should see a rise in prices starting in May or earlier.

I am not going to try to buy the bottom because we may not see it again. I am recommending we buy the USO at $8.50 and hold it with no stop loss because it could go lower. I believe we will be rewarded over the next few months and with the right set of circumstances, we could be very well rewarded.

With a USO trade at $9.00:

Buy USO shares no stop loss.


Buy USO $10.00 calls, currently $1.03. No stop loss.

BEARISH Play Updates

GEF - Greif Inc - Company Profile


GEF exploded higher on short covering to stop us out at $26.25 shortly after we entered the position. Nothing has changed fundamentally. This was simply a monster short squeeze across the entire market. GEF was heavily shorted and those shorts were squeezed.

I am recommending we reload this short with a trade at $24.65. That would be a new low and a breakdown of support from early last week.

Original Trade Description: January 28th

Greif produces and sells industrial packaging products worldwide. With the global economic slowdown and decline in package shipping Greif shares have been sliding.

They reported earnings in December and revenue declined -17% because of lower volumes and the impact of the strong dollar. They also passed along some price decreases because of a decline in the cost of steel and other commodity materials used in their packaging.

They reported earnings of 76 cents compared to estimates for 49 cents but the majority of the gain was due to a reduction in expenses and a lower tax rate rather than an increase in sales. Revenues declined from $1.048 billion to $869 million and missed estimates for $897 million. Profits fell -19.7% year over year. Their cash on hand slipped to $106 million compared to debt of $1.23 billion.

Shares spiked on the earnings beat but then quickly declined from that $35 level to the close today at $25. That is an 11-year low.

With the global economy shrinking and China in decline the outlook for custom industrial packaging products is getting weaker. I expect we will see even lower lows ahead until the global economy begins to recover. Shares did not participate to the upside on the recent positive days in the market.

The volume on GEF is low at 250,000 shares. If that scares you then I would avoid this position. Option volumes are too low so this will be a stock only position.

Earnings are March 2nd.

Closed: Short GEF shares, entry $25.00, exit $26.25, -$1.25 loss.

New Position:

Sell short GEF shares with a trade at $24.65, tight stop loss @ $26.25.

KRE - SPDR S&P Regional Banking ETF - ETF Description


Regional banks actually traded sideways all day until a few minutes before the close when the ETF spiked. The current short recommendation with a trigger of $35.35 is unopened.

Original Trade Description: January 25th

We were knocked out of the long position on this ETF with the drop below support this morning. The keywords in that sentence were "drop below support." Typically, when long-term support breaks we are looking at a continued decline that could be material.

Regional banks are tanking because of their loans to energy companies and to firms that service those energy companies. That includes restaurants, service stations, apparel stores, mom and pop businesses of all types that catered to the families of the 150,000 energy workers that have been laid off.

In addition, the U.S. manufacturing sector is in recession. With energy, manufacturing, transportation already in recession the odds are increasing that the country is going to be headed in that path as well.

Today, the Texas Manufacturing Outlook Survey for January fell from -20.1 to -34.6 and the lowest level since 2008. The outlook for the U.S. economy is not good and that means regional banks could be facing rising defaults.

I hate to go straight from a long position to a short position but in this case, the situation appears to be right. We entered the long position on a dip to support at $35. There was an immediate rebound but then that support failed today based on economic news.

With a KRE trade at $35.35.

Short KRE @ $35.35, stop loss $36.65


Buy long March $33 put, currently .47, no stop loss.

OIH - Oil service Index - ETF Description


The oil service stocks are some of the most shorted stocks in the market. The Russian headline games continue to cause WTI prices to rise and the $54 billion in acquisition cash flowing into the market on Friday accelerated that short squeeze.

We were stopped out on the stock position but the July $20 put position remains in force with no stop loss.

Original Trade Description: January 20th

The OIH ETF represents 25 oil service stocks including Schlumberger, Halliburton and Baker Hughes. Once you get past those three largest holdings the rest of the pack has little balance sheet strength and we could easily see multiple bankruptcies or credit defaults. The bottom of the list contains Tidewater (TDW), Carbo Ceramics (CRR), Seadrill (SDRL), etc. The risk of default is high for the bottom half of the list. View Full List

The "perceived" bounce in oil prices by shifting to a new contract at $28.81 instead of the $26.55 close may cause some investors to buy energy stocks in a knee jerk reaction. Do not be fooled. The bottom in oil prices is still ahead.

The API Inventory report tonight after the close showed a larger than expected gain of 4.6 million barrels of oil and 4.7 million barrels of gasoline. The more accurate EIA inventory report comes out at 10:30 on Thursday.

The inventory build season runs from January 6th to the end of April. Last year inventories rose a whopping +106 million barrels to record levels during that period. There is not likely to be another rise like that because there is very little available storage capacity in the USA. Canadian oil is now selling for $15 below WTI because all the Midwest storage locations are virtually full. Bakken oil is selling for $8-$10 below WTI prices for the same reason plus transportation is expensive to other locations.

I believe we will see WTI at $25 or below over the next two months and possibly even $20 because of the price pressure from the Iranian oil sales. They have about 50 million barrels stored on tankers and that oil is now available for sale. Prices are going lower.

This will probably drag the equity market lower as well but eventually there will be a disconnect between equities and oil prices at some level. The constant headlines about lower oil prices will eventually become old news. Of course, key levels like $25, $22, $20 could cause some additional market weakness.

Energy stocks will continue to react to the low oil prices because every dollar of decline is very painful and impacts their ability to service debt and keep the doors open. Analysts claim as many as 50% of the U.S. producers could default or worse if prices remain low for very long.

I am recommending we short the OIH and expect to hold the position until April. The plan will be to close it about the time inventories top out in early April. We could see a minor uptick at the open on Thursday because of the new front month contract. When inventories are announced at 10:30 we should see a decline in WTI if they are high as expected.

Position 1/21/16:

Closed 1/29/16: Short OIH shares, entry $21.26, exit $24.25, -2.99 loss


Long July $20 put @ $1.92, see portfolio graphic for stop loss.

SSYS - Stratasys Ltd - Company Description


Short squeeze at the open but no follow through. Stock was dead flat from 10:AM until the close.

Original Trade Description: January 22nd.

Stratasys is a maker of 3D printing systems and parts. The company makes parts for other equipment using its proprietary 3D printing systems. They manufacture for sale production systems under the Dimension, Objet,Fortus, Polyjet, SolidScape and MakerBot brands.

While the 3D printing business is expanding in scope and acceptance all around the world the excitement over 3D stocks has faded. XONE, DDD and SSYS shares have been fading since their peaks back in 2013. Stratasys closed at a new six-year low on Friday despite a minor rebound with the rest of the market.

I debated which 3D stock to short and picked SSYS because of the identifiable trend and it has farter to fall than competitor 3-D Sys Corp (DDD). That stock is cheaper at $7.41 if you would rather have less at risk.

The decline in Stratasys accelerated since mid December. There have been two small rebounds along the way. I see the rebound from the 6-year lows last week as an opportunity for a short at a higher level. This gives us an obvious stop loss at $19.50 and the odds are good we will see a new low in the weeks ahead.

Update 1/26/16: The stock was downgraded by JP Morgan from buy to neutral. JPM said demand for the parts that DDD and SSYS make is dying and competition is fierce. They cut the price target to $19. UBS cut expected earnings in half for SYS to 30 cents. The bank cut the rating to sell and price target to $16. Earnings are March 2nd.

Position 1/26/16:

Short SSYS shares @ $17.45, see portfolio graphic for stop loss.


Long March $15 put @ 95 cents, see portfolio graphic for stop loss.

VXX - VIX Futures ETF - ETF Description


The VXX closed below support at $25 after two weeks of gains. Be patient. The volatility will eventually die.

Original Trade Description: August 24, 2015

The U.S. stock market's sell-off has been extreme. Most of the major indices have collapsed into correction territory (-10% from their highs). The volatile moves in the market have investors panicking for protection. This drives up demand for put options and this fuels a rally in the CBOE volatility index (the VIX).

You can see on a long-term weekly chart that the VIX spiked up to levels not seen since the 2008 bear market during the financial crisis. Moves like this do not happen very often. The VIX rarely stays this high very long.

How do we trade the VIX? One way is the VXX, which is an ETN but trades like a stock.

Here is an explanation from the product website:

The iPath® S&P 500 VIX Short-Term Futures® ETNs (the "ETNs") are designed to provide exposure to the S&P 500 VIX Short-Term FuturesTM Index Total Return (the "Index"). The ETNs are riskier than ordinary unsecured debt securities and have no principal protection. The ETNs are unsecured debt obligations of the issuer, Barclays Bank PLC, and are not, either directly or indirectly, an obligation of or guaranteed by any third party. Any payment to be made on the ETNs, including any payment at maturity or upon redemption, depends on the ability of Barclays Bank PLC to satisfy its obligations as they come due. An investment in the ETNs involves significant risks, including possible loss of principal and may not be suitable for all investors.

The Index is designed to provide access to equity market volatility through CBOE Volatility Index® (the "VIX Index") futures. The Index offers exposure to a daily rolling long position in the first and second month VIX futures contracts and reflects market participants' views of the future direction of the VIX index at the time of expiration of the VIX futures contracts comprising the Index. Owning the ETNs is not the same as owning interests in the index components included in the Index or a security directly linked to the performance of the Index.

I encourage readers to check out a long-term chart of the VXX. This thing has been a consistent loser. One market pundit said the VXX is where money goes to die - if you're buying it. We do not want to buy it. We want to short it. Shorting rallies seems to be a winning strategy on the VXX with a constant trend of lower highs.

Today the VXX spiked up to four-month highs near $28.00 before fading. We are suggesting bearish positions at the opening bell tomorrow. The market volatility is probably not done yet so we are not listing a stop loss yet.

Position 8/25/15:
Short VXX @ $21.82, no stop loss.

Second Position 9/2/15:

Short VXX @ $29.01, no stop loss.

Trade History
11/07/15 adjust exit target to $16.65
11/02/15 adjust exit target to $16.50
10/19/15 add an exit target at $16.25
10/15/15 planned exit for the October puts
10/14/15 if you own the options, prepare to exit tomorrow at the close
09/02/15 2nd position begins. VXX gapped down at $29.01
09/01/15 Double down on this trade with the VXX's spike to 6-month highs
08/25/15 trade begins. VXX gaps down at $21.82

If you like the trade setups you have been receiving and you are on a free trial then now is the time to subscribe. Do not wait until you miss a newsletter to decide you want to take the plunge.

subscribe now