Option Investor

Daily Newsletter, Saturday, 1/21/2017

Table of Contents

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

Market Wrap

Event Risk Over

by Jim Brown

Click here to email Jim Brown

The inauguration was completed successfully and without a lot of market volatility.

Weekly Statistics

Friday Statistics

Friday's volume was unexpectedly high at 6.6 billion shares. While that is not high on a normal basis, it was the second highest day of the week. Traders did not participate while the inauguration was ongoing but there was a big spike at the open and another uptick at the close. The market fell to its lows, giving back more than half its opening gains as President Trump spoke but when it did not collapse completely the dip buyers began to appear. Advancers were nearly 2:1 over decliners and the volatility index declined -10% to close just over 11.

In theory, this should be the all clear signal politically. However, the president has said he could sign as many as 200 executive orders on Monday. Late Friday before going to the festivities, he went to the oval office where he signed multiple executive orders including one to reduce the effectiveness of Obamacare by limiting any financial penalties, unwarranted financial and regulatory burdens. The order tells agencies to waive, defer or delay any Obamacare provisions that impose fiscal penalties or involve extra ordinary measures. The administration also implemented an order that halts all new regulations without specific administration approval. This can impact new regulations recently announced but not fully implemented.

The markets have had a dozen chances to move lower over the last several weeks and all the dips were bought. With the event risk over, investors should be able to concentrate on earnings and economics. The last hurdle will be any backlash on Monday from the barrage of executive orders. They should not discourage investors but there is always the potential for that bump in the road. I expect the deluge of earnings news to overshadow any remaining political headlines.

I showed a graphic last week where the S&P averaged a -2.6% decline in the 30 days after a change in presidents. That risk still exists but the pro-growth policies of lower tax rates and reduced regulation should negate that risk somewhat. However, Sam Stoval, a long time S&P tracker, reminded us that since 1953 the S&P is normally 1.6% higher after the first 100 days in office. That suggests we should buy any dip.

There were no economic reports of note on Friday.

The calendar for next week is highlighted by regional Fed manufacturing reports from Dallas, Richmond, Chicago and Kansas City. The big report for the week will be the first look at the Q4 GDP on Friday. The initial Q4 forecast is 2.1% growth compared to the unsustainable 3.5% number from Q3. The Atlanta Fed GDPNow forecast is 2.8%.

There was almost zero stock news on Friday. The news headlines were totally dominated by the inauguration details. One stock probably wished they were invisible after a major hit. Bristol Myers Squibb (BMY) said it would not seek accelerated approval for its lung cancer treatment using Opdivo and Yervoy. The company said the decision was made based on a review of the data available at this time. That suggests the data was not favorable and may not have withstood FDA scrutiny. Shares fell -11% on the news.

GE reported earnings of 46 cents that matched analyst estimates. Revenue declined slightly to $33.09 billion and missed estimates for $34.15 billion. Revenue in their oil and gas business declined -22% and the energy and lighting division saw a 29% decline in revenue. The transportation segment saw a 23% decline. The company said for the full year they returned $30.5 billion to shareholders with $22 billion though share buybacks.

Since GE shed its financial businesses, analysts are expecting better earnings. For GE, just matching estimates is almost an earnings miss. They signed deals in 2016 for $40 billion in asset sales. They have shed $197 billion in restructuring deals since 2015. Having restructured into a pure play industrial company analysts are expecting better results. In October, they signed a deal with Baker Hughes (BHI) to merger their oil and gas business with BHI and create the second largest energy services business. This will further insulate the GE industrial business from the wide swings in the energy sector. This was a handicap for GE earnings over the last couple years. Shares fell -2% on the earnings.

Qualcomm (QCOM) is not having a good year. On January 17th, the FTC sued the company for anti-competitive practices saying QCOM forced Apple to use its products exclusively in exchange for lower fees. On Friday, Apple said it was suing Qualcomm for $1 billion for improperly charged royalty fees. Apple said, "Qualcomm built its business on older, legacy standards but reinforces its dominance through exclusionary tactics and excessive royalties." A month ago, South Korea levied an $850 million fine against Qualcomm for monopolistic practices. Apple said Qualcomm withheld $1 billion in fee rebates because Apple helped South Korea investigate Qualcomm's business practices. A year ago, China fined the company $1 billion for basically the same reason. A billion here and a billion there and pretty soon that adds up to a lot of money. Shares fell -2.4% on the news.

Apple (AAPL) shares were flat for the week with resistance at $120 still holding the stock down. That is a 14-month high and the stock cannot seem to break through. Earnings are January 31st. The company is meeting with the government of India on January 22nd to negotiate terms for setting up manufacturing units in that country. Apple is asking for a 15-year tax holiday on the importation of equipment and components into the country. This would help India because it provides thousands of jobs and further improves the "Made in India" manufacturing effort. India is also the world's fastest growing cellular market. If the government does a deal with Apple, the phones would be cheaper for their citizens and further accelerate the trend. Samsung currently has a 23% market share in India because of their lower price points. India charges a hefty tax on imports and that raises the current iPhone price.

Dow Component Procter & Gamble (PG) reported earnings of $1.08 compared to the $1.06 analysts expected. Revenue of $16.86 billion narrowly beat estimates for $16.8 billion. Foreign currency exchange knocked 2% off of revenue. The company guided for a 2% to 3% increase in revenue for 2017 but the strong dollar is expected to reduce sales by 2% to 3% so actual revenue will be flat. They guided to full year earnings of $3.67 per share. Shares rallied $2.75 to add 18 points to the Dow.

Schlumberger (SLB) reported earnings of 27 cents that matched analyst estimates. That was a 58.5% decline. Revenue fell -8.7% to $7.07 billion and missed estimates for $7.11 billion. The company said there was strong activity in the Middle East and North America but Latin America and Europe were weak. The company said drilling activity in North America should increase 30% in 2017 led by the Permian Basin. Shares declined only fractionally.

Moody's downgraded Sears (SHLD) credit rating from Caa1 to Caa2. Moody's said Sears is running out of stuff it can sell for cash. They only have 211 properties that are unencumbered and worth about $2.5 billion. With the company burning cash at the rate of $1.5 billion a year they are rapidly approaching the end of the line. Moody's said they could raise cash with the sale of the Kenmore and Diehard brands but after that, they are done. There is nothing left to sell that will produce a large inflow of cash. Shares were positive despite the downgrade.

With 12% of the S&P-500 already reported, the blended earnings growth is now 3.4% for Q4. Over 61% have beaten on earnings but only 47% have beaten estimates for revenue. The earnings beat percentage is below the 5-year average of 67%. The average earnings beat is 4.2% while the average revenue decline is -0.4% below estimates. Next week 70 S&P companies will report earnings including 12 Dow components.

The Dow components are in pink. Nearly 25% of the market cap of the Nasdaq reports earnings on Thursday with BIIB, GOOGL, INTC and MSFT.

The OPEC monitoring committee meets this weekend to work out a means to measure compliance with the promised production cuts. The odds of actually getting the 1.758 million bpd of production cuts are nearly zero. That is 1.2 mbpd for OPEC and 558,000 bpd for non-OPEC producers. Just because they have to meet to come up with a compliance procedure should tell you the odds are pretty slim. Several OPEC members have said 50% to 60% would be good and 70% to 80% compliance would be outstanding. When OPEC members think 60% would be good, that tells you they are expecting a lot of cheating.

The IEA said OPEC's historical compliance with prior production cuts has averaged around 60%.

The key here is that the production cuts are voluntary and there is no penalty for failing to follow through with their promised cuts. There have been some suggestions that the monitoring committee will "name and shame" any country that does not comply. Good luck with that.

On Saturday, OPEC and Russia said they were ahead of schedule implementing the cuts. Saudi Arabia, Algeria and Kuwait have already made deeper cuts than required, while Russia claims they have already cut by 100,000 bpd. The Saudi Oil Minister Khalid Al-Falih said producers have already removed 1.5 million bpd from the market. If this is true and that is a capita IF, it would be a major change in OPEC compliance. However, since those three countries have reportedly cut more than they pledged, it suggests other countries are lagging.

Prices have been declining as the headlines questioned whether the actual cuts would be sufficient to reduce existing inventories.

The prior week there was a decline of six active rigs. I speculated at the time there was probably a lag in getting workers back from holiday breaks and there had been some very severe winter weather the prior week that could have impact rig relocations. This week the active rigs rose by a whopping +35 rigs to 694. That was an addition of 29 oil rigs and 6 gas rigs. Apparently, whatever problem was preventing those rigs from restarting, has been solved. With this pace of rig additions, we could see a significant rebound in oil production six-months from now.




The S&P has gone 69 days without a 1% decline. That is the longest streak since 2006 when the index went 94 days without a significant drop. The difference is that other than the five-weeks after the election, the S&P has gone sideways almost the entire time. October 11th was the last drop of more than 1%. I am pretty sure everyone would much rather have the chart pattern from 2006 than the current chart. That 2006 rally was a once a decade type of event.

The number of analysts expecting a market decline soon, continues to grow. Jeff Saut, an excellent analyst from Raymond James, said the models continue to point to a post inauguration decline of several percent and it would be a "big surprise" if a rally appeared instead.

Jeff, I would not put a very big bet on that decline. While it can still happen, the market has had many chances to fall hard in December/January and each time the dip buyers were ready and waiting. Some $14 billion in new money has flowed into the SPY ETF and another $6 billion into the financial XLF ETF. Investors are betting on a continued gain. Obviously, they can be just as wrong as you or me but they have the big bucks.

I am very surprised we did not have an early January decline. I positioned for it and it never came. At the same time, there was no rally either, except for the big cap techs. With the Dow and Russell 2000 closing at five-week lows on Thursday, it looked like a decline was imminent. Now, I believe those chances are slipping away. We will have an eventual drop but it will be on the market's schedule not ours.

Of course, as soon as I begin to turn short term bullish it will be the kiss of death for the market. I am going to maintain my downside hedges for another few days but I am going to start adding some long positions.

The S&P has to break over 2,280 in order to trigger a new round of short covering and price chasing. Of course, the Dow needs to break through 20,000 but the S&P is the one to watch next week. An S&P breakout will lead to a Dow breakout.

The S&P stalled at 2,277 on Friday and that was at the open. The initial spike was quickly sold so there were still some ready sellers at that level. After the intraday dip and the closing bounce, the S&P closed at 2,271 and about 10 points below the level that could trigger a new leg higher. We are less than half a percent from a new high. A move over 2,300 could be explosive.

Note that the S&P candles are still clustered near the top of the recent range. That suggests a breakout could be imminent.

The Dow got a big lift from IBM and PG on Friday. IBM added 25 Dow points and PG added 18. With 12 Dow components reporting next week we could see some increased volatility. Those are MCD, DD, JNJ, MMM, TRV, VZ, BA, UTX, CAT, MSFT, INTC and CVX. Tuesday is a big day with 3M and Travelers. They could be market movers. Verizon, JNJ and DD are the same day but should not be big movers.

The Dow closed at a five-week low on Thursday and then rebounded back over prior support at 19,800 on Friday but only by 27 points. The Dow chart pattern is still negative until it pushes though 20,000.

The Nasdaq was held back on Friday by the biotech sector once again. The sector was hit by the drop in BMY shares and by continued worries the president could comment again on high drug prices at any time.

The Nasdaq is only 19 points below its closing high and a gain like that could happen at any time. The Nasdaq and S&P are the most bullish indexes. Without the inauguration event risk we could see a decent move next week.

With GOOGL, INTC, MSFT and BIIB all reporting earnings on Thursday that could make next Friday's open another volatility event.

The small cap Russell 2000 is the weakest index with the Dow a close second. The Russell closed at a five-week low on Thursday and rebounded only slightly on Friday. The Russell failed to close back above support at 1,355. The Russell and the Dow are the market sentiment indicators and they are on opposite ends of the market spectrum. To have them both be negative while the S&P and Nasdaq are positive, presents a market mystery for analysts. However, the stocks in each index were the biggest gainers in November and therefore have the most profit at risk that needs to be consolidated. The Nasdaq stocks had a big decline in late December to force traders to exit and provide a new entry point for others. The Dow and Russell have not seen that sharp decline.

If the Russell closes at a new low next week, that would be a signal of trouble ahead. The chart is short-term negative so watch it closely.

When President Trump was inaugurated, everyone on the floor of the NYSE cheered and applauded. That should be a clue to how traders/investors view the market and economy in the coming months. Lower taxes could mean an increase in S&P earnings of 10% or more. The current PE for the S&P is 17 with earnings estimates at about $133.50. If earnings rose 10% and the PE stayed the same, that would be 2,500 on the S&P. Some analysts believe earnings could rise 16% in 2017 on a combination of organic growth and a lower tax rate. That would be somewhere in the 2,635 range if the PE did not change.

Obviously, those earnings are not going to happen overnight because the legislative process is messy. The republicans may have a 2 vote majority in the senate but in reality it is a fragile coalition that could self destruct at any time on any topic. Nothing should be taken for granted just because of those 2 votes.

We do not know how the governing process is going to work with President Trump. For someone who is used to getting his way and dominating everything he touches, it may be a real challenge to play nice with lawmakers. While everyone wants to think we are just going to follow the yellow brick road to market profits because a new sheriff is in town, that may not be the case. We are going to need to see a few weeks of actual governing before we can breathe easier.

Regardless of what happens with the new administration, the market will adjust. As long as earnings are increasing and the economy is not tanking, the market should move higher. The markets have lived through 44 previous administrations and are less than 1% from historic highs. They will adjust but there could be some volatility if the governing process turns into a perpetual Twitter storm.

Random Thoughts

There was a major change in sentiment last week with the bulls running for cover. This survey ended on Wednesday so the Friday event risk was causing a minor panic. We saw this reflected in the market with the Dow and Russell 2000 closing at a 5-week low on Thursday.

Last week results

ISIS was calling Inauguration Day, "Bloody Friday" and calling on followers to attack in any way possible. They failed. The lack of an attack shows that ISIS is limited in what they can actually do even if they are willing to die in the effort.

The security around the inauguration was so tight that protestors could not even get close, much less ISIS followers.

This does not mean we should let our guard down for even one second but it also means we should not live our lives in fear. While ISIS and Al-Qaeda are spreading into other countries, they are no longer capable of carrying out another 9/11 style attack. We are entering a new phase of the terror cycle and President Trump is likely to take the battle them very quickly.

Happy Easter

For everyone that got an Amazon Echo for Christmas, this post is for you. For everyone else, I am sorry, maybe you will get one next year.

For those with an Echo you know there are Easter Eggs hidden in Alexa's programming. I recently spent more time than I care to admit compiling an extensive list of these eggs. If you have an Echo you know how addictive this can be. Some of these are simple and some will drive you crazy. Most will be good for laughs when you have company over. If you have found some that are not on the list, please send me an email.

This is a PDF file of 400 eggs. Enjoy!

400 Alexa Easter Eggs


Enter passively and exit aggressively!

Jim Brown

Send Jim an email


"An investor without investment objectives is like a traveler without a destination."

Ralph Seger


New Plays

Small Cap Winner

by Jim Brown

Click here to email Jim Brown
Editor's Note

BOX belongs to a very select group of small cap stocks that actually moved higher over the last three weeks. I looked at charts for more than 300 small price stocks over the weekend and just based on the individual charts, there is a lot of underlying bearishness in the small cap space. Out of those 300 charts, there were only about 16 that would have been playable if they did not have earnings over the next two weeks. Two thirds of those were bearish charts. Only 5 had positive charts. That is not a good sign for next week. I was trying to find something to use for a long play and the pickings were very slim.


BOX - Box Inc - Company Profile

Box, Inc. provides cloud-based mobile optimized enterprise content collaboration platform that enables organizations of various sizes to manage their enterprise content from anywhere. The company's platform enables users to collaborate on content internally and with external parties, automate content-driven business processes, develop custom applications, and implement data protection, security, and compliance features. Box, Inc. offers its solution in 22 languages. It serves healthcare and life sciences, financial services, legal services, media and entertainment, retail, education, energy, and government industries. Company description from FinViz.com.

Box is rapidly growing its customer for document management for companies with a global workforce. They are competing with other companies for cloud collaboration and access. More than 69,000 companies worldwide now use Box. They have broken into the media sector and now many production companies use Box for storing and distributing their production content. This has given Box a new niche in the market. Box has partnered with Salesforce.com, IBM and Microsoft in the cloud space. Their goal is to partner and grow with them rather than compete with those giants.

The company reported a smaller than expected loss for Q3 and expect to post an even narrower loss for Q4. Their guidance for Q4 is a loss of 13 cents on revenue of $109 million. That is better than the 26 cents loss in Q4-2015.

Earnings March 1st.

Shares broke out to a new 52-week high on January 12th before pulling back slightly with the market. They closed 5 cents below a new 52-week high on Friday.

With a BOX trade at $17.10

Buy BOX shares, initial stop loss $16.35.


No New Bearish Plays

In Play Updates and Reviews

Sentiment Rebound

by Jim Brown

Click here to email Jim Brown

Editors Note:

The successful removal of the event risk lifted the markets at the close. That does not guarantee a bullish market next week but it does remove a big cloud from the market. Now investors can focus on earnings and the economy rather than politics and terror attacks.

The market remains confused with the Dow and Russell near their lows and the S&P and Nasdaq near their highs. We need a consensus to form that moves all the indexes in the same direction. That will give investors some relief.

Current Portfolio

Stop Loss Updates

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

Profit Targets

Check the graphic below for any profit stops in green. We need to always be prepared for a profit exit at resistance.

Current Position Changes

VXX - VIX Futures ETF
The short position remains unopened until a trade at $24.50.

If you are looking for a different type of trading strategy, try these newsletters:

Short term Calls and Puts on equities = Option Investor Newsletter

Credit spreads and naked puts = OptionWriter

Long term option investments = LEAPS Investor

3-6 month Option Trades = Ultimate Investor

Iron Condors = Couch Potato Trader

BULLISH Play Updates

ARWR - Arrowhead Pharmaceuticals - Company Profile


No specific news. No material movement.

Original Trade Description: January 12th.

Arrowhead Pharmaceuticals, Inc. develops novel drugs to treat intractable diseases in the United States. Its pre-clinical stage drug candidates include ARO-HBV to treat chronic hepatitis B virus infection; ARO-AAT to treat liver disease associated with alpha-1 antitrypsin deficiency; ARO-LPA to reduce production of apolipoprotein A; ARO-AMG1, which is developed against an undisclosed genetically validated cardiovascular target; and ARO-F12, a potential treatment for factor 12 mediated diseases, such as hereditary angioedema and thromboembolic disorders. The company also develops ARO-HIF2, a drug candidate for the treatment of clear cell renal cell carcinoma. Arrowhead Pharmaceuticals, Inc. has collaboration and license agreements with Amgen, Inc. The company was formerly known as Arrowhead Research Corporation and changed its name to Arrowhead Pharmaceuticals, Inc. in April 2016. Company description from FinViz.com.

Arrowhead shares were crushed back in November on bad news but have been rebounding since December 23rd. On Monday Silence Therapeutics announced it has acquired six million shares and an 8.4% stake in ARWR. Silence is developing its own RNA technology that could be a competitor to Arrowhead or synergistic to Arrowhead.

Arrowhead said it was not informed of the stake until just a few minutes before Silence made the public announcement. Arrowhead said there have been no discussions about a potential transaction. Now that Silence has an 8.4% stake and has proven it is serious, those discussions could begin.

There is no guarantee the stock will continue moving higher on this news but I am sure there are other investors also following the headlines and willing to bet a couple bucks a share that something will happen and there will be further headlines.

Earnings March 15th.

Position 1/13/17:

Long ARWR shares @ $2.27, see portfolio graphic for stop loss.

I am not recommending them but the March $3 calls are 25 cents.

HZNP - Horizon Pharma - Company Profile


No specific news. Biotech sector was weak and produced a minor decline in HZNP.

Original Trade Description: January 7th.

Horizon Pharma plc, a biopharmaceutical company, engages in identifying, developing, acquiring, and commercializing medicines for the treatment of arthritis, pain, inflammatory, and/or orphan diseases in the United States and internationally. The company's marketed medicine portfolio consists of ACTIMMUNE for the treatment of chronic granulomatous disease and osteopetrosis; RAVICTI and BUPHENYL/AMMONAPS to treat urea cycle disorders; DUEXIS and VIMOVO for the treatment of signs and symptoms of osteoarthritis, rheumatoid arthritis, and ankylosing spondylitis; and PENNSAID for the treatment of pain of osteoarthritis of the knees. Its products also include MIGERGOT to treat vascular headache; RAYOS/LODOTRA for the treatment of rheumatoid arthritis, polymyalgia rheumatic, systemic lupus erythematosus and multiple other indications; and KRYSTEXXA to treat chronic refractory gout. The company has a collaboration agreement with Fox Chase Cancer Center to study ACTIMMUNE in combination with PD-1/PD-L1 inhibitors for use in the treatment of various forms of cancer. Company description from FinViz.com.

Horizon recently received approval to sell the drug Quinsair in Canada. It was already approved in the EU. This is a drug for the management of chronic pulmonary infections in adults with cystic fibrosis. Only about 75,000 people around the world are candidates for the drug and 4,500 in Canada. They acquired the drug when they bought Raptor Pharmaceutical Corp in October.

The company also announced they had received a Notice of Allowance from the U.S. Patent office on the drug Ravicti. This will result in a patent being issued to Horizon that is good to 2030. Horizon has seven patented drugs and 11 drugs currently available for sale.

Shares of Horizon declined in early December after a late stage trial on another drug failed to achieve the desired result. Shares have been moving up steadily since that December drop. Friday's close was a 4-week high.

Horizon will present next week on the 10th at the JPM Healthcare Conference.

Earnings Feb 6th.

I am putting an entry trigger on the position just in case the market decides to roll over on Monday.

Position 1/9/17 with a HZNP trade at $17.75

Long HZNP shares @ $17.75, see portfolio graphic for stop loss.

No options recommended because of wide spreads.

BEARISH Play Updates

ENDP - Endo International - Company Profile


Downgraded by JPM from overweight to neutral. Shares hit a new 14-year closing low.

Original Trade Description: January 14th

Endo International plc develops, manufactures, and distributes pharmaceutical products and devices worldwide. Its U.S. Branded Pharmaceuticals segment offers chronic pain management products, such as BELBUCA, OPANA ER, and Percocet; Lidoderm for opioid analgesics; and Voltaren gel for osteoarthritis pain, as well as XIAFLEX for treating Peyronie's and Dupuytren's contracture diseases. This segment also provides Supprelin LA for central precocious puberty treatment; testosterone replacement therapies, such as Aveed and TESTOPEL, as well as Fortesta and Testim gels; Frova and Sumavel DosePro for migraine headaches; Valstar, a sterile solution for intravesical instillation of valrubicin; and Vantas for the palliative treatment of prostate cancer. The company's U.S. Generic Pharmaceuticals segment provides tablets, capsules, powders, injectables, liquids, nasal sprays, ophthalmics, and transdermal patches for pain management, urology, central nervous system disorders, immunosuppression, oncology, women's health, and cardiovascular disease markets. Its International Pharmaceuticals segment offers specialty pharmaceutical products in various therapeutic areas, including attention deficit hyperactivity disorder, pain, women's health, and oncology; generic, branded generic, and over-the-counter products in the areas of dermatology and anti-infectives; injectables for the treatment of pain, anti-infectives, cardiovascular, and other therapeutics areas; and healthcare services, products, and solutions to hospitals, pharmacies, and practitioners, as well as for government healthcare programs. The company also provides Monarc subfascial hammock to treat female stress urinary incontinence; and Elevate transvaginal pelvic floor repair system for the treatment of pelvic organ prolapse. It sells its branded pharmaceuticals and generics directly, as well as through wholesale drug distributors. Company description from FinViz.com.

Endo is a small $3 billion market cap company but they have been around since 1920. They are headquartered in Dublin Ireland and could easily be impacted by an import tax. They do have some common products and they do have earnings.

Endo has been benefitting from raising drug prices and a study underway to determine how much companies have raised prices over the last ten years is bound to highlight Endo as a serial hiker. The company already warned that the pricing environment was going to remain challenging in 2017 with 30% year over year declines in generics. If the new replacement for Obamacare does require bidding for generic drugs as Trump has mentioned, Endo could be under a lot of pressure. Add in the import taxes and it could be ugly. Investors are anticipating these events and the stock is falling.

On Thursday somebody bought 4,000 February $12.50 put for 70 cents. That is a $280,000 bet they are going lower. If Trump repeats his desire for lower drug prices in the inauguration speech, the drugs companies are going to collapse again.

Earnings February 7th.

Position 1/17/17:

Short ENDP shares @ $13.22, see portfolio graphic for stop loss.

No options recommended because of price and spreads.

IWM - Russell 2000 ETF - ETF Profile


The Russell 2000 posted only a minor 6 point rebound and the trend is still negative.

Original Trade Description: December 10th

The IWM ETF seeks to track the investment results of the Russell 2000 Small cap Index.

The Russell is up +232 points or 20.1% in the last 22 trading days. It is grossly over extended and many small cap Russell stocks are up 30% to 40%. I understand the bullish sentiment that believes the economy will be better in 2017 but it will not be because of President Trump. His proposals will take months to get through the House and Senate and there is likely to be some major battles. Obamacare will not go away until 2018 or longer because it takes a long time to plan and execute a change that big. Lower taxes will not happen until 2018 because it will take months for both houses to vote on an acceptable tax bill. I seriously doubt they will change rates in the middle of the year. Any change will not occur until 2018.

I could go on but you get the picture. Typically, there is a honeymoon phase after a new president is elected. This phase has run its course. There are 14 trading days left in 2016 and any new highs are likely to be made before Christmas. After Christmas, investors may begin to worry and once into January and a new tax year, the selling could be dramatic. Do you remember January 2016? The market was not nearly as overextended as it is today and the Dow fell -2,150 points in just two weeks. Entering into a new tax year allows traders to capture profits and invest that money for another year before paying taxes.

Dow - January 2016

We also have the potential for a really messy inauguration or even a terrorist attack at the event. That potential will give cautious investors another reason to take profits in January.

I am recommending a long put on the Russell ETF. There is no stock vehicle we can use other than the VXX to capitalize on a market sell off. The VXX is flawed and while it may go up, it may not go up enough to make it worthwhile and it is volatile from day to day. I chose the Russell ETF because the premiums are cheap and the volatility should work in our favor. If you cannot use options then I suggest you buy the VXX shares at the first sign of market weakness after Christmas.

There is also another trigger factor to consider. The Dow is approaching 20,000 and that could be a massive sell the news event given the big gains. Since the Dow could hit that level this week I am recommending we initiate our long put position in advance.

Because the market could still rise, I want to follow the IWM higher and enter the position only when the ETF rolls over.

The ETF has short-term support at 137.75 and again at $137.25. I am recommending we enter the position with a dip to $137. If the Russell continues higher, I will continue raising the entry point as needed.

Position 12/12/16 with an IWM trade at $137.00

Long Feb $134 put @ $3.38, see portfolio graphic for stop loss.

SHLD - Sears Holdings - Company Profile


Moody's downgraded Sears credit rating from Caa1 to Caa2. Moody's said Sears is running out of stuff it can sell for cash. They only have 211 properties that are unencumbered and worth about $2.5 billion. With the company burning cash at the rate of $1.5 billion they are rapidly approaching the end of the line. Moody's said they could raise cash with the sale of the Kenmore and Diehard brands but after that they are done. There is nothing left to sell that will produce a large inflow of cash.

Original Trade Description: January 9th

Sears Holdings Corporation operates as a retailer in the United States. It operates in two segments, Kmart and Sears Domestic. The Kmart segment operates retail stores that offer a range of products, including consumer electronics, seasonal merchandise, outdoor living, toys, lawn and garden equipment, food and consumables, and apparel; and in-store pharmacies. It provides merchandise under the Jaclyn Smith, Joe Boxer, and Alphaline labels; Sears brand products, such as Kenmore, Craftsman, and DieHard; and Kenmore-branded products. As of October 31, 2015, this segment operated approximately 952 Kmart stores. The Sears Domestic segment operates stores that provide appliances, consumer electronics/connected solutions, tools, sporting goods, outdoor living, lawn and garden equipment, apparel, footwear, jewelry, and accessories, as well as automotive services and products, such as tires, batteries, and home fashion products. It also offers appliances and services to commercial customers in the single-family residential construction/remodel, property management, multi-family new construction, and government/military sectors; appliance and plumbing fixtures to architects, designers, and new construction or remodeling customers; parts and repair services for appliances, lawn and garden equipment, consumer electronics, floor care products, and heating and cooling systems; and home improvement services, as well as protection agreements and product installation services. This segment provides merchandise under the Kenmore, Craftsman, DieHard, Covington, Canyon River Blues, Metaphor, Outdoor Life, Structure, and Apostrophe brands, as well as under the Roadhandler, Ty Pennington Style, and Alphaline brands. As of October 31, 2015, this segment operated 735 Sears stores. Company description from FinViz.com.

We played Sears as a short several times before. We were stopped out on Dec-30th when the CEO arranged a bridge loan to get them out of trouble temporarily. Now that the holiday numbers are starting to come in, the results are very dismal. Sears is eventually expected to file bankruptcy.

In November, they posted a GAAP loss of $748 million and an adjusted loss of $333 million. Gross margins fell to 19.2% compared to JC Penny at 37.2%. Sears is forced to severely discount items to attract what few shoppers they have. Same store sales at Kmart fell -4.4% and -10% at Sears. Revenue fell -12.5% to $5.0 billion.

Earnings March 9th.

Fitch warned Sears will burn through $1.5-$1.8 billion in cash this year and even selling off the Craftsman brand will only gain them an additional 12 months of life.

Sears closed at a new 14-year low on Dec-28th and the outlook is growing increasingly dim. Suppliers fear a bankruptcy in 2017 once the holiday shopping is over. Several suppliers have halted shipments to Sears on fears they will not be paid.

In early January, they announced they were closing 150 stores. There are 109 Kmarts and 41 Sears stores. Last week they announced the sale of the Craftsman brand to Stanley Black & Decker for $900 million but they get less than half of that in cash. The rest is paid out over the next 3-5 years. That shows how desperate they are for cash since they originally expected to raise $1.5 to $2.0 billion on the sale. Now they are looking to sell the Kenmore and Diehard brands.

With the Craftsman sale and the loan from the CEO and a new $500 million loan secured by real estate, they have developed about $1.5 billion in Liquidity. Fitch warned Sears will burn through $1.5-$1.8 billion in cash this year and even selling off the Craftsman brand will only gain them an additional 12 months of life.

When they announced the Craftsman sale at less than expected terms, the stock fell back from the early January gains. The outlook is grim despite the short-term cash inflows.

Update 1/11/17: In an OP-ED piece Forbes said the sale of Craftsman signaled the opening of the final chapter for Sears. They said the Craftsman sale and the potential sale of the Kenmore and Diehard brands represented a "going out of business" sale.

Update 1/19/17: Sears announced it was ending its decades old employee discount program. They are going to allow employees to earn points on purchases that will be good for future discounts. Currently they get a discount on items at the time of purchase. By scrapping that plan, the company gets the money up front and maybe the employee will use their points on future purchases. The point values differ on different types of merchandise. If Sears eventually files bankruptcy, the points would disappear. This is another sign the company is in trouble.

Position 1/10/17:

Short SHLD shares @ $8.97, see portfolio graphic for stop loss.

No options recommended because of price.

VXX - Volatility Index Futures - ETF Description


After two days of minor rebounds, the market rally crushed the VXX to a new low. I will leave the recommendation open until we see what next week brings then make a decision on how to proceed.

Original Trade Description: December 28th

The VXX is a short-term volatility product based on the VIX futures. As a futures product it has the rollover curse. Every time they roll to a new futures contract, they have to pay a premium and that lowers the price of the ETF. It is a flawed product with a perpetual decline built in from the monthly roll over in the futures contracts.

As evidence of this flaw, they have now done four 1:4 reverse stock splits. The last four reverse splits occurred at $13.11 (11/2010), $8.77 (10/2012), $12.84 (11/2013), $9.52 (8/8/16). The prospectus says it can reverse split anytime it trades under $25 for a prolonged period and the splits will always be 1:4.

After the August split the ETF moved sideways for four weeks at $36. I think everyone was waiting for the typical August volatility. When it did not show up and the market rallied on Friday that support broke. And the decline began.

We exited the last short at $26.65 for a $7 gain back on December 13th. I am expecting the January volatility to lift the VXX back to $30. That will give us a great entry for the expected market rally in Feb/Jan where the VXX will crash again.

Unfortunately, put options are expensive with a volatility instrument at this price level. The only recommendation is to short the ETF and forget it. This will be a long-term position. This is not a 2-3 week play. I can guarantee you, if history holds, we can play this until it splits 1:4 again at $10. We may have to rotate in and out a couple times but it will eventually go to $10. Once we are in the position and profitable I will put a trailing stop loss on it. If the stop is hit we will take profits and then look for a bounce to get back in. We could keep this play in the portfolio on a trading basis permanently.

I am putting an entry trigger on the position at $29.50, a level we saw on December 1st. I would expect this to be hit in early January. The VXX could rise well over $30 if the market really corrects so I am not putting a stop loss on the position until the correction is over.

With a VXX trade at $24.50

Short VXX shares, currently $21.40, no initial stop loss.

No options recommended because of price.

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