The yellow brick road to stock market riches has turned into a world of broken dreams. Market sentiment cannot get much worse than this. The big cap tech stocks are crumbling. The foundations built by investor buying over the last several years are being quickly eroded by hit after hit of negative news. Apple cannot make it a day without another rumored production cut on the iPhone. Today, there was a larger rumored cut on the high dollar XS models.

Facebook has deteriorated into a catfight as insiders throw blame in every direction except their own. Zuckerberg is even blaming Cheryl Sandberg, his second in command for some of the more surprising revelations. Regulations are coming. Multiple congressmen and women have already said they were looking at making changes. Senator Mark Warner said the days of the wild, wild west and profiting of personal info from members was over.

The social media companies are struggling with the new GDPR rules in Europe and those are likely to be only a starting place for rules in the USA. Facebook is in trouble. Their revenue is going to slow and their expenses are going up. The company said it was hiring 20,000 content managers to police content and remove hate speech and spam. Good luck with that. 2.2 billion members will easily overrun 20,000 thought police.

The challenge of the rapidly descending FAANG stocks is that it has poisoned sentiment for tech stocks in general. The monster declines in one portion of the tech world are contaminating the rest of the category.

These stocks have exceeded correction territory and even bear market territory with Nvidia down -50%, Facebook -40%, Netflix -36%, etc. This is some major pain when a stock like Nvidia has lost half its market cap in just a matter of weeks. Facebook has declined in market cap from $523 billion to $316 billion a drop of $207 billion. That means Zuckerberg's $82 billion net worth has dropped $32 billion since July 25th. That had to be painful. No wonder he is lashing out at Sandberg.

The FANG stocks are in 100% correlation on the recent decline. They have gone from independent directions to 100% declines. There is no way the Nasdaq can post gains if these four stocks are all plunging together.




The Nasdaq lost 3% and closed at a 7 month low. This is very bearish and suggests there are further losses ahead. The 6,800 level should be the next target. The 50/200 death cross is only a couple day away. This will be yet another sell signal for actively managed portfolios.


The Dow was dragged lower by Apple and Boeing. The plane maker is going to hold an industry wide call on the problems with the safety systems on the 737 MAX and there are rumors that Boeing has known about these problems for years. Boeing shares fell $15 on the news.

The Dow closed above 25,000 once again but it has broken that level intraday on three of the last four days. With the Dow futures down nearly -100 there is a good chance that level will be broken again on Tuesday and a close below 25,000 will be another sell signal.



The S&P closed below critical support at 2,700 and as they say, "the path of least resistance is down." The S&P rebounded when it hit -10% (2,603) intraday back on October 29th. That would be the obvious target on a continued decline but 2,580 is also in range.


The Russell 2000 is falling apart. The 1,500 level was broken at the close and the support at 1,493 halted the drop. The Russell futures are only down -3 with the S&P -13 so despite the -31 point drop today that was less than the Nasdaq.


The calendar for tomorrow has the new residential construction numbers. On Monday the NAHB Housing Market Index fell 8 points to 60 and the lowest level since the summer of 2016. The 8-point drop was the biggest monthly decline since February 2014. There is no way to sugar coat this report and the new homes on Tuesday and existing homes on Wednesday will be critical. If there is weakness in these reports the Fed's December rate hike could be off the table.


There is a flurry of earnings reports on Tuesday and then the activity dwindles until next week. Target, Kohl's Lowe's, Foot Locker, the Gap and Best Buy are the biggest reports.


I am not a buyer of anything. The market is too oversold to buy puts and there could be a massive short squeeze in our immediate future. Sentiment is so bad on the Nasdaq that I cannot see it turning positive in the short term. There are too many issued with Apple, Facebook, chip stocks, etc, for all the problems to be solved overnight. I would step away from the keyboard and enjoy Thanksgiving without worrying about the market. Come back next Monday and maybe sentiment will be improving.

Enter passively and exit aggressively!

Jim Brown

Send Jim an email



NEW DIRECTIONAL Call PLAY

The market remains broken. Last week there was no trend with the market alternating positive and negative. This week the trend has evolved and it is bearish. With this normally a bullish week and only two days left, we are still in coin toss mode. The S&P futures were down -11 earlier tonight but have improved to -7. With the Nasdaq selling off into the close and Nasdaq futures down -30 I am not going to recommend a new position.

I messed up. I recommended we buy the initial dip to correction territory in October, thinking with the earnings and economy doing so good there would be a strong rebound. When the rebound failed I did not exit those positions thinking we would have a higher low and then move higher.

That was the wrong play and now I am suffering for it. The December options do not have enough time left to recover even if a major rally were to appear tomorrow.

With the kind of declines we saw today this could have been a capitulation event but it could also have been a preview of coming attractions. Apple leads the Nasdaq and it closed at a 5-month low and last ditch support at $186. Any further decline targets $162 and given the daily production cut warnings, we could easily see that level. That is -150 Dow points and 101 Nasdaq points. Add in the crisis of confidence in Facebook and Nasdaq sentiment has been poisoned.

No new recommendations today.



Current Portfolio


Open Positions

Check the graphic below for any new stop losses in bright yellow. We need to always be prepared for an unexpected decline. Any items shaded in blue were previously closed.




Current Position Changes


No Changes


Original Play Recommendations (Alpha by Symbol)


AAPL - Apple Inc - Company Profile

Comments:

Apple's outlook did not improve over the last week. Multiple reports of slashed production targets have pushed it down to $185. The current long call will expire worthless. I am ready to try and salvage a little premium by selling the $210 call and turning the position into a spread. The odds of Apple rebounding $25 are extremely slim.

Sell short Jan $210 call, currently $2.08, stop loss $200.50.

Original Trade Description: Oct 15th.

Apple Inc. designs, manufactures, and markets mobile communication and media devices, and personal computers to consumers, and small and mid-sized businesses; and education, enterprise, and government customers worldwide. The company also sells related software, services, accessories, networking solutions, and third-party digital content and applications. Company description from FinViz.com.

Support at $216 held after a minor break and it is time to get long. We know when the Nasdaq recovery begins, Apple will be the leader.

Apple earnings are Oct 30th and everyone will be looking for good news about the new iPhone products. Analysts are starting to talk positive about Apple again because of the volume in the new models.

Morgan recently initiated coverage with an outperform rating and the second highest price target on the street at $272. The analyst believes the service business is growing faster than people expect and the average selling price will also be higher. He thinks Apple Music will contribute $30 billion in revenue by 2025 and Apple Pay will contribute $6 billion. The average price target is $232.13.

On Monday, we had a battle of competing analysts. Goldman said Apple earnings could slow because of rapidly declining demand in China. The analyst said there were signs that overall smartphone demand in China could decline by 15%. For the current quarter they are predicting 80 million iPhones, which includes 16% from China, down from 19% in the year ago quarter. He covered himself saying demand for the big screen phones could offset the revenue loss from slower sales.

Also on Monday TF International Securities analyst Ming-Chi Kuo said consumers will be "flocking" to the new XR phone because of the features and lower price. He raised his XR unit estimates for the current quarter by 10% to between 36-38 million. He raised estimates for all models to 78-83 million, up from 75-80 million. He believes the demand for the XR is better than it was for the iPhone 8 last year because of the XRs larger display, longer battery life and new form factor. The $749 phone is cheaper than the $999 starting price on the high-end phones and could attract a much larger upgrade cycle. The phones go on sale on Oct 19th.

Shares declined on the Goldman comments and then rose in afterhours on the Kuo comments.

Premiums are high because expectations are high. I do not want to make this a spread. I expect Apple to be significantly higher in the months ahead. Because of the high premiums we either have to use a spread or offset the position with a short put. That is the strategy I am recommending. This has risk. If Apple dips under $190, we could be put the stock. In order to prevent that we will be using stop losses on the position.

Update 11/5: This is one rotten apple. The company reported earnings and revenue that beat estimates and raised their dividend. Unfortunately, they missed estimates on units sold, issued weak guidance and said they were no longer going to report units sold. That completely angered investors and analysts alike. There are three things analysts want to know when Apple reports earnings and that is units sold, average selling price and service revenues. The units sold are probably the biggest item because that tells you at a glance if the company is growing or shrinking. If they reported 50 million phones in the quarter last year and 40 million this year the answer is very clear. Apple knows this and that is why they are no longer going to report units. Tim Cook tried to make the case for overall revenue as the key because Apple was involved in so many products. Unfortunately, phones makes up 85% of the revenue and all the other revenue from services comes from phone sales. If they did not sell a single phone in Q4, their services revenue would be flat to down due to attrition. Everything revolves around the number of phones sold because each phone is a cash machine for the services subscriptions.

On Monday, the Nikkei Financial Daily reported that multiple iPhone manufacturers had been told to halt plans to increase production on the XR and stand down. This followed several reports that the XR sales were facing weak demand only days after they became available for sale. Normally, delivery times are pushed out after a new model is announced and demand exceeds supply. There are no reported delays on the XR. That is a first for Apple. Originally, Apple had planned 60 manufacturing lines at Foxconn just for the XR. They are currently using only 45 and not at full production.

Apple shares have fallen $21 in two days. Out long call has evaporated and the short put gained $2. I am recommending we close the put. I am also recommending we turn the long call into a spread and sell a short $215 call against it. This will claw back $4.50 in premium and reduce our loss.

Analysts are targeting the mid $180s for support.

Position 10/16:
Long Jan $230 call @ $7.35, see portfolio graphic for stop loss.

Position 11/6:
Short Jan $215 call @ $4.70, exit $6.30, -1.60 loss.
Short Jan $190 put @ $2.90, exit $4.55, -1.65 loss.




CGC - Canopy Growth - Company Profile

Comments:

Canopy reported a loss of $1.52 against no estimates. Revenue rose 33% to C$23.3 million and well below estimates for C$60.0 million. The biggest challenge is that Canada's legalization did not occur until the middle of October and after this reporting quarter ended. Sales of oils made up 34% of product sold, up from 18%. Kilos of cannabis harvested rose 265% to 15,127 but kilos sold rose only 9% to 2,197 because of the legalization deadline. The average price per gram rose 24% to C$9.87. The number of active registered patients in their medical program rose 34% to 84,400. It was actually a good report with the exception of the date issue.

Original Trade Description: Nov 5th.

Canopy Growth Corporation, together with its subsidiaries, engages in growing, possession, and sale of medical cannabis in Canada. Its products include dried flowers, oils and concentrates, softgel capsules, and hemps. The company offers its products under the Tweed, Black Label, Spectrum Cannabis, DNA Genetics, Leafs By Snoop, Bedrocan Canada, CraftGrow, and Foria brand names. It also offers its products through Tweed Main Street, a single online platform that enables registered patients to purchase medicinal cannabis from various producers across various brands. The company was formerly known as Tweed Marijuana Inc. and changed its name to Canopy Growth Corporation in September 2015. Canopy Growth Corporation is headquartered in Smiths Falls, Canada. Company description from FinViz.com.

The cannabis sector is on fire and nobody knows how to play it because of the volatility. There will be downs as the rules are drawn and additional countries go all in on recreational use. Canada has approved recreational use starting in October for the entire country. Numerous U.S. states have passed new laws approving the use. Multiple countries have been legal for years but dozens are considering it today.

There are three main companies listed on the US exchanges but there are more than 20 listed on the Canadian exchanges. Obviously the US listings will get the most play.

Tilray (TLRY) is the smallest with 17.8 million shares outstanding. The other two are Canopy Growth (CGC) and Aurora Cannabis (ACBFF). Aurora has 950 million shares outstanding. Canopy has 228 million outstanding.

Aurora is expected to produce 570,000 kilos of weed in 2019 and Canopy is expected to produce more than 500,000 kilos. Tilray said it would only produce 76,000 kilos in 2018 and 150,000 in 2019.

All three of these companies are primarily in weed today but they are rapidly moving to the CBD oils, which have a more mainstream use. Coke is looking at making drinks with CBD oil. Constellation Brands (STZ) is looking at making drinks and edibles with THC, the active ingredient in marijuana. Constellation made a $4.1 billion investment in Canopy with the option to buy more. With big money and big marketing behind Constellation and Canopy I am picking them to be the long term winner.

Look how far the legalization of marijuana has come in just the last two years. Where will the business be two years from now? This is truly a "sky's the limit" potential. The tobacco companies have not yet entered the sector and the most likely entry would be the acquisition of one of these companies. There is eventually going to be a land rush as everyone interested tries to get a piece of this sector starting with the growers.

The recent spike in August was the announcement of a $4.1 billion investment by Constellation. The stock pulled back to uptrend support in the market crash.

Canopy has secured supply contracts for about 35% of expected demand in Canada. Marijuana for recreational uses became legal on October 17th. The current US Farm Bill will legalize CBD and Canopy is one of the largest CBD producers in the world. Two additional states have marijuana legalization on the ballot this week and 8 states have already made it legal.

In the week after legalization news reports from Canada reported that 50-75% of inventories were sold out. In Quebec the government run stores were only open 4 days a week because they ran out of product. Some brick and mortar retail locations were expected to remain closed until further notice because of supply shortfalls by producers. One online store, Ontario Cannabis made more than 100,000 sales in the first 24 hours. Various government run stores said they were only receiving about 40% of the products they ordered. The supply shortage is likely to last. New licenses to produce marijuana are taking about 341 days to process which will then be followed by the grow time to develop mature plants ready to harvest.

Within two weeks of the legalization date in Canada, most pot shops run by the government were completely sold out. This has spiked prices and promises significant profits for growers in coming quarters.

Constellation Brands currently owns 38% of Canopy and has warrants that will allow them to take control with more than a 56% stake over the next three years. Canopy filed a notice of material change on November 2nd indicating Constellation would be a 56% owner when they exercise their warrants.

On November 1st, Constellation completed the investment of $4.1 billion in Canopy with the option to acquire more. With this $4 billion in cash Canopy is going to aggressively build out additional grow farms, research facilities and infrastructure. This gives them a major edge above everyone else.

With Constellation Brands as a backer, Canopy has something that nobody else can match. They have the potential for worldwide distribution both in weed form and in THC infused drinks and edibles. This is going to be so profitable for both companies that I would not hesitate to buy either or both.

Canopy has earnings on Nov 14th. With all their product sold out and backorders for their next six months of supply I cannot imagine that they will not post good numbers.

The dip back to uptrend support in the market crash is a strong buying opportunity.

Position 11/6/18:
Long April $45 call @ $7.20, see portfolio graphic for stop loss.
Short April $70 call @ $2.75, see portfolio graphic for stop loss.
Net debit $4.45.



HD - Home Depot - Company Profile

Comments:

HD declined after earnings when Bank of America cut them from buy to neutral. This is a contrarian call with many analysts still bullish. Bank of America said the decline in housing was a negative for HD.

On Oct 9th, Manuel Kadre, chairman of Republic services was named to the HD board. On Nov 14th he hought $355,000 of HD shares. Three other directors bought a total of about $4.4 million in shares in the first half of 2018.

Original Trade Description: Oct 29th.

The Home Depot, Inc. operates as a home improvement retailer. It operates The Home Depot stores that sell various building materials, home improvement products, lawn and garden products, and decor products, as well as provide installation, home maintenance, and professional service programs to do-it-yourself and professional customers. The company also offers installation programs that include flooring, cabinets, countertops, water heaters, and sheds; and professional installation in various categories sold through its in-home sales programs, such as roofing, siding, windows, cabinet refacing, furnaces, and central air systems, as well as acts as a contractor to provide installation services to its do-it-for-me customers through third-party installers. In addition, it provides tool and equipment rental services. The company primarily serves home owners; and professional renovators/remodelers, general contractors, handymen, property managers, building service contractors, and specialty tradesmen, such as installers. It also sells its products through online. As of January 28, 2018, the company operated 2,284 stores, including 1,980 in the United States, including the Commonwealth of Puerto Rico, and the territories of the U.S. Virgin Islands and Guam; 182 in Canada; and 122 in Mexico. The Home Depot, Inc. was founded in 1978 and is based in Atlanta, Georgia. Company description from FinViz.com.

Home Depot shares have been crushed by the six consecutive months of declining home sales. The rising mortgage rates are also taking a toll. Analysts are worried the remodel boom will stall. This is simply not the case. When homeowners want to move they do buy materials from HD to fix up the house before they sell. However, when they decide they can no longer afford to sell because home prices and interest rates are too high to justify a move they still fix up their homes because they are going to stay there for a while. I cannot quantify the numbers attributable to both scenarios but they are probably not far off. We saw this in the last housing downturn when those not moving decided to remodel instead because it was cheaper.

Analysts should not be worried about Home Depot earnings. The entire Southeast was hit by multiple hurricanes and that means many months of repairs that are far more costly than what homeowners would be spending just to fix up homes prior to selling. There is massive destruction and damage across multiple states and will require millions of pieces of sheetrock, shingles, siding, home appliances, 2x4s, tools, etc. Hurricane Sandy added between $300-$500 million to Home Depot revenue in the short term and we have two different hurricanes in the same area today. This will add to earnings for quarters to come.

Earnings November 13th.

Support at $172 is solid. I do not want to blindly catch a falling knife but this is pretty strong support. Morgan Stanley reiterated an overweight position with a $200 price target. Several analysts have written that the Sears bankruptcy will benefit Home Depot and Lowe's because of the overlap in store footprints. Since Home Depot sells tools, appliances, household items, lawn and garden, etc, they will pick up any Sears customers looking for a new outlet.

Position 10/30/18:
Long Jan $185 call @ $3.70, see portfolio graphic for stop loss.




QQQ - Nasdaq 100 ETF - ETF Profile

Comments:

The Nasdaq just keeps getting worse. I had hoped we could get at least a minor rebound where we could sell another call against our long position. It does not look like that is going to happen and the premium on OTM calls has fallen so drastically, it is not worth the risk. I am recommending we drop this position as it will more than likely expire worthless.

Original Trade Description: Sept 17th.

Invesco QQQ is an exchange-traded fund based on the Nasdaq-100 Index®. The Fund will, under most circumstances, consist of all of stocks in the Index. The Index includes 100 of the largest domestic and international nonfinancial companies listed on the Nasdaq Stock Market based on market capitalization. The Fund and the Index are rebalanced quarterly and reconstituted annually.

The Nasdaq imploded on Monday with a -114 point decline. The big cap tech stocks were flushed with the emphasis on the FAANG stocks. Since none of those stocks would be impacted by the $200 billion in tariffs, it was an unusual move. However, we did not know until after the market closed that the president had made exceptions for Apple products and some other important tech equipment like Cisco products.

Since we did not know how much the tax would be or what products would be covered, the markets sold off hard into the close. The S&P futures were down over 12 points in the afterhours session but they have recovered to less than -2. The Nasdaq futures were down hard and have rebounded 33 points to currently down -10.

I believe investors will buy this dip just like they bought the dozen or so dips in the long list of tariff headlines. Tech stocks are the highest growth stocks and the least impacted by tariffs.

I am recommending we buy some calls on the QQQ. If the market manages to make new highs over the next 10 days or so, we could be off to the races now that the big $200 billion shoe has dropped and it looks like it will be ignored.

Position 9/18/18:
Long Dec $188 call @ $3.50, see portfolio graphic for stop loss.




SPY - S&P SPDR ETF - ETF Profile

Comments:

The market is in danger of breaking a 72-year trend. In 18 out of the last 18 mid-term election years, the S&P rallied an average of 10% between now and the end of the year. There was never a losing year regardless of who won the election. A 10% move from here would be a new high.

Original Trade Description: Oct 15th.

The SPDR S&P 500 trust is an exchange-traded fund which trades on the NYSE Arca under the symbol SPY. SPDR is an acronym for the Standard & Poor's Depositary Receipts, the former name of the ETF. It is designed to track the S&P 500 stock market index. This fund is the largest ETF in the world.

The SPY has pulled back to the 200-day average and just below support at $270.

I believe the market is going to move higher during the Q3 earnings cycle. Even if we do not see a Q3 earnings rally the longer-term outlook is positive.

The 12 months after mid-term elections have seen the S&P gain an average of 15% for the last 18 midterms. That is 72 years and the S&P has gone up every time. There are almost no trends in the market that repeat 100% of the time.

The three quarters starting with Q4 in a mid-term election year average a 19% gain since 1950.

With the economy growing at more than 4% GDP, unemployment at record lows and Q3 earnings expected to show 20% growth or better, this should be a good opportunity for the trend to repeat.

If we do get a strong rebound rally over the next 3 months that would be 25 SPY points if it only retested the recent high.

Position 10/16:
Long Jan $285 call @ $4.45, see portfolio graphic for stop loss.




BEARISH Play Updates

VXX - Volatility Index Futures - ETF Description

Comments:

Easy come, easy go. The VIX dropped back from $42 to $32 in that brief market uptick but then rebounded to $38 on the declines of the last several days. It will eventually go to single digits. We just have to be patient.

Original Trade Description: September 18th.

The VXX is a short-term volatility ETF 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 five 1:4 reverse stock splits. The last five reverse splits occurred at $13.11 (11/2010), $8.77 (10/2012), $12.84 (11/2013), $9.52 (8/8/16), $12.77 (8/22/17). The prospectus says it can reverse split anytime it trades under $25 for a prolonged period and the splits will always be 1:4.

We know from experience that the VXX always declines.

Unfortunately, put options are expensive with a volatility instrument at this price level. The only recommendation is to short the ETF and forget it. If we do get a new rally into the Q1 earnings cycle we could see a sharp decline in the VXX over the next 2-3 months. 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. Once we are in the position and profitable I will put a trailing stop loss on it. We will take profits and then look for a bounce to get back in.

The VXX is hard to short. There are 34.2 million shares outstanding and ShortSqueeze.com says 44.5 million are short. The shares are out there and being traded because the volume on Monday was 46.5 million. More than 221 million traded on Feb 5th. This ETF is a favorite vehicle for the computer traders so the volume is always high. You have to tell your broker you really want to short it and make them find the shares. Sometimes it takes days or even a week before your broker will find you the shares. Trust me, be persistent and it will be worth the effort.

Previously: On Feb-5th a reader emailed me saying a friend was short 1,000 shares. When the VXX spiked $21 in afterhours, Ameritrade closed that position for a $35,000 loss. They did not have a protective stop loss.

We are not using a profit stop in this position because it could be hard to re-short the shares after a volatility event. That is just trade management for a profitable position.

In ANY SHORT POSITION, you should have a catastrophe stop loss to avoid the position turning into a major loss. Had this person had a stop loss at their entry point, they would have been closed for a breakeven and they would be sleeping a lot better today.

Readers should always assume the potential for the worst possible outcome of a short position. Trade smart!

Position 2/13/18:
Short VXX shares @ $49.16, no initial stop loss.



Prices Quoted in Newsletter

At Option Investor, we have a long-standing policy prohibiting the editors and staff from actually trading the individual recommendations in order to conform to SEC rules concerning trades.

The prices quoted in the newsletter are the end of day prices in most cases.

When discussing fills or stops the prices quoted are the bid/ask at the time the entry trigger or exit stop is hit. This is NOT a price that someone on staff actually got using a live order.

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All of these rules normally produce worse prices than an active trader would normally get. Because they are standardized there may be some cases where a price quoted was better than an actual fill. If you received a price that was dramatically different than what was quoted please let us know.