Options Trader: Monday Outlook

Oh I love the manic-depressive market sentiment!

Today we are going to be happy because the government says every little thing’s gonna be alright so don’t you just feel good about the markets today?  I shouldn’t complain, we played for this last week but it makes me nervous to see the market go straight from "despairing, negative, fatigued and negative" straight to "elevated, hyperactive, suddenly escalated and deluded." 

Here’s my problem - I’m a fundamentalist, so I belive a company has value and an economy will do X and not Y and I don’t believe that changes from day to day to any great degree.  Our basic investing strategy is that, when we see a stock deviating from our perceived "value" of a company and we feel the risk/reward is justified over the timeframe - we buy some options looking for a return to the norms.

So it disturbs me when, for example, a massive financial institution like Freddie Mac (FRE) or Fannie Mae (FNM) can, through the wisdom of Wall Street and the "efficient market," lose 1/2 its value at 9:30 and then get it all back at the end of the day.  When the Dow goes up and down 200 points 6 times in one week and makes 20 100-point reversals in 5 days, then we know fundamentals have simply been thrown out the window and we are now playing stock market roulette. 

The market wants to tell me that Crocs (CROX), with $1Bn in sales and $168M in profits is worth just $648M and that Bank of America (BAC), who pay a $2.56 dividend on a $21.67 stock (11.8%) have somehow lost $150Bn in market cap since October despite the fact that they have not posted a negative quarter and earnings simply slumped from a 2006 high of $21Bn back to the normal range of $15Bn.  I can’t buy that TASRs move from a $4M loss on $67M in sales in ‘06 to a $15M profit on $100M in sales in ‘07 merits their value cut in half (and down 75% from last year’s highs) and I guess we’ll find out what crime Google (GOOG) committed on Thursday as they have given up $60Bn in market cap this year (and it was much more in March) despite the fact that they have never missed estimates and have been growing well over 20% and no one seems to dipute that that will continue for the foreseeable future.

Is Hovnanian (HOV) really worth just $4.51 a share?  $368M might be a pretty low market cap for a company with $5Bn in revenues and a book value of $874M.  Real estate has had slumps before and, surprisingly, people still like living in homes - I guess they’ll never learn!  General Electric (GE) is making the same amount of money as it did last year and missed it’s first quarter in 5 years in Q1 and that cost them $190Bn in market cap - at some point you need to take a stand and make some buys.  We took ours last week reversing my Monday advice to "SELL THE PREMIUMS, SELL THE PREMIUMS, SELL THE PREMIUMS" we decided on Friday that the drop was way overdone and took out a lot of callers entering the weekend as uncovered as we’ve been in quite some time.

We’ll see what kind of snap we get, but we have fallen very far and there will be nothing impressive about a 600-point recovery to 11,800 so let’s call that the minimum I want to see this week if we are really going to recover here.  Otherwise, we are far more likely to see a fairly long consolidation down here if we blow the ellusive "V Bottom’" that cheers up the chart people.  Chartmaster Tom2oc gave us an "unconfirmed bullish" reading on Friday’s close, let’s hope we can get some confirmation today!

We’re going to be cautiously optimistic today but let’s not forget to establish some index puts if we get a huge run.  It’s a huge data week with PPI and CPI tomorrow and Wednesday and Retail Sales tomorrow (and we already got a very negative reaction from the preliminaries).  Also, it’s an earningspalooza with M&T Bank (MTB) reporting this morning and Genentech (DNA) and Novellus (NVLS) later.  The rest of the week has too many to mention but we’re watching:

• Tuesday: ADTN, SCHW, JNJ, USB, GWW (am), ALTR, CSX, INTC and STX (pm)
• Wednesday: ABT, AMB, DAL, GCI, HST, NITE, VIVO, PJC, STJ, WFC (am), AMR, CBSH (mid day), CCK, EBAY, HOKU, KMP, TER, XLNX and YUM (pm)
• Super Thursday: BK, BLK, CIT, KO, CCE, CAL, CY, FCS, FCF, FHN, F, HOG, HBAN, IGT, JCI, JPM, MTG, EDU, NOK, NVS, NUE, PNC, RS, SPWR, AMTD, TXT, UTX (am), AMD, COF, ESLR, GILD, GOOG, IBM, MER, MSFT, SOV, WERN and ZION
• Friday: C, GAP, HON, MAN, MAT and SLB

Hopefully we’ll have a pretty good handle on the markets by Thursday morning, which is great as that’s the day we want to sell our August contracts.  Like I said, if this week can’t get us back to 11,800 then we need to get used to the 11s, as we’ll be here for quite a while and probably testing lower than that.

Asia did not, on the whole, react well to the news from the US this weekend.  As I noted in weekend chat, the Fed and Paulson timed their statements to get ahead of the Asian Monday open but both the Nikkei and the Hang Seng shook off good starts to finish lower.  Shanghai moved up a point but still below 320 despite a nice move up in the dollar.  If the US has a strong day with a good finish then iShares China (FXI) calls could be a fun play overnight as the Hang Seng is overdue for a big move up.  The front-month premiums are prohibative but I like the Aug $130s at $9 if WE close over 11,400. The move would be to buy them early and get out if we can’t hold 11,300 during the day.  Also, don’t forget Toyota (TM) and Sony (SNE) are just laying there, ready to rock and roll if the US shows some backbone this week.

Europe is taking our government at face value and is up close to 2% this morning (9 am) with banks leading the charge and the InBev/Bud deal sealed.  Koninklijke Philips (PHG) turned in good sales numbers with profits off from last year because last Q2 was a great quarter (soccer championships drove record TV sales). Chief Executive Gerald Kleisterlee said in a statement that sales showed "the quality and the resilience of our overall business portfolio in a rapidly deteriorating macro-economic environment."  Boy those European CEOs sure don’t sugar-coat things like they do in the States!  "We might do a few small things and we continue to look for opportunities. Don’t expect to see significant moves in 2008," he said in a conference call with news agencies.  Could you imagine what would happen if a US executive were that honest?

We have a long road to recovery so let’s not get overly excited.  If today’s rally gets you even on a position you were worried about, then lighten up.  Cash is still a very good thing to have, if it’s a real recovery, we’ll be led up by XLF and BKX and we have a long, long, long way to go before we are in anything like a recovery mode.  After-lunch action is key, we need a good finish and then we need good economic data and then we need good earnings - not too much to ask for is it?

Comments

[Afam]

Markets will always missprice stocks, particularly at times of high fear or high greed. This is NOT a deficiency of the market.

Financials and real estate companies are at all times highly leveraged (and in this cycle even more highly leveraged than normal) such that small changes in asset value can deliver large changes in shareholder value.

The average investor (and I include large institutional investors), who might be following dozens of stocks, has very little real understanding of the value of these assets (by now it should be obvious that even the managers of the assets have less understanding of their value - certainly not within +/- 10%.) And therefore little understanding of the value of the company (certainly not within +/- 50%.)

So owners play safe and sell rather than risk permanent capital loss, whilst the average buyer also stays clear.

Giving room for the super investor who has superior knowledge and understanding of the asset to deploy (smart) capital and make a superior return.

For sure many financial institutions will not survive this cycle downturn and those (minority of) investors who do have superior understanding must be compensated for deploying capital (and expertise) in a high risk environment. smartinvestorafrica.co...

[David White]

Don't forget Bunge. They are one of the few Ag stocks that trade at a currently reasonable multiple. They almost always have better than expected earnings. They have good earnings growth, and the industries they are in have good growth prospects. They recently bought CPO, which mostly makes corn products. Of course, with Corn prices currently going down, this has had a negative effect on the stock. Then on July 10, 2008, their Italian office was raided by the EU to look for evidence that BG may have been price fixing along with Cargill. This has been negative too. On the plus side BG recently upped their guidance substantially. CPO is actually a great company. Corn is likely to bottom soon (and start going up again). The long range outlook for all basic food products (such as grains) will be UP for some time.

It looks to me like BG has put in a bottom. It seems likely to go up from here. What do you think?

[morgan77]

What do you think about collar spreads on goog? Lower risk (and lower potential profit)

www.greenfaucet.com/tr...