Friday, December 28, 2012

Morning Update

Yesterday’ trading session was extremely whippy as comments and rumors out of Capital Hill pushed markets first deep into the red and then back to unchanged on the day on extremely light volumes. Some of the most interesting price action was in the VIX. The index traded to nearly 21 when stocks were at their low, and the futures went into slight backwardation. Backwardation is when the near month future is more expensive than the back month and signals extreme market anxiety. However as soon as news broke that the House would reconvene Sunday night in Washington stocks took off and the VIX sold off to close on the lows of the day. In these low volume markets it does not take much to get major market moves and reversals like we saw yesterday. Today Obama is scheduled to meet with Congressional leaders and I expect the market to hang on their every word.

Yesterday’s retails sales data was weaker than expected, which prompted a selloff in retail stocks. However one option trader was buying calls on the weakness in Michael Kors. The trade was the purchase of 870 Jan. 55 calls for $0.55 with the stock at 48.80. This trade will profit if KORS is above 55.55, 13.8% higher, at January expiration.

Michael Kors has been a public company for just over one year and is up over 80% in that time. Despite the run up in its shares the company was added to Goldman’s conviction buy list last week and remains a strong buy at Citi. The reason is expectations of strong growth in Q1 and Q2 of 2013. Growth is expected to be driven by very selective discounting, increasing jewelry sales, and increasing brand awareness in North America. However, the stock faces some risks, such as slowing department store traffic and potentially higher taxes on target market due to the fiscal cliff. But KORS is well positioned to weather these risks. By having minimal exposure to Asian and European markets the company is not subject to the slowing economies overseas. Also, by offering upscale products that are more affordable than the highest end designers like Prada and Louise Vuitton its products are seen as an affordable luxury among consumers. Within North America KORS has plenty of room to grow and the brand continues to gain consumer awareness due to the appearance of Michael Kors himself on Project Runway.

Further growth in this stock will be driven by continued earnings growth. The stock is trading at 40 times trailing earnings, which shows traders are betting heavily that these sales will continue their dramatic increase. KORS is positioned to do better than many US retailers in Q1 of 2013 but growth rates could slow if the US goes off the fiscal cliff or economic growth stagnates. Because of the stock’s high PE ratio I would only play this stock with out of the money calls in order to keep downside risk as limited as possible. KORS bounced off of its 200-day moving average yesterday and I think buying into the weakness with the stock at this support level makes sense.

Thursday, December 27, 2012

Morning Update

This morning US s5tock futures are indicating a higher open on the back of better than expected jobless claims and a lower dollar. However, the market’s main interest will continue to be the fiscal cliff, with rumors driving the market’s direction. The broad market has shown some resilience so far in cliff negotiations while the VIX has been strongly bid. This implies traders are not rushing to sell stocks, but rather buy option protection for their positions. Geithner said yesterday that the US would “rise above” the debt ceiling on Dec. 31st though the Treasury could use emergency measures to delay this for another two months. If the tax hikes become effective January 1st though, this 2 moth cushion could last even longer. This could be why there appears to be little sense of urgency in Congress and it looks like the odds of getting a deal done by year end are minimal now.

With many traders still on vacation yesterday volumes were generally low. However one stock that caught many traders attention was Ford, which traded 3.8 times its average daily call volume. This was on the news that the2013 Ford Fusion had achieved the top crash safety rating from the Insurance Institute for Highway Safety. The top trade of the day was the purchase of 40,000 Feb. 13 calls for $0.44 with the stock at 12.55. This is a $1.76 million bet that Ford will be above 13.44, 7% higher, at February expiration.

Ford will report earnings on January 25th, which will be the stock’s major catalyst ahead of February expiration. Traders will be looking at earnings in three different segments: North America, Europe, and Asia. Ford holds 16% of the market in the US and sales have taken off in the last three years. Currently the average age of a car on the road in North America is 11 years, which bodes well for increased Ford sales. North America has been Ford’s bread and butter and traders will be looking for profits to remain strong. In Europe operations have not been profitable recently due to the economic hardships there. Ford has implemented a major cost saving initiative to save $500 million over the next few years, so traders will be expecting losses to decline here. Finally, Asia looks to be the most lucrative market for Ford and has been the primary driver of sales growth for the company. November broke several sales records in China and traders will be looking for the momentum to continue.

Looking at TTM PE Ford also looks relatively cheap compared to other major auto companies. Ford TTM PE ratio is 2.938 while GM, Honda, and Toyota are all over 10. Technically the stock also looks strong, having just broken a major resistance level at 12.65. This has put the stock within sight of making a new 52-week high at 12.85, which, if broken, could take the stock up to its next resistance level at 14.25.

Ford looks like a solid beta play on the global economy. If conditions are improving in the Eurozone, the US avoids the fiscal cliff, and China’s growth accelerates, Ford will do well in 2013. I like buying calls for now because there is so much uncertainty about whether or not we will see global growth next year. By buying calls you keep risk limited through Feb. expiration and can capture some upside if earnings are good and the fiscal cliff is avoided.

Monday, December 24, 2012

Morning Update

Overnight volumes have been expected light ahead of the Christmas holiday. S&P 500 futures traded down to test Friday’s lows but have since bounced and are down small from Friday’s close. This move has closely tracked trading in the Yen and Euro, with the Yen and Dollar hitting highs as the S&p hit lows. Currency markets should be a good barometer of risk sentiment this week as equities see low volume. Look for the S&P 500 to follow the EUR/USD pair and the USD/JPY pair. When markets reopen on Wednesday morning expect the focus to be on the fiscal cliff again, with Obama’s “Plan B” in the spotlight. The bill Obama is expected to try and pass will likely extend tax cuts for people making less than $250K, increasing capital gains and dividend taxes to 20% and extending unemployment spending through 2013.

On Friday markets around the world tumbled as a bout of risk aversion, driven by Speaker Boehner’s failure to get enough votes to pass “Plan B”, swept markets. One stock that held up surprisingly well was General Dynamics, a defense giant. The S&P 500 ended 0.9% in the red but GD, after gapping down, ended up 0.2% and on its highs. In fact GD closed at its highest level in 6 months and is now decisively above where it was ahead of Obama’s re-election. The stock saw heavy stock and option volume on Friday, with the biggest trade of the day being the sale of 3400 Jan. 72.5 calls for $0.70 against 34,000 shares of stock bought at 70.10. This is a buy-write trade and shows that the trader is bullish on the stock with a price target of 72.5 at January expiration. This trade will profit if GD is above 69.40 at January expiration and can return a maximum of $3.10 if GD is at or above 72.50 at expiration.

A defense company like General Dynamics might seem like a strange stock to outperform the market on a day when fears of going of the fiscal cliff are high, but it is looking like the fiscal cliff will not be as bad as previously thought for the sector. On Friday the House and Senate passed a bill that will give the Pentagon $640.7 billion for the fiscal year that began on Oct. 1st for defense programs. This is $1.7 billion more than President Obama requested, which is why the defense sector has caught a bid. General Dynamics will benefit in particular because the deal includes a contract for a new Virginia class submarine from General Dynamics as well as a contract to continue production of upgraded Abrams tanks for the Army.

This defense bill had bi-partisan support and is likely to be signed by Obama. This provides the future of General Dynamics with some certainty and has given investors the confidence to step back into the stock. I recommend using a buy-write strategy like this trader did because it provides exposure to the stock while limiting the downside and cutting some of the day to day volatility. The market, and defense sector included, is not out of the woods yet and this holiday trading could cause significant gyrations in the market. That said, the January expiration cycle is typically a great time to be short option premium because of the holidays. By selling a call you get to keep the option premium collected no matter where GD is at expiration, and this premium can greatly enhance returns in a choppy market.

Friday, December 21, 2012

Morning Update

Last night Speaker Boehner scraped the House’s vote on “Plan B” because there were not enough Republican votes to pass it. This sent stocks around the world tumbling and a heavy dose of risk aversion in currency markets. S&P 500 futures lost about 50 points in a matter of minutes but has since stabilized higher and are down 22 ahead of the open. The US dollar and Yen as also stronger this morning as trader s move into safe haven assets. The VIX is the real mover on the news and the Jan future is up over 7%. Speaker Boehner is expected to speak at 10 EST and could give the market a clue as to his next move. The good news out of the Plan B failure is that everyone, especially the President, knows which Republicans will not compromise on tax increases, whether Boehner wants them or not. Boehner will have to tell Obama that if he wants a bill he will have to rally Democrats to meet the Republics that are willing to compromise half way. However, if Obama cannot get Democrats to compromise or Boehner loses too many additional votes on a compromise bill the US is likely to go off the cliff.

One of the worst performing asset classes this month has been silver. The entire metals complex has been sold hard since the Fed’s announcement last week, and the move has many traders perplexed. Typically silver, like gold, is seen as an inflation hedge and would be expected to appreciate after the Fed announced it would increase its asset purchase program. We trade gold and silver based on a macroeconomic model and have found that part of the sell-off in metals has been due to a “risk on” trade where funds are buying riskier high-yield debt and selling metals, which yield nothing but are safe havens. We also suspect there has been short term pressure on the metals due to end of the year profit taking and fund liquidation.

Yesterday one trader sold a Jan. 29 call and put in SLV, the physical silver ETF, for a net credit of $1.55. This trade is a bet that silver will remain range bound between 27.45 and 30.55 (+/- 5%) over the next 28 days. Our models suggest gold and silver are near their fair value at current levels, and expect only a few percent in upside over the next month. The silver market is much smaller and therefore more volatile than the gold market, so silver is used as a beta play on gold. This makes silver options relatively more expensive than gold which means that there is more premium to be collected by selling options. Of course with more potential reward comes more risk, and silver has been known to move over 3% on a daily basis.

While I like the idea of betting on range bound silver, I think this trade, with unlimited risk in both directions is too risky. Because I am mildly bullish on metals here I prefer a covered call position where you are long the ETF and short an at the money call. This position will profit if silver remains range bound to up, and will have limited risk on the downside.

Wednesday, December 19, 2012

Morning Update

Ahead of the US open global risk sentiment appears strong. Asian stock indices were up, led by the Nikkei (+2.39%) on reports that LDP and its coalition will pass a new US $119B stimulus package to spur on the Japanese economy. News out of Germany was also positive this morning, with IFO business confidence rising month/month. Housing data in the US was positive this morning, lead by strong gains in the South that made up for weakness in the northeast. The fiscal cliff will continue to have the most sway over US markets. The House is expected to pass Boehner’s “Plan B” as early as tomorrow despite Reid’s statement that it will not pass the Senate. This is seen as a way for Republicans to shift blame for going off the cliff onto the Democrats. After strong gains the past few days I would not be surprised to see some profit taking today or tomorrow unless real progress on a deal is announced.

This week the Dow has put in back to back triple digit gains, led by Bank of America. This stock has already doubled this year, and option traders are betting on continued momentum. Yesterday BAC was up over 3% and the call-put ratio was 3.2:1 on heavy option volume. One trader bought 4531 Jan. 12.5 calls for $0.09 with the stock at 11.22. This is a bullish bet that will profit if BAC is above 12.59, 12% higher, at January expiration in 30 days.

This bullishness comes on expectations of a resolution to the fiscal cliff and that BAC will breeze through the next round of government stress tests. If the stock passes the stress tests it will be allowed to raise its dividend from the $0.04 it currently pays. Meredith Whitney thinks the company could pay out as much as $18 billion, which would be a payout of about $1.60/share. Bank of America currently has $9.87 in cash per share and trades at 0.6 times book value. BAC also has a better debt-to-equity ratio than both JPM and C, making it relatively attractive in the banking sector. The only troubling aspect of BAC is that its EPS and revenue have been in decline on a year of over year basis. This has been in line with analyst expectations, but a trend I would like to see reverse.

Because BAC has risen so much in 2012 I would rather buy calls on the stock than own in outright now. Bank of America will report earnings on Jan. 17th, which will be just before January options expiration. Call options also remove a lot of the risk of holding stocks through the fiscal cliff negotiations and will minimize losses if we go off the cliff. If there is a solution to the fiscal cliff BAC is likely to continue its rally into earnings, which, if good will add more fuel to the rally. The stock’s book value is currently $22.14 and on expectations of a large dividend payout the stock could rally there or even higher. Buying Jan. options will be a play on BAC’s upcoming earnings. If the options are in the money I would exercise them and buy the stock to hold through March.

Tuesday, December 18, 2012

Morning Update

Yesterday the market closed on the highs of the day in a follow through move from Friday’s reversal. The eMini S&P 500 futures punched through the technically significant 1420 level with relative ease, and it looks like momentum is on the bulls side for the near term. However, the market will continue to be driven by every word out of Washington on the fiscal cliff. The latest developments in the negotiations seem to show a deal is getting closer, but we will believe it when we see it. Boehner is due to meet with House Republicans at 9 EST and a press conference is scheduled shortly after.

Apple, the world’s most valuable company, has seen some huge intraday ranges the last few days. This has sent historical, or realized, 20-day volatility near its 2012 highs and implied volatility near levels typically only seen just before an earnings announcement. This, combined with expectations of light trading through the holiday season, has many option traders selling out of the money AAPL options. One trader sold 512 Jan. 630 call for $1.19 and bought 512 Jan. 640 calls for $0.99. This creates a bear call spread, which is a fixed risk, fixed reward trade that profits if AAPL is below 630 at expiration. The maximum risk in this trade is $9.80 and maximum reward is $0.20.

This trade has a very poor risk reward profile since its maximum profit is only 2% of its maximum risk. However, given current implied volatilities in AAPL, this trade has an approximately 97% chance of profitability since the 630 strike is about two standard deviations from yesterday’s close. There are 31 days to January expiration, which gives this trade an annualized return of 16%. While this may look tempting to many investors, it is important to remember that AAPL has been known to make two standard deviation moves, especially in the past two months.

By selling an out of the money call spread this trader is expecting AAPL to be range bound between 500 and 600 through January. Personally, I bought AAPL at the money AAPL calls when I saw the stock following through off it is lows yesterday. I am looking for momentum to continue driving its short term bounce and will be quick to take my profits if the stock begins to look range bound. d is one play to consider. If you are bearish to neutral on AAPL then go with the bear call spread, and if you are bullish to neutral, go with a bull put spread.

Monday, December 17, 2012

Morning Update

This week all eyes will again be on the fiscal cliff negotiations in Washington, with comments from Congress driving the market. Over the weekend The Hill reported that Boehner offered to increase the debt limit for one year though Boehner said shortly after “Any increase in the debt limit will require a greater amount in spending cuts” which seems to negate any progress that had been made and puts the negotiations back at square one. Last Thursday and Friday the spot VIX index rose, and the Dec. contract, which expires Wednesday, rose in lockstep with it. However, the Jan. contract actually traded down on Friday, which suggests the market is only fearful in the near term and predicts the VIX to fall into Jan. expiration. The below average amount of contango between the Dec. and Jan. contracts is somewhat of a bearish sign for this week, and could mean the market sell off if comments out of Washington continue to disappoint.

As the fiscal cliff nears the market is beginning to wonder what going off the cliff will mean for the US economy. One sector likely to be among the hardest hit by the fiscal cliff is the defense sector, which is highly dependent on government spending for revenue. Lockheed Martin CEO Robert Stevens recently said that going off the fiscal cliff would be “devastating.” That is because sequestration would mean funding cuts to all discretionary accounts, including a flat 9.4% to defense and 8.2% across non-defense programs. The stock ended lower by 3% last week and saw unusually high put volume on Friday. The biggest trade of the day was the purchase of 20,000 Jan. 80 puts for $0.40 with the stock at 89.59. This is a bearish bet that the stock will be below 79.60, 11% lower, at Jan. expiration.

Friday Lockheed Martin signed a contract with the Pentagon for an order of 32 more F-35 Joint Strike Fighters at $107MM apiece. The development of this fighter jet has been plagued by cost overruns which has made it the most expensive weapons program in US history and made it a symbol of military wastefulness. Last year it was estimated that the total cost to the Defense Department for 2,443 of the planes desired, along with their operating expenses, would be over $1 trillion, or larger than the entire GDP of Australia. With so much government money going to defense companies like Lockheed Martin it is difficult to imagine a fiscal cliff deal that does not cut at least some of the Pentagon’s defense budget. The big question will be how much of this budget gets cut, and that is anyone’s best guess.

Buying puts on Lockheed Martin is one of the better ways to play the fiscal cliff. As we approach the end of the year without a deal, the stock is likely to sell off. If we do get a deal, it is still likely to include some cuts to the defense budget, which could also push this stock down. The key to this trade is to keep a favorable risk/reward profile by buying Jan. puts that are about 10% out of the money. If Lockheed Martin approaches the strike bought I would take profits on the trade and move on to the next instead of holding short stock after expiration.

Friday, December 14, 2012

Morning Update

Overnight risk sentiment in Asia and Europe was buoyed by a strong PMI out of China. Japanese data was weaker than expected, confirming an accelerating recession in the country. Then Yen has been strong though after hitting major support levels against the Australian and US dollars and ahead of Japanese elections this weekend. This morning the US CPI posted its biggest decline in 6 months but industrial production topped even the highest estimates. With congress at home for the weekend Fiscal Cliff headlines, which control the market right now, are likely to be muted today, leaving only the market technical to fuel trading. The S&P 500 futures are currently at their 50 day moving average, which should provide some support.If Fiscal Cliff fears to surface, I would expect to see the Jan. VIX contract, which has been under performing the Dec contact, catch a bid.

Yesterday MetLife issued a warning to investors that next year’s earnings could come in less than analysts are expecting and below its prior guidance. This sent shares down 2.3% but did not deter some bullish option trades. The biggest trade of the day was the purchase of 9473 March 37 calls for $0.58 with the stock at 32.92. This trade will profit if MET is above 37.58, 14% higher, in the next 91 days.

MetLife’s announcement said that they now expect operating earnings of $4.95 - $5.35 in 2013, would take a $800MM charge in the fourth quarter, and do not expect to buy back stock in 2013. Operating earnings are expected to decline due to the company’s struggle with the current low interest rate environment. Next year the company expects to reduce its sales of variable annuities with guarantees of lifetime income as baby boomers, worried that they will outlive their savings, rush to buy them. These products are not as profitable as they used to be because they are capital intensive and low interest rates make hedging difficult. This is a sign that MetLife is shifting its focus into more profitable, higher margin businesses. In order to further reduce capital requirements and decrease regulatory scrutiny, MetLife announced that it was conditionally approved to sell $6.5B of its bank deposits to GE in move to get rid of its bank holding company status. Once MetLife has sold its bank it will not be subject to stress tests and will be able to buy back shares more easily.

Though this announcement was bearish in the short term, it shows that MetLife positioning itself for long term growth. CEO Steven Kandarian stressed that although share buybacks were not likely in 2013, they would be in future years. MetLife currently trades at 60% of its book value and has a dividend yield of over 2%. Once the company gets through Q4 and investors become more comfortable with the idea of slower growth in 2013 for strong growth in 2014 and beyond, the stock could begin to rally towards book value. Since the stock could see near term volatility ahead of Q4 earnings I would not buy the stock now, and opt for the fixed risk profile of a call option. If, at March expiration, MET has rallied and is above 37 the trade will be profitable and you will have the option to buy the stock there and hold it for continued profits.

Thursday, December 13, 2012

Morning Update

Yesterday’s Fed meeting fell largely in line with market expectations with the announcement that the Fed would make up for the end of Operation Twist with $45B in outright asset purchases on the long end of the curve. The biggest surprise was that the Fed said they will keep the Fed Funds rate at current levels until unemployment is at 6.5%. During the preconference Bernanke elaborated that this is not a hard and fast target, but more of a guideline. Stocks gave up their gains on this news to finish in the red along with bonds on the day. The big mover overnight has been gold, which is down 1.25% at the moment despite the bullish fundamentals from the Fed. The sell-off began at the open of Asian trading and was likely profit taking after the metal’s run up into the announcement. We remain long term bullish on gold and expect the metal to appreciate in lock step with the size of the Fed’s expanding balance sheet.

Yesterday the market got its first look at what RIM’s BB10 is likely to look like as photos leaked online. RIM’s shares jumped 5.6% yesterday and have doubled in price since its September lows. The huge move has been driven by upgrades from analysts and the belief that BB10 can save the company. Option volume was heavy on calls yesterday, with two trading for every put. The biggest trade of the day was the purchase of 4,800 Jan. 12 calls for $1.48 with the stock at 12.61. This is a bullish bet that RIM will be above 13.48, 6.9% higher, at January expiration in 36 days.

The new BB10 is RIM’s latest effort to win back market share from Google, Apple, and Samsung. The phone looks similar to an iPhone: large touch screen, minimal buttons, front and back cameras, and home screen with apps. Where BB10 differs from the smartphones already on the market is the operating system it will run on. The software has been developed by RIM and will feature the ability to have a work mode and personal mode. This will enhance data security and allow users to avoid seeing work emails on the weekend if they choose. BlackBerries have been very popular with the corporate world, and this phone looks aimed to keep it that way. RIM has reiterated that they expect to launch BB10 in Q1 next year. In addition to the touchscreen model, RIM will also release a model with a full QWERTY keyboard.

Clearly the sentiment on RIM has changed in recent months, but I would be cautious buying the stock at these levels. RIM has already doubled in the past few months so it will be difficult for the stock to continue its blistering upward trend without significant news. I would also be wary of a “buy the rumor, sell the news” scenario surrounding the BB10 release since there is so much hype leading into it. However, if BB10 does win favor with corporations and government entities along with consumers RIM could go significantly higher. If you want to play this stock I would stick to buying call options for now in order to keep risk limited. If, after the release RIM continues to look strong and BB10 is well received, then I would consider taking a stock position.

Morning Update

Yesterday’s Fed meeting fell largely in line with market expectations with the announcement that the Fed would make up for the end of Operation Twist with $45B in outright asset purchases on the long end of the curve. The biggest surprise was that the Fed said they will keep the Fed Funds rate at current levels until unemployment is at 6.5%. During the preconference Bernanke elaborated that this is not a hard and fast target, but more of a guideline. Stocks gave up their gains on this news to finish in the red along with bonds on the day. The big mover overnight has been gold, which is down 1.25% at the moment despite the bullish fundamentals from the Fed. The sell-off began at the open of Asian trading and was likely profit taking after the metal’s run up into the announcement. We remain long term bullish on gold and expect the metal to appreciate in lock step with the size of the Fed’s expanding balance sheet.

Yesterday the market got its first look at what RIM’s BB10 is likely to look like as photos leaked online. RIM’s shares jumped 5.6% yesterday and have doubled in price since its September lows. The huge move has been driven by upgrades from analysts and the belief that BB10 can save the company. Option volume was heavy on calls yesterday, with two trading for every put. The biggest trade of the day was the purchase of 4,800 Jan. 12 calls for $1.48 with the stock at 12.61. This is a bullish bet that RIM will be above 13.48, 6.9% higher, at January expiration in 36 days.

The new BB10 is RIM’s latest effort to win back market share from Google, Apple, and Samsung. The phone looks similar to an iPhone: large touch screen, minimal buttons, front and back cameras, and home screen with apps. Where BB10 differs from the smartphones already on the market is the operating system it will run on. The software has been developed by RIM and will feature the ability to have a work mode and personal mode. This will enhance data security and allow users to avoid seeing work emails on the weekend if they choose. BlackBerries have been very popular with the corporate world, and this phone looks aimed to keep it that way. RIM has reiterated that they expect to launch BB10 in Q1 next year. In addition to the touchscreen model, RIM will also release a model with a full QWERTY keyboard.

Clearly the sentiment on RIM has changed in recent months, but I would be cautious buying the stock at these levels. RIM has already doubled in the past few months so it will be difficult for the stock to continue its blistering upward trend without significant news. I would also be wary of a “buy the rumor, sell the news” scenario surrounding the BB10 release since there is so much hype leading into it. However, if BB10 does win favor with corporations and government entities along with consumers RIM could go significantly higher. If you want to play this stock I would stick to buying call options for now in order to keep risk limited. If, after the release RIM continues to look strong and BB10 is well received, then I would consider taking a stock position.

Wednesday, December 12, 2012

Morning Update

Yesterday the market closed near the highs of the day with the VIX futures at the lows. When Senator Reid came on TV to say that he did not expect to see a fiscal cliff deal before Christmas the S&P sold off slow and steady, but VIX did not catch a bid. The market then recovered into the close, which suggests traders do not believe Reid and are not worried. Today trader’s attentions will be on the FOMC meeting, which is expected to result in the announcement of additional asset purchases to make up for the end of Operation Twist. Gold is higher this morning and the dollar weaker ahead of the meeting.

AIG has had a busy week in the news, first announcing the sale of most of its International Lease Finance Corporation (ILFC) to the New China Trust Co., and then the government’s announcement that they will sell their remaining stake AIG. This has sent shares up 3.3% on the week and 5.7% yesterday. The headlines also created a flurry of option activity on the stock as traders try to predict its next move. One trader took a large bearish position on the stock by buying 8673 Jan. 34 puts for $0.78 in the final minute of trading on Tuesday. This trade will profit if AIG is below 32.22, 3% lower, at January expiration.

This bearish trade is likely a hedge to a long stock position and is being used to protect the gains seen in yesterday’s trading session. The US Treasury’s sale will bring 234.1 million shares to market, which could put some pressure on the stock. AIG is also looking at about $1.3 billion in losses from Sandy, and expected to report a non-operating loss of $4.4 billion in Q2 2013 as a result of selling ILFC. These headwinds could weigh on the stock in the near term, along with profit taking ahead of the fiscal cliff.

However, over a longer term AIG looks poised for significant appreciation. First, the stock has become a favorite of hedge funds and was one of the most popular stocks among institutions investors last quarter. This shows strong demand for the shares, which makes sense considering the stock trades at just over half of its book value. Many investors did not want to purchase a partially nationalized company, but with the company completely privatized now the shares should appeal to an even wider investor base. Regarding AIG’s losses from Hurricane Sandy, they look big on paper, but when put in context of the company’s $102B equity capital base, do not appear have long term ramifications. The sale of ILFC for less than book value is another example of short term pain for a long term gain, because ILFC was not profitable and AIG will now be able to focus on its core insurance business. AIG will also retain at least a 10% stake in ILFC so that it will be able to participate in some of the upside if ILFC is turned around.

While AIG could see some near term selling pressure, I am a buyer on weakness and would rather be short puts than buying them. If you already have an AIG position, protecting profits after a sharp move up is never a bad idea, but I would not be betting against this stock. To initiate a position in AIG for a long term trade I like selling out of the money puts at levels you are willing to buy the stock. This allows you to get paid to wait for a good entry price and take advantage of any selling pressure the stock sees in the near term.

Tuesday, December 11, 2012

Morning Update

Yesterday was a relatively quiet US trading session that ended with stocks up and the VIX up. However, the December future was unchanged and the Jan. future was down 0.20, which brought the December future in line with the spot VIX. The January future is the one to watch for fiscal cliff fears, and the selloff suggests a lack of fear in the market. This morning the S&P futures are up with the VIX futures down, mostly on positive news out of the Eurozone overnight. The S&P 500 futures are currently above the 1420 level which has been a resistance level. I would expect a test of the level in the regular trading hours and will be looking to see if it is able to hold as support. Risk sentiment has been fueled by stronger than expected Spanish and Italian t-bill auctions, and the German ZEW survey posted its strongest reading since May 2012. This has the Euro higher against major currencies,a nd dollar weakness will be supportive today. The Swiss Franc is notably weak this morning after UBS joined Credit Suisse in declaring it will begin charging clients for Swiss Franc deposits next week. This likely foreshadows possible move by the SNB to move to negative deposit rates at their Thursday meeting.

Waste Management is in the business of turning trash into cash, but its 2012 performance has left many investors disappointed. The stock is up 8.9% year to date but has lagged the S&P 500 and its peers. The company has a record of consistently raising its dividend and it a favorite of investors seeking yield. The company has just announced it will be raising its quarterly dividend by 2.8%, pushing the stock’s current yield to 4.2%. Yesterday we saw a trader make at bet that the stock will catch a bid in the first half of 2013 by buying 10,000 July 35 calls for $1.20 with the stock at 34.24. This trade will profit if WM is above 36.20, 5.7% higher, at July expiration.

What has held Waste Management back in 2012 is its year over year declines in net income. This has been the result of lower commodity prices. Waste Management has a stellar balance sheet though, which has allowed it to continue raising its dividend, while its sheer size has let it largely unaffected by smaller competitors entering the industry. Recently the company has said that in 2013 they expect operating cash flow to grow by double digits, which is the reason behind their dividend hike. Waste Management’s success in 2013 will be largely tied to both the strength of the US economy, as well as the company’s ability to reduce costs in order to increase margins. CFO James Fish is implementing a plan to flatten the management structure in order to unlock long term efficiencies, but this could lead to increased costs in the short term. Therefore, I am a buyer of calls with this trader in order to gain exposure to the stock’s potential upside. If economic growth stalls in the first half of next year or Waste Management’s restructuring is ineffective, risk will be limited to $1.20. But if Waste Management is able to increase its net income and provide upward guidance the stock could take off in 2013.

Monday, December 10, 2012

Morning Update

Overnight Japan reported weaker than expected GDP, which means that the country is officially in recession. The contraction is due to, in part, slowing exports to China, which confirms a slowdown there as well. In Europe Italian PM Mario Monti lost support of former PM Berlisconi’s party in parliament. Monti is likely to quit before the end of 2013, which has European shares down and Italian bond yields trading at their widest spread to German Bunds in 4 months. Last week a weak Spanish bond auction sent Spanish bond yields higher as well, showing waning investor enthusiasm for Europe’s weakest links despite the actions of the ECB. In the US Obama and Boehner met in person, though there are no reports of what was discussed. In this case I see no news as good news. As long as they are not publicly complaining about a lack of bi-partisan cooperation I believe they are making progress. Reports also surfaced that republicans would be likely to support higher taxes on the wealthiest Americans if it meant an overhaul of entitlement programs, which is the type of compromise a deal will require.

In May 2012 ConocoPhillips spun off its refining arm, Phillips 66. Since its IPO Phillips 66 has appreciated by 60%, gaining 2.7% Friday on news the company would be raising its dividend by 25% and another $1 billion in share buybacks for the second quarter in a row. The stock’s call-put ratio was 9.2:1 on Friday, showing heavy call option activity. The biggest trade of the day was the purchase of 11,886 May 65 calls for $1.05 with the stock at 52.22. This is a bullish bet that PSX will be above 66.05, 18.8% higher, 158 days from now.

Phillips 66 currently yields 2.3% and has shown a commitment to returning shareholder value since its IPO. But this has not come at the cost of growth, which looks strong going forward. In June CEO Greg Garland announced that he would like to increase delivery of shale crudes to Phillip’s refineries by 100,000 to 150,000 bpd within 2 years. Garland plans to accomplish this by using rail cars, and the company has since purchased several thousand. Bakken crude is one of the most efficient crudes for refiners to use because it leaves very little residual waste products during the refining process. Phillips has also recently entered agreements with Kinder Morgan to deliver Ford Eagle crude to its Texas refineries. Garland believes that the exploration and production side of the energy business will continue to expand faster than the infrastructure for transporting crude oil. If this scenario plays out PSX will be able to keep its supply costs low and widen profit margins further in the future.

I would buy the stock on a dip or buy call options on the stock to profit on a continued rally. However, I would not chase this stock higher. PSX has rallied nearly $10 in the past 3 weeks so traders should look for profit taking as an opportunity or an entry.

Friday, December 7, 2012

Morning Update

This morning the NFP report for November came in well above expectations at +146K jobs which brought the unemployment rate down to 7.7%. This is the lowest unemployment rate seen in 4 years and is the result of 350,000 people leaving the labor force. The BLS said that there were no discernible impacts from Hurricane Sandy, contrary to expectations. Overall this appears to be a bullish report and contracts the poor ISM manufacturing, PPI, and durable goods orders for the month. The market is higher on the news but we expect traders to remain cautious about getting overly long before a fiscal cliff deal is announced.

Yesterday Nokia saw some of the highest call option trading volume of the whole market. The biggest trade of the day was the purchase of 22,260 January 7 calls for $0.38 with the stock at 3.69. This is a bullish bet that the stock will be above 7.38, a 100% gain, over the next 42 days.

Nokia’s stock has been beaten down in 2012 as the company continues to lose market share from Apple’s iPhone, and Google’s Android. However the stock is well off its 52 week low of 1.63 and is trading near six month highs. The stock’s recent momentum is due to a few things: the release of new apps, analyst upgrades, and the Lumina Windows phones.

Nokia’s biggest struggle has been against the structural decline of feature phones and rise of smart phones. Nokia currently generates 65% of sales from feature phones but analysts predict this market to shrink by 50% by 2014. Nokia is also struggling to sell Lumina phones when consumers can buy Android smart phones for less. Nokia’s hope for growth is tied to the success of Window’s phones. If Windows 8 can prove itself as a superior mobile operating system to Android and iOS, Nokia may be able to gain some of the smart phone market share. Unfortunately for Nokia, HTC also makes Windows phones. These companies will be in fierce competition for the Windows market share, which is likely to drive down prices and margins. Some analyst is optimistic that Nokia’s launch of the new Lumia phones in Asia and Europe will be enough to get the company back on track, which has led to a few upgrades in recent weeks.

Expecting a 100% move on top of the rally the stock has already seen this month seems to be asking for a lot in my opinion. Even if the Window’s phone is wildly successful, Nokia will still have to compete on price with HTC for that market, which will keep margins down. The biggest catalyst I see to rapid share appreciation is the short interest in the stock. Currently it would take over 10 days for all of the shorts to cover their positions based on the stock’s average trading volume. This means that if the stock’s upward momentum continues a short covering rally is likely to ensue.

Thursday, December 6, 2012

Morning Update

This morning jobless claims were reported at 370K, which beat consensus expectations of 380K. This is the third straight week of declines in claims since the spike caused by Hurricane Sandy and suggests the effects of the storm are wearing off. In Europe strong manufacturing data out of Germany and strong risk sentiment in Asia sent European shares higher in early trading, but the major indices are since well off their highs. The Euro is lower and the Yen higher, suggesting traders are positioning themselves into risk-off positions. Spanish and Italian debt has had a rough day, with Spanish 2yr spreads 38bps wider on the week. Swiss 2yr rates hit 3 month lows this morning, also confirming the risk off sentiment. Today I would not expect to see too much action in US equity markets as traders sit tight ahead of tomorrow’s jobs numbers. The market is looking for payrolls to increase by 80,000 versus 171,000 last month, and for the unemployment rate to increase 0.1% to 8.0%.

One of the best performing stocks in the S&P 500 yesterday was Bank of America. Shares closed 5.7% higher on the day and outperformed the KBW Bank Index, which was up 1.7%. Bank of America not only saw heavy stock trading volume, but also heavy call option volume, sending the call-put ratio was 3.4:1. Heavy call volume indicates that traders are expecting Bank of America to extend its gains into the New Year. One trader bought 10,000 Feb. 10 calls for $0.76 with the stock at 10.23. This is a bullish bet that profits if BAC is above 10.76, or 5.2% higher, at February expiration.

Bank of America shares have been rallying since July and have risen over 50% since its summer lows. CEO Brian Moynihan has sold $60 billion in assets, increased capital, and targeted $8 billion/year in spending cuts. BAC will face the next round of stress testing in March, but looks poised to breeze through it. Moynihan told employees in October that a dividend increase “will be on the table” after the stress tests.

Yesterday was the first time BAC closed above $10 since 2011 and made a new 52-week high. The $10 level was not only psychologically important to cross, but was also a technically significant resistance point. The next level of resistance the stock faces is not until $11, meaning BAC could run up another 10% from here. If the fiscal cliff is avoided and the housing sector remains strong, the banks, and Bank of America in particular, could continue their rally into the first quarter of the New Year. Since Bank of America has already appreciated so much and so rapidly, I prefer to own call options instead of the stock. The February expiration is after the next earnings announcement, which allows traders to profit from a rally into the announcement but with fixed risk should the numbers disappoint. If BAC still looks strong at February expiration I would be willing to own the stock and hopefully see a dividend hike in the near future.

Wednesday, December 5, 2012

Unusual Options Activity

Yesterday Netflix shares jumped 14% on news that Disney has struck a deal with the company to stream Disney, Pixar, and Marvel movies beginning in 2016. This is the first time a major Hollywood film studio has chosen web streaming over premium cable channels, and represents a major step forward for the Netflix business model. The stock saw above average option trading volume on the news, with most of the volume concentrated in call trading. One trader bought 400 weekly 90 calls for $1.39 with NFLX at 86.45. This is a bullish bet that will profit if NFLX is above 91.39 or 5.7% higher, at the close on Friday.

This trade is a speculative bet that near term momentum will continue to drive the stock upwards over the coming days. The market is eagerly awaiting disclosure of the financial terms of the deal, which could send Netflix shares sharply up or down depending on the news. Analysts believe Disney’s current deal with Starz is worth about $250 million per year and that Netflix could be paying as much as $300 million per year. The big Hollywood studios typically seek to maximum their return on content and will sell it to the highest bidder. This means that Disney does not necessarily believe its content will reach more viewers through Netflix than Stars, it simply means that Netflix was willing to pay the most for the content. If Netflix wants to continue acquiring exclusive content from the other major studios, the costs could quickly get out of hand. However, if Netflix was able to negotiate a deal similar to the $250MM/year Starz deal the stock could see more upside. Buying calls is a lucrative way to play this, but considering Netflix’s P/E of 96.2 I would stick to quick trades on the stock and look to invest for a longer term only once there is more clarity on the company’s financial situation.

Tuesday, December 4, 2012

Morning Update

Yesterday markets sold off on an exceptionally poor ISM manufacturing number which was reported at 49.5. Readings below 50 indicate contracting business activity. This comes on the back of poor durables goods orders and PPI last week, all of which suggest the US is headed for a recession. However, at the moment traders are preoccupied with budget negotiations going on in DC. On Friday traders will be watching the November unemployment report, though the reading could be distorted by Hurricane Sandy. Next month’s ISM manufacturing, unemployment, PPI, and durable goods orders will be extremely important because they will either confirm or deny the slowdown seen in the most recent data.

Yesterday fiscal cliff worries were at the forefront of traders’ minds, which sent the S&P 500 down 0.5% on the day. Should the US go off the cliff, there is a high probability of a recession in the near future. This has option traders playing defense ahead of the New Year by selling out of the money puts on consumer staples like PepsiCo. Yesterday a trader sold 1,760 Jan. 67.5 PEP puts for $0.45 with the stock at 70.24. This is a bullish trade that will profit if PEP is above 67.05 (4.5% lower) at January expiration in 45 days.

Option traders sell puts on stocks they are willing to own at the strike price. If the stock appreciates and is above the strike at expiration, the trader is able to book profits. If the stock is below the strike the trader is put to the stock and now has a long position at a price they are happy with. In this case, the trader has said that they are willing to buy PEP for an effective price of 67.05, and will collect an annualized 3.7% in option premium to patiently wait for that entry price.

Looking at PepsiCo’s chart, the 67 level looks to be a strong area of support. It is below the stock’s November’s low and coincides with an area of resistance the stock broke through last April. Pepsi, along with typical defensive plays like the other consumer staples and utilities, is likely to weather a fiscal cliff induced recession better than most stocks. PepsiCo owns a valuable portfolio of brands, including everything from Pepsi and Mountain Dew, to Frito Lay, Quaker, Gatorade, and Tropicana. The company has been focused recently on expanding its range of non-carbonated juices and sport drinks and hopes to grow its Global Nutrition division by 230% between now and 2020.

Weather the US jumps off the fiscal cliff or not, consumers are still going to buy soda and potato chips, making PepsiCo a good defensive buy. By selling a put this trader is being paid to wait for an entry he likes instead of chasing the stock higher and buying at poor valuation. At 67.05 PepsiCo will yield 3.2% and has strong growth prospects ahead no matter what the economy does. If the US is in recession next year, this is one of the companies you will want exposure to.

Monday, December 3, 2012

Morning Update

On Friday the Brazilian statistics agency, IBGE, reported that their economy expanded just 0.6% in the third quarter, which was well below expectations. This sent Brazilian stocks tumbling, Petroleo Brasileiro among them. PBR has had a rough 2012: the stock is down 27.7% year to date and currently trading near its 52-week low. However, now the stock is getting cheap enough to entice Brazilian bulls to take a shot on the stock. On Friday one trader bought 8500 April 20 calls for $0.72 with the stock at 18.05. This is a bullish bet that will profit if PBR is above 20.72, or 15% higher, at expiration.

Brazilian growth is highly dependent on growth in China, is one of their largest trade partners. Brazilian stocks have been sold for the past few weeks as data out of China showed a slowing economy and analysts downgraded Brazilian GDP expectations for 2012 and 2013. However, this morning data out of China was upbeat; the HSBC’s Purchasing Manager’s Index rose to 50.5 from 49.5 in October. This reading beat expectations and indicates that the manufacturing sector in China is expanding. Brazil's PMI was also released this morning and showed a rise from 50.2 to 52.2. This indicates that Brazil’s manufacturing sector expanded at the fastest pace in two years and suggests that the government’s stimulus is finally helping the economy.

PBR is a government controlled integrated oil company and has a monopoly on the industry in Brazil. Therefore, this company stands to benefit immensely should the Brazilian economy return to the high growth rates seen in past years. PBR has underperformed the Brazilian Index EWZ by 16% this year, which suggests that there is a lot of negativity already priced into this stock. While one good PMI reading does not necessarily mean that there is a rosy outlook for PBR in 2013, it could entice some investors to step into the stock and pick a bottom. The stock has strong technical support around 17 and currently trades at 14 time forward earnings and pays a 1.3% dividend.

This trader is likely looking for the stock to bounce off of oversold levels should the data out of Brazil change to a more upbeat tone in 2013. Buying out of the money calls is the best way to play this, though PRB has long term structural challenges to face and could be forced to sell assets in 2013 even if the economy rebounds. Therefore this trade is highly speculative in my mind and should only make up a small portion of a portfolio that needs exposure to emerging markets or as a high beta play on rebounding global growth.

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