Wednesday, February 16, 2011

16 February 2011 Shining Up The Apple


16 February 2011 Shining Up The Apple

Iran decided it was tired of everyone talking about Egypt and Bahrain and Libya (Can you imagine people actually protesting to remove Kaddafi. 15 years ago that would have got you whacked.), so our friends in Iran sent a couple of war ships to the gulf of Suez to get everyone’s attention, but that did not matter and the market took it in stride. Our friends at the Fed had some optimistic things to say about the state of the economy. They bumped their expectations for growth up to the near 4% range. Hey isn’t that what England just said inflation was? So if inflation is headed toward 4% and growth is head towards 3.75%, mmmmm. Who cares it was good day in the market.

We did note with some concern that the IBD confirmed we were in an uptrend but each of the indexes picked up a day of distribution. We will mention more about that later. VXX creep up a bit today indicating some uneasiness in the market.

PIN Action in the Salve Lucrum Portfolio

We did initiate a new position in HOC, our pick of the day (yes I know I need a new graphic for my pick of the day, Thanks Ben.). We got in at $59.69. We are backing that up with a Jun $46.00 put for 1.00 or less, well know when the market opens.

We continued to add to our WCRX position. And we were feeling giddy and bought more of the that crazy Az mining company TUFF.

Homework Assignment for Me

We have a homework assignment (we are learning some interesting option strategies) tonight utilizing the 50 or so stocks and ETFs that have weekly option contracts. The ability to trade weekly options are relatively new, but we are comfortable you will be hearing more and more about them as time goes on.

If you are knowledgeable in the field of options (and I know a few of you are) you can find the list of weekly options on the CBOE website by following this link.

We are looking for growing fairly volatile stocks in order to create the kind of pin action we need to make nice gains in the 5 trading days of a typical week. That’s right these contract last one week. So if you are going to play (AND THIS IS NOT FOR THE FAINT OF HEART) you got to keep your eye on the ball. We have scanned the list of the 50 stocks and ETFs for EPS rich volatile stocks and stocks whose options are broadly traded. In other words there is good volume across at least two or three exchanges.

Before we get started by looking at a few equities, we always check the market. In stocks, the market is your friend. In options the market is your lover. According to Vectorvest and IBD, we are in a very confirmed uptrend ALTHOUGH I did note that each of the indexes picked up another distribution day indicating intense institutional selling. (Not a good thing boys and girls. Definitely worth keeping an eye on.) So from an overall market stand point, the market looks healthy.

AAPL Apple Inc., together with subsidiaries, designs, manufactures, and markets personal computers, mobile communication and media devices, and portable digital music players, as well as sells related software, services, peripherals, networking solutions, and third-party digital content and applications worldwide.

You all know that I am an Apple junky so it might surprise you that we are kicking the tires on the stock. While I follow the stock and have done very well with it, we have not givin it a true shake down since the May 6th Flash Crash where we were stopped out with a 29% gain creating all kinds of nice tax burdens. We did review the stock before rebuilding our current position. So let’s take a look.

Fundamentally, looking forward, the stock has a 14 P/E ration which by current market figures is not overly rich. EPS over the last 5 years is almost 60% which is great. There are some huge expectations for the stock so future EPS look incredibly normal, but they are looking to meet some big numbers. The stock is up 80% for the last 12 months and up about 13% since the first of the year. The average Analyst target price is $421 providing a nice 16% margin of safety. There is 30 dollars a share cash and they have no debt. Their Return on Equity (One of my favorites) is a whopping 36+%. The have some CEO that really know his stuff. (Rumor mill has him leaving a cancer treatment in Stanford today.)

Overall if we were looking for a long play on the stock we would get in at $360 or less, set a stop at $326 (the last time it glanced its 50 day moving average), and do some reviewing at $432 a share. Instead of a stop you could buy some protection by choosing a July 325 dollar put option for about $10.00 a contract. Again, that gives you the right but not the obligation to sell 100 shares of AAPL at 325.00 on July 17, 2011. If the price of AAPL were to decline between now and July 17th your put would become more valuable.

Everybody loves this stock and if IBD had a stockmate of the month, AAPL would be one of them. It has a composite rating of 95 out of 99, and green lights in almost all of the IBD categories that matter. The only cautionary note would be the accumulation/distribution rating is a bit down to a C- with A+ being the best. In looking at the chart, in the last 21 trading sessions 6 high volume days have been on the down side. It was up 3% today on 16 million shares compared to its 50 day average of 14 million. A few more positive days above the 14 million mark would make us feel better, but let’s just call it a blemish on a beautiful stock.

CAT Caterpillar Inc. manufactures and sells construction and mining equipment, diesel and natural gas engines, and industrial gas turbines worldwide. Its Machinery business engages in the design, manufacture, marketing, and sale of construction, mining, and forestry machinery, such as track and wheel tractors, track and wheel loaders, pipelayers, motor graders, wheel tractor-scrapers, track and wheel excavators, backhoe loaders, log skidders, log loaders, off-highway trucks, articulated trucks, paving products, skid steer loaders, underground mining equipment, tunnel boring equipment, and related parts. This business also involves in the design, manufacture, remanufacture, maintenance, and service of rail-related products, as well as offers logistics services. The company's Engines business designs, manufactures, markets, and sells engines for electric power generation systems, locomotives, marine, petroleum, construction, industrial, agricultural, and other applications; and related parts. This business also provides remanufacturing services for other companies. Its Financial Products business provides various financing alternatives to customers and dealers for the company's machinery and engines, solar gas turbines, and other equipment and marine vessels, as well as offers loans to customers and dealers. This business also provides various forms of insurance to customers and dealers to support the purchase and lease of its equipment. Caterpillar markets its products through distribution centers. The company was formerly known as Caterpillar Tractor Co. and changed its name to Caterpillar Inc. in 1986. Caterpillar was founded in 1925 and is headquartered in Peoria, Illinois.

Ok I know a few of you own CAT, but I do not think we have licked the tires on it in a long time. The 65 Billion dollar market cap makes this a goliath and as such might not lend itself to the kind of pin action we want with weekly options. However with bothe sides of the aisle in DC apparently agreeing in increased spending for infrastructure, DEERE and CAT might stand to benefit in the weeks and months to come.

CAT has a 13.17 forward looking P/E which is respectable. EPS this year is very nice and next quarter expectations look promising. The do carry a lot of debt, but that is the nature of the beast. Their product and plant capitalization is on the scale of a car manufacturer so carrying debt is normal. They have a 1.7% dividend that they are not straining to pay. Their ROE is a nice 27.6. All in all a well valued stock. They also announced the redemption of some 2016 notes today indicating they are cleaning up their long term debt. All good stuff.

IBD loves the stock giving it a 99 rating and the institutional buying is strong. It has a strong and positive trend of institutional buyers. The stock did well today probably being dragged up on DEERE good report. They don’t report again till April 26, 2011. Here is how we would play this. WE DO NOT OWN THIS but have put it on watch list. Based up the current chart, we don’t see a good entry point above $100.00 unless we can see three more days above 103.55 then one day of a soft correction.

Tellin a Friend

We took a nice profit today and wanted to explain to a few friends what the trade was and how it worked. We thought it might be of interest to you.

First we have a list of stocks on a watch list. Our watch list has about 34 stocks on it at the moment, some are stocks we just read about, other are stocks suggested from the various subscription services we belong to, some are stocks we stopped out of recently (See we don’t mind selling after an 8% loss because we know we can always buy them back usually at a better entry point.) We do a thorough analysis on these including fundamentals, news updates, SEC filing, and chart analysis.

Then we look at the general direction of the market. This is extremely important for option trading. If the market is in a confirmed uptrend as identified by IBD algorithms, then we like buying call options. If the market is trending down, we would be looking at buying put options. As a reminder buying a call option is the RIGHT not the Obligation to buy a stock at a future price (Strike Price) at a future date. Buying a put option is the RIGHT but not the OBLIGATION of selling at stock at future price (Strike Price) on a future date. The trend is your friend in stocks. The trend is your lover in options. If you do not want to study the many influences on the market place everyday, it would be wise to avoid options.

On February 9, 2011 we mentioned IDCC InterDigital, Inc. engages in the design and development of digital wireless technologies for use in cellular and wireless IEEE 802 related products. In the blog we suggested and got in on March 19, $55.00 calls for IDCC. (We won’t bore you how we determined this strike point and this option date-if you really want to know drop me a note.) You will see the transaction on your statement like this IDCC03/19/2011 55.00 C. That means you bought $55.00 call contracts and you paid $3.70 for each contract. Remember each contract controls 100 shares. So for $370 you are controlling $5,540.00 worth of Interdigital. (The stock closed on the 11th at $55.40.) Now you need to understand your break even point would be $55.00 + $3.70 or $58.70 As we expected, the stock is doing well (Current cost is $57.84.) People see this as a growing stock, so today they are willing to pay $5.30 for the same contract we bought for $3.70. That is a 43% gain in 3 trading days. We took the money.

Now we could have waited for the stock to go up and caught more of the call upside. And we could have just held the call and on March 19, you would have the right, not the obligation to buy 100 shares of IDCC for $55.00 a share regardless of what it was selling for. So let’s imagine the stock explodes while you were holding the call contracts and went to 70 a share by March 18. Your calls would be worth about $15.00. You could sell them for the 15.00 making a nice 11.30 a contract or 305% gain. Or you could exercise your right and own 100 shares of IDCC at 70 dollar a share. Your outlay would be 5,500 plus your original buy in of $370 for a total of $5,870. You could sell the stock at 70 and generate a gain of $1,130 which is a 19% gain.

We still like the stock and will be looking at the March 19, 2011 60 dollar calls for a similar play with hopefully a similar outcome.

The Budget Debacle

"So let me get this right, out of the five of you, no one has ever drafted a budget before?"

Salve Lucrum


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