Archive for March, 2009

MANDA Updated Table

Friday, March 13th, 2009

The table below reflects today’s addition of Enpointe Technologies, ENPT. This addition is discussed in an earlier article posted today.

(Click on table to enlarge.)

M&A chart pattern recognition

Friday, March 13th, 2009

One reason I love being a market technician is because every stock chart has a unique story to tell. That story is reflected by the price movement along with the trading volume. Not only are fundamental events depicted in a chart pattern, but sometimes they can even be foreshadowed. Savvy traders have been known to make lots of money on these such occurrences. (This is especially true in the case of insider trading which may be invisible to the SEC but not to an experienced chartist. See comment below.*)

I ran across this following chart that, by ordinary standards, looks…well…odd. It’s the daily chart of medical imaging IT company Emageon (EMAG), and the story this chart tells is one of on-again/off-again merger activity. (Click to enlarge image.)

You can see that on 10/14/08, the price pops because the company agrees to be acquired by Health Systems Solutions (HSSO) for $2.85 per share representing a $62 million deal. The stock trades in a very narrow range until December 22nd when Emageon says that HSSO is dragging its heels and wants it to close the deal. Investors smell blood and the stock gaps down, closing 41% lower than the previous day’s close. The stock sinks further until the end of December when both companies agree to extend the closing date.

Things are looking good until the other shoe drops on February 11th when HSSO says that it can’t get its financing together and terminates its offer. (Don’t worry, Emageon received $9 million as a consolation prize.) Two weeks later another company involved in medical imaging, Amicas (AMCS), offers $1.82 per Emageon share in a $39 million deal. So far, this deal seems to be working. The stock has been trading very close to the offer price which means that investors are quite confident that this time the deal will go through.

*If you don’t believe me, look at the one minute charts of stocks who have had major news announced during the trading session. Many times you’ll see that the price and volume increase significantly before the time of the news release, sometimes as much as hours or even days ahead of it.

Another MANDA addition: Enpointe (ENPT)

Friday, March 13th, 2009

Yesterday, Enpointe Technologies (ENPT), a global business-to-business IT provider, agreed to be acquired by its founder and CEO Attiazaz (“Bob”) Din and his family for $2.50 in cash per share. The Din family are major shareholders owning about 26% of the outstanding shares of common stock.

The board approved the merger and is recommending shareholder approval. There is a 30 day “go shop” clause in the agreement whereby a special committee representing the company can solicit higher bids. Closure of the deal is dependent upon the usual customary requirements such as regulatory and shareholder approval as well as debt financing by Mr. Din who has already supplied a letter of commitment.

The company has made no statement as to when the transaction might close but I’m guessing near the end of the second quarter or the beginning of the third. I added the stock today to the MANDA portfolio at a price of $2.20 which represents a 13.6% return upon deal completion.

The MANDA portfolio table will be updated shortly to reflect the addition.

Don’t be fooled by this rally!

Thursday, March 12th, 2009

A market bottom?
Today’s 239 point rally in the Dow and 29 point gain in the S&P 500 got many of the financial tongues wagging that this is could well be the holy grail we’ve been searching for: a market bottom. I don’t think so. Before you let the bulls out of the pen, consider the following technical criteria that indicate a trend reversal.

1. Chart pattern violation. A bear market is characterized by a series of lower lows and lower highs. The weekly chart of the S&P 500 clearly shows this pattern. A bull market is indicated when this pattern is broken, i.e. when the new high is greater than the previous high and when the new low is higher than the previous low. This has not happened yet. (This point ties in with #3 below.)

2. A substantial increase in volume. At the start of every bull market, the volume of the new rally is substantially greater than that of the previous intermediate bear market rallies. This has not been the case for the DIA and the SPY (the Dow and the S&P 500 tracking stocks). Today’s volume on the SPY was only 18% of its 65 day volume average (81 million shares versus 445 million shares) and 67% of that for the DIA (22 million vs 33 million).

The exception is the QQQQ, the Nasdaq 100 tracking stock, which has been trading slightly above its average volume (of 167 million shares). This could be due to its weighting in biotechs, a sector that is undergoing major consolidation. Still, recent volume is smaller in comparison to previous bear market rallies.

3. Price violation. A reversal in trend is indicated when the price retraces at least 80% of its previous decline, and the stronger the retracement, the more likely a reversal. Let’s take a look at the S&P. It’s last relative high was at 875 put in on 2/9/09. It hit a low on 3/6/09 at 678. An 80% retracement would mean that it would have to reach 836, and so far, it’s only retraced about 37%.

4. The VIX must break support. The volatility index, the VIX, closed today at 41 and change, slightly above its major support level at 40. I firmly believe that we can’t even begin to think bull market until the VIX not only decisively breaks that barrier, but stays below it. (Note: The VIX runs inverse to the market.)

Summary
Maybe this time the technicals will fail, but they rarely do. I just tuned into Cramer where he’s espousing a change in market direction for fundamental reasons. I hope he’s right because if this market takes another severe drop, I dread the consequences.

Gunning for profits

Wednesday, March 11th, 2009

I’ve been hankering to write an article on gun manufacturers but a couple of my fellow SeekingAlpha contributors beat me to it. (See this article and this one.) Although I’m rather late to the party, I still want to toss in my two cents for the following two reasons: The first is the fear on the part of the public that the Obama administration will enact tighter gun control laws. The second also springs from a fear-based perception that a further downturn in the economy could fuel an increase in theft and vandalism thus providing impetus to people who want to protect their property.

Smith & Wesson
Of the major manufacturers of firearms only two are publicly traded. The first is the grand-daddy of all of them, Smith & Wesson (SWHC). The company makes everything from pistols to rifles, supporting the entire spectrum of gun owners from hunters to competitive shooters to collectors. It also arms military and security operations worldwide.

According to an article appearing today in Barron’s, Wedbush Morgan Securities is maintaining its Buy rating on the company and has raised its target price from $4 to $5. It said that S&W’s balance sheet should improve as increasing sales in both the retail and government sectors will help pay down debt while simultaneously reducing inventory. They value the company at a price to earnings ratio of 17.

In another article published yesterday, an analyst at Merriman Curhan Ford said that proposed legislation would target $3.8 billion to better equip law officers. He said that S&W’s sales could rise by $47 million to as much as $147 million from the end of this year to the end of 2010 resulting in an earnings boost of 16 cents to 51 cents.

Smith & Wesson’s daily chart certainly tells a tale. You can see how the price and volume jumped when the polls projected an Obama win several days before the presidential election. That event halted the steep slide in price and the stock began notching back upward. It broke out of a classic triangle formation on February 20th when Cabela’s (CAB), a major retailer in the hunting gear space, exceeded earnings estimates which they attributed principally to a surge in rifle sales. (Note that the chart of Sturm Ruger below exhibits similar parallels.)

The stock continued upwards on much heavier than normal volume and broke the $4 barrier last Friday. Volume has been dropping off in recent days along with price. My recommendation would be to see if the $4 support level holds and to take a position if it turns back up. The next point of major resistance is at $5.

Note that Smith & Wesson will be reporting earnings tomorrow after the close.

Sturm Ruger
The second publicly traded firearm manufacturer is Sturm Ruger (RGR). Its product line is similar to S&W’s but its sales are purely domestic. Although sales at S &W are higher than Ruger’s ($301 million vs. $181 million in 2008), the latter sports a better balance sheet, at least so far.

After the close on February 24th, the company reported an 81% increase in revenues causing one analyst to upgrade the stock to a Strong Buy. Here’s its chart:

The stock has been bouncing between $6 and $7 since December. Following its spectacular earnings announcement, the stock gapped up the next day closing at $9, a 15% increase over the previous day’s close. The stock is now sitting near $10 support and a move above recent highs on decent volume would be a buy signal.

Options plays
Note that both stocks have options but S&W’s are more liquid. Front-month covered calls could be a good way to bring money into your account while protecting your downside especially if you can write your calls at relative highs. A strong topping tail in either chart has been a tell that a local top has formed.

MANDA Updated Table

Monday, March 9th, 2009

Based on today’s addition of Gevity (GVHR) as discussed in the article below, here’s the updated MANDA holdings.

[Click image for larger view.]

M&A & Channeling Stock Updates

Monday, March 9th, 2009

New MANDA addition
I don’t know how I missed this one but last Thursday human resource services company Gevity (GVHR) agreed to be taken private by the TriNet Group in an all-cash deal worth $4 a share nearly doubling the previous day’s closing price. (The stock hasn’t been above $4 since last November after falling well off it’s $30 high set back in 2006.)

The deal has the approval of both boards as well as two of its major shareholders, ValueAct Capital Management LP and General Atlantic LLC which own over 13% and 9% of outstanding shares respectively. General Atlantic also happens to be TriNet’s biggest shareholder. Pending Gevity shareholder approval, the deal is expected to close in the second quarter. An analyst at Roth Capital Partners said that he expects shareholders to approval the deal.

In a statement released by the company, Gevity will be paying a special 5 cent dividend on April 30th to shareholders on record as of April 16th. In light of the merger, the board postponed their annual shareholder meeting from May 20th to a time as yet to be determined.

I have a good feeling that this merger will succeed and I added the stock today at $3.78 to my M&A portfolio, MANDA. Including the proposed $0.05 dividend, this trade will yield 7.1%.

Good news on the Dow/Rohm-Haas front
The threat of a lawsuit brought by Rohm-Haas (ROH) against Dow Chemical for failure to complete their merger within the allotted time finally forced Dow into a pow-wow with the chieftains at Rohm. This was a tough one for kimosabe Dow since the financing they expected from the Kuwaiti government unexpectedly fell through and paying the proposed $78/share for Rohm stock would have put Dow’s credit rating and viability as a company in serious jeopardy.

The trial was all set to commence this morning but proceedings were halted twice by the judge. Both companies finally agreed to proceed with the merger as planned especially since Warren Buffett and the Kuwaiti government both rode in on white horses throwing $3 billion and $1 billion respectively into the kitty. The two largest shareholders in Rohm-Haas also agreed to pony up $2.5 billion in Dow preferred shares plus an additional $500 million in cash. Rohm shareholders will receive their $78 per share plus proceeds from the almost $3 million per day penalty fee that Dow has racked up for not closing the deal on time.

The acquisition is set to close no later than April 1st. Let’s hope this won’t be an April Fool’s joke on us Rohm stock holders. (ROH is a MANDA holding.)

Other Big Pharma deals
On January 23rd, Wyeth (WYE) agreed to be acquired by Pfizer (PFE) for $68 billion in a cash and stock swap deal ($33 in cash plus 0.985 shares of Pfizer). One third of the deal is being financed by banks who said they will withhold financing if Pfizer’s credit rating drops below a certain level. Since the deal was announced, shares of Pfizer have dropped 25%. I don’t like buying into deals involving stock swaps, especially in this negative market climate.

Two big deals today—one done and one in the works. Merck (MRK) picked up Schering-Plough (SGP) in a $41 billion cash and stock swap deal ($10.50 in cash plus 0.5767 shares of Merck). I’m not taking this one for the same reason given above.

The Wall Street Journal has just reported that the board of Genentech (DNA) is seriously considering Swiss-based drug giant Roche’s $95/share bid representing a $46.7 billion deal. This deal isn’t struck as of this writing and I’ll be scrutinizing the terms if and when it’s offered. Roche already owns 56% of DNA stock and has been trying to buy it for months.

Note: My blog on 11/4/08 cites other potential takeover candidates in the drug sector. Here are the eight stocks that I felt were attractive targets: BIIB, CRL, DNA, GENZ, GILD, LIFE, and TECH.

Channeling stocks update
For those of you following my Channeling Stock Breakout recipe, two stocks broke their lower support channels today: SWS Group (SWS) and Roper Industries (ROP). Bearish positions can be taken on these two and they’re both optionable (watch out for light liquidity). Recent channeling breakdowns, Oracle (ORCL) and Paccar (PCAR) are both continuing strongly to the downside.

Tomorrow I’ll be looking at a defensive play and by ”defensive” I mean it in more ways than one. You’ll see.

New website, channeling stocks, M&A news, and Peter Tork

Friday, March 6th, 2009

Today’s blog is a potpourri of topics of which none requires much discussion. To expedite your reading time here as well as my writing time and so we can both jump directly into the weekend, I’ve summarized the grab-bag of topics that have been left on my Blog Idea List.

New website!
The Stock Market CookBook will be transferring over to its new home which will be www.stockmarketcookbook.com. My software engineer is closing in on the site construction which, as with any type of construction, is taking longer than anticipated. We’re shooting for sometime in the next week or two. I’m proud to tell you that it’s already looking byoo-tee-full and will offer all sorts of nifty new features as well as my (almost) daily blog. We’re all very excited!

Channeling stocks update
Per Monday’s blog regarding channeling stock candidates, ORCL (Oracle) and PCAR (Paccar) have both broken to the downside. MDTH (MedCath) and ROP (Roper) are hovering at lower support.

Dow Chemical/Rohm-Haas (ROH) merger update
It looks like Dow and Rohm-Haas are back in merger talks. Rohm is suing Dow for breach of contract and the case is set to go to trial Monday. Rohm stock closed up 18% ending the day at $63.80. (Dow agreed to pay $78/share in cash for Rohm last July.)

Invest in further education
No matter what field you’re in (with the possible exception of blue-collar work), it’s important for everyone to keep up with current trends. For example, today I was reading about how web designers and operators use Google Trends as an SEO tactic. Before last week, I had never heard of SEO nor Google Trends but I know now. (FYI, SEO stands for search engine optimization, something that I’m going to have to know very soon, and Google Trends is a ranked list of current search words. I just checked it and Peter Tork’s* name made the top ten which is the shameless reason I put it in my title.)

The point of this is that it’s important for all investors to keep expanding their knowledge, and one of the best places to do that could be right on your own broker’s website. Since I trade options, I use OptionsXpress and can say that their site provides a wealth of educational and trading tools including powerful real-time charts, options chains, a virtual trading platform so you can test out your strategies, web tutorials, stock screener, strategy scanner, etc.–everything including the kitchen sink!

I’m not getting paid to say nice things about OptionsXpress (unfortunately!) but I see that most of the popular online brokers offer similar trading tools. So before you go out and spend good money on investing seminars and books, check with your broker’s website to see what’s on their shelves.

As they say, a little education can be a dangerous thing, but a lot of it can make a huge difference to your investing success.

*I clicked on his name and was very sorry to learn that the affable former Monkee has a rare form of cancer.

Shorting the market: Options or ETFs?

Thursday, March 5th, 2009

Since it looks like the market will be handing us lemons for the foreseeable future, perhaps we could parlay this sour state of affairs into some sweet profits. There are many ways to play a bear market. Popular techniques include shorting the indices, buying index put options, and going long the short and ultrashort index ETFs. This last strategy is especially popular in retirement accounts.

We’ve looked at these strategies before in previous blogs (see 6/18/08 and 7/15/08) and thought it’s time to compare them again since the market is much more volatile than it was last summer.

Strategy comparison
Here are the following strategies that I selected:

Short the index tracking stocks: QQQQ, SPY, DIA
Buy their short counterparts: PSQ, SH, DOG
Buy their ultrashort (2x) counterparts: QID, SDS, DXD
Buy March 2009 at-the-money (ATM) puts on the above tracking stocks
Buy 2010 ATM puts on the tracking stocks
Buy 2011 ATM puts on the tracking stocks

I wanted to look at a recent downturn so I choose the (relative) high peak put in on January 6th of this year and used today’s (March 5th) closing prices. The table below summarizes the results.

Options still rule
The table reveals several interesting observations. The first is that buying the short ETF did better than shorting the underlying. (I’ve written before on the dangers of the short and leveraged funds (see 2/10/09 blog) so be aware that they may not perform in the way you think they should.)

The second observation is that instruments based on the S&P 500 and the Dow Industrials generally outperformed those based on the Nasdaq 100 (the Qs). Most likely this is due to the constituent makeup of each index.

The last observation is that short-term options trounced the returns of their LEAP counterparts. Using my handy-dandy Black-Scholes options calculator applet on my Blackberry, I found that the implied volatilities of the short term options are higher than that of the LEAPs, confirming my suspicion.

The effect of volatility
Before you race out and buy short-term puts, you should be aware that volatility is a double-edged sword. If you purchase an option in times of higher volatility, it’s very possible that you can lose money if the volatility decreases, even if the market goes in your direction. To illustrate this point, I looked at the 2010 Jan90 put on the SPY. On 11/20/08, the VIX (market volatility index) hit a high of 80. That day, the S&P 500 closed at 752 and the put option at $27.15. Three months later on 2/26/09, the S&P again closed at 752 but the VIX had dropped to 45. What was the put worth? It closed at $22.15, 18% lower! The drop in value is due almost entirely to volatility as time decay is minimal for this LEAP.

Does this mean that you shouldn’t take the options plays? Of course not! You can mitigate the volatility effect by using options spreads. A long put can be replaced by a bear-put debit spread where you buy the higher strike put and sell a lower strike put against it. One nice feature of this strategy is that your cost basis is decreased but it comes at the price of capping potential profits.

Cost basis
It’s worth noting that not only do options offer you more leverage but they’re cheaper than buying the underlying instrument, giving you an extra bang for your buck. Plus, your risk is limited to the price of the option unlike shorting a stock which has potentially unlimited risk. However, if you’ve never traded options before I strongly urge you to learn about them and paper trade them first.

I hope this exercise has been instructive. That’s the long and the short of it!

How low can we go?

Wednesday, March 4th, 2009

I don’t mean to throw a wet towel onto today’s China Syndrome rally, but I believe that this is only a temporary breather before the next leg down. Now I’m not the only bear in the forest—not by a long shot—and it seems as if I and my other furry brethren are struggling to answer the burning question of the moment: “Where do you think we’ll find a bottom?” The best answer I can give to that is: Try a restroom.

Nobody knows anything right now
I don’t mean to be flippant but I do think that the right answer is: Nobody really knows. The fundamentalists for sure don’t know. Today on CNBC, one reporter (Bob Pisani?) said that analysts can’t even come up with a reasonable guesstimate as to where earnings will be in 2009 which makes predicting any sort of support level impossible.

The technicians don’t know, either. My charting program only carries ten years worth of price and volume data for the Dow Industrials and nineteen years for the S&P 500. The Dow has already broken through major support at the 7800 level and I don’t have enough data to discern the next stop. The S&P recently blew through its 800 major support level as well as minor support at 755. According to its monthly chart, the next points of minor support are down around 670 and then 450.

Fibonacci levels
Technicians often resort to Fibonacci levels which are used in Elliot Wave Theory. Using the S&P 500 as an example with 1550 being the market top and 0 being the bottom, we get support levels around 960, 775, 590, and 365. The problem with Fibonacci levels is that they’re not always accurate, and I especially have a problem using them over such a long time frame.

Aren’t there any other places we can go to get some clues as to where a possible bottom might be?

How saving money will put us in the poor house
In his excellent column that appeared on MSN Money yesterday, Jon Markman used the Levy-Kalecki model of economic behavior to explain how high levels of saving and a decline in borrowing can lead to the devastation of corporate profits, a situation we could very well find ourselves in. Using this model, Markman came up with a couple of market scenarios–both rather grim tales. He said that if households save as little as 7% of their incomes, the S&P 500 could sink as low as 550 and the Dow as low as 5,300. If the wealthy are taxed per Obama’s plan and savings rates go to 10%, the Levy-Kalecki model suggests that corporate profits will be slashed by 50% from their 2007 peak. Depending on whether investor confidence or fear prevails, the S&P could either end up around 755, a little higher than where it is today, or around 420, a lot lower.

I’m casting my vote for the fear camp and here’s why.

The reason for another market downturn
The reason I think the market still has a ways to tumble is because of the VIX, the volatility index. The rule of thumb is that the more uncertain the market, the higher the volatility. Even though the volatility has been high lately, it’s still nowhere near where it was last autumn. Below are daily charts of the S&P 500 and the VIX.

You can see that the VIX roughly inversely mirrors the movement of the S&P. When the S&P made new lows last October and November, the VIX made new highs (around 80). But the S&P has dropped well below those levels and what has the VIX done? It hasn’t even come close to making any new highs. This divergence is a signal that the market has a lot more room to fall.

The answer to the question
So, where will we find the market bottom? The answer to this question is not where, but when. We’ll find it when the VIX forms a new top, and it doesn’t seem to be in a hurry to do that. So fasten your seatbelts ’cause it’s going to be a bumpy ride!