Market Continues to Wear Rally Cap 09-07-2011

Cusick's Corner
Rally Caps are on and news from Germany supported the Euro Currency, catalyzing the bulls here in the States. Risk Off assets, Gold and Bonds, are shedding gains fast while Financials, Energy and Tech are the new leaders -- the world is back to normal and will I sleep well tonight. I will however be getting up early to prepare for the Claims data due out pre-market and in front of the speech scheduled by the President that evening (thank goodness it's before the World Champion Green Bay Packers open the season). It will be interesting to see if the market reaction will be muted in front of the number or will it just run. In the end this is a bounce, corrective in nature that I will respect but also am treating it as a bounce in a large, down trending market. There are serious upside resistance levels, S&P 1240, IWM 77, XLF 13.5, that need to be broken before an upside victory can be called. See you Midday.

The underlying tone of trading improved Wednesday morning after Europe's equity markets rallied on diminishing concerns about the debt crisis. Germany's DAX helped pace the advance across the Eurozone with a 4.1 percent surge after a court in Germany rejected a lawsuit designed to block the country from offering aid to Greece and other troubled nations. Gains in equity markets overseas helped to spark a rally on Wall Street and, with no earnings or economic releases of significance to guide trading, the Dow Jones Industrial Average was up 200 points through midday. The Fed's Beige Book, which offers a qualitative assessment of economic conditions, came into focus in afternoon trading, but didn't hold any major surprises. Among other things, Fed members stated that "economic activity continued to expand at a modest pace, though some Districts noted mixed or weakening activity." The market showed little reaction to the report and the Dow was able to build on early gains in the final hour. At the closing bell, the Dow Jones Industrial Average was up 276 points and the tech-heavy NASDAQ had added 75.1.

Bullish
Smithfield Foods (SFD) is a name worth watching tomorrow morning. The meat producer is due to report earnings before the start of trading. Shares gained $1.01 to $22.12 Wednesday ahead of the news and options on the stock saw brisk trading as well. 9,700 calls and 925 puts traded in Smithfield today, a ratio of more than ten-to-one. September 22 calls saw much of the volume. 7,515 traded and with 87 percent trading at the ask and 1,820 of open interest, it appears that opening call buyers were driving the action. They will be rewarded nicely if shares rally on the results. However, if SFD loses more than 12 cents, falls below $22 and the position is held through next week's expiration, the contract will expire worthless.

Bullish trading was also seen in Intel (INTC), Walter Energy (WLT), and Radian (RDN).

Bearish
Put volume picked up in Hovnanian Enterprises (HOV) ahead of earnings. Shares, which have suffered a 60 percent slide so far in 2011, finished the day up 16 cents to $1.65. Meanwhile, options volume in the builder included 3,980 puts and 370 calls - a ratio of more than ten-to-one. September 1.5 puts were the most actives. 3,670 traded, including a 2,880-contract block at 15 cents when the market was 5 to 15 cents. The activity looks like put buying on concerns about a drop in shares below $1.5 through next week's expiration. The company posted a hefty 47 cent per share loss after the closing bell today, which was not quite as bad as the 52-cent per share loss that was expected.

Bearish trading was also seen Starbuck's (SBUX), HCA, and Consolidated Edison (ED).

Index Trading
An interesting spread trades in the S&P 500 Index (.SPX) Wednesday afternoon. The index rallied 33.38 points to 1,198.62 on the session and in this three-way play the strategist apparently sold 9,000 SPX Weekly 1115 puts at 35 cents. They also bought 4,500 Weekly 1140 puts at $1.25 and bought 4,500 Weekly 1075 puts at 20 cents. In other words, a 1075 - 1115 - 1140 put butterfly spread was initiated for a 75-cent net debit, 4500X. It's a short-term bearish play. This fly makes its best profits if the S&P falls to 1115 through the weekly expiration, which represents a 7 percent market decline through the end of this week.

ETF Action
SPDR Bank ETF (KBE) added $1.04 to $19.18 and recaptured 59 percent of the $1.76 per share loss suffered over the previous trading sessions. One strategist seems to be expecting additional gains in shares of the banks and initiated a bullish combo in KBE Wednesday. In this risk-reversal, the strategist sold 12,000 October 17 puts on the fund at 46 cents and bought 14,500 October 21 calls at 39 cents. They were essentially selling downside puts to buy upside calls. Since volume exceeds open interest in both contracts, this looks like a new bullish position on hopes for a rally in bank shares through the October expiration which is in 44 days. If KBE falls below $17 instead, the put seller could face assignment on the contract and be asked to buy shares at that the $17 strike price.