Articles from Jun 2007

A Guide to Using Options to Play Earnings

Smart Money has a couple of articles on using options to trade earnings. If you are option trader, you may find them interesting. But some of the most profitable trades after earnings are on little known companies with no options. When HANS or NTRI had first earnings acceleration, they had no options.

EARNINGS SEASON REVS up this week, and speculative trading on corporate reports will dominate the options market for the coming weeks. This is a time for investors who understand the fundamentals of stocks to use options to potentially extract extra value from their shares.

The time-honored technique for speculating on earnings reports is buying at-the-money or slightly out-of-the-money calls to benefit from an expected increase in the underlying stock price. Some speculators like to sell puts whose value will decline should the stock advance.

Both of those strategies are already evident in the market, but as this earnings season is expected to usher in a decline in earnings growth a new technique may be in order — namely the stodgy, old strategy of selling calls against long stock, which is known as over-writing.

Simplicity is the key

In the world being dominated by algorithms and complex quant models and super secret macro models, simple things can beat the market by wide margin. The FT has a review of The Dhandho Investor – The Low-Risk Value Method to High Returns by Mohnish Pabrai , that is the message of the book.

Third, invest in simple businesses. “If it takes more than a short paragraph,” he says, “there’s a fundamental problem. If it requires me to fire up Excel, it is a big red flag that strongly suggests that I ought to pass.” He likes funeral homes: it is easy to show that demand for their services is consistent. The first Patels had no choice but to forego complex analysis tools.

This guy manages 500 million and has no assistant traders or other employs like most hedge funds have. He has a bed in his office, takes naps in office and has 29% annualized return since inception. Then there are people with Bloomberg terminal, real time data feeds, multi monitors and army of people working for them and can't beat market. At the end of day speculation is very personal skill. Those who get it use very simple techniques and simple ideas.

Analysis paralysis

Value Discipline makes a valid point about analysis paralysis.

Discipline is incredibly important, but don't bury yourself in the details. I can recall Buffett describing his spending about half an hour in his analysis of General Dynamics submarine business shortly before buying a 15% stake in the company.So many investors get caught in analysis paralysis or intellectual need to execute to own. Analysis and thinking is required but the obvious bargains are...obvious!

Ability to quickly grasp the potential of an idea is very important in the market. I have been reading The Dhandho Investor: The Low - Risk Value Method to High Returns by Mohnish Pabrai , in that book he again talks about quick and dirty analysis to take 10% stake in a company. In fact Pabrai says if you have to open Excel to run number, you should pass the idea. Obvious stories on value side or growth side are so obvious, that you can make up your mind in minutes.

When I look at Episodic Pivots candidates, it takes me few minutes to decide whether this has legs or not. If something is not obvious, or catalyst is not apparent, I just pass it on. The key to doing quick analysis is having a deeper perspective about markets and faith in your methods.

The obvious temptation

The obvious temptation when any problem like that of Bear Stearns hedge fund hits the news is to pile on to it. Everyone is on the same side of argument saying this is disaster waiting to happen. From macro commentators to day traders to cartoonist everyone is piling on to the obvious argument.

The obvious argument for last 4 years has been colored by the dot com period market behavior. That is why majority has been waiting and waiting and waiting for the bear market to kick in which will lead to 50% drop. The obvious arguments are easy and intellectually lazy arguments. Most time they stem from ignorance. But one thing is sure if you get convinced by the obvious argument it costs you money in the market.
On the other side of obvious arguments is hidden, less apparent argument. If you are bearish or bullish , you must still try and figure out the not so obvious arguments.

Intelligent speculation and risk taking is all about not listening to obvious arguments. The mass media likes obvious arguments and that is why it is often wrong. Opportunities are in hidden arguments.On the other side of the trade for last four years have been people who have successfully stayed on the right side of market. There might be some merit in their arguments. So before jumping on to obvious argument, as a speculator one must think of ten other less obvious arguments. The dissonance between the two view points provides the profit opportunity.

The iPhone stands for something very simple -- freedom.

Apple iphone mania continues. The stock price has not budged for days. But the hype machine is running in full speed.
As usual "the Great Leader" Steve Jobs has message for the faithfuls.

Apple faithful,

Today we make history. Today we change the world. Today we put a dent in the universe. Today -- 29 June 2007 -- we release iPhone. It has taken years of work from all parts of Apple. First advertising, of course. Then feng shui consultants, and design and engineering and manufacturing. Countless emergent designs, countless meetings, countless all-nighters to make every part of the iPhone, from its custom-made integrated circuits to its sleek glass screen and metal case, absolutely perfect. To those of you who serve under me at Apple, I say this: Yes, I have berated you, and insulted you, and exasperated you. Yes, I've fired your friends for no reason, and made you work harder than you ever thought you could work. Yes, I've taken you away from your spouses, your children, your transgendered domestic partners. In some cases your devotion to me has cost you your marriages. You've sacrificed a great deal for this. But has it not been worth it? For the rest of your life, you'll be able to say that you were working at Apple when the iPhone was introduced. You were here on the day when the course of human history was changed forever. Plus, you'll get a free 4-gigabyte iPhone, a $500 value. Not bad, right?

Already, around the United States, thousands of Apple faithful are lining up outside our retail shrines, waiting for iPhone. Some will approach on their bare knees, like pilgrims approaching the shrine of the Virgin of Guadalupe in Peru. Just a few minutes ago we received a report that Apple faithful are also lining up outside retail shrines around the globe, even though those stores do not have iPhones and will not have them for months, maybe years. The response is, in a word, stunning. We are saving the satellite photos showing the clusters and will use them as part of our promotional material. Apple employees, view these photos and see what you have done, and then go home and tell your children -- those smallish people who live in your house, the ones you haven't seen in a couple of years -- tell them, You see those people suffering outdoors, enduring the heat and rain and monsoons just so they can get a cell phone? I did this. This was my work.

And the best part is .....

The iPhone stands for something very simple -- freedom. Apple faithful, you march today in the tradition of the marchers at Selma, in the tradition of Gandhi at the Salt March to Dandi. You have made your point. There are some things, you said, that are worth suffering for. I am proud to have given meaning to your life. I am proud to have invented iPhone and designed iPhone and brought iPhone to the world. I feel, in a way, humbled by your adoration. But in another way not humbled. Anyway. My whole life has built up to this moment. I believe that this is what I was put on the earth to achieve. I thank you all for sharing this historic day with me.

Namaste. Much love. Peace out.

Dear Leader

CANSLIM 70 plus EPS- Bearish

Looking at which stocks in the CANSLIM 70 plus EPS universe are witnessing distribution or breakdown, gives you a good idea about sector trends. It also gives you a list of possible short ideas. Disappointment after being high performer on EPS often makes a good short. So paradoxically good EPS stocks offer both, long and short opportunities.

On the bearish side the market does a very god job of anticipating trouble and most of the time leading stocks start breaking down or witnessing distribution much earlier than it gets reflected in their earnings trends. This obviously due to the fact that high performing stocks are highly visible and are scrutinized more. That is why when it comes to playing short side going strictly by earnings trends does not work. You have to anticipate likely earnings deceleration. Which makes it tough job. That is one of the reason why short side is tougher to play.

Stocks with 70 plus EPS down 4% or more on higher volume:
AMSWA,American Software Inc A (Google  Yahoo  Earnings  Chart
ARGN,Amerigon Inc (Google  Yahoo  Earnings  Chart
DRIV,Digital River Inc (Google  Yahoo  Earnings  Chart
ESEA,Euroseas Ltd (Google  Yahoo  Earnings  Chart
EZPW,Ezcorp Inc Cl A (Google  Yahoo  Earnings  Chart
LXU,Lsb Industries Inc (Google  Yahoo  Earnings  Chart
MLHR,Herman Miller Inc (Google  Yahoo  Earnings  Chart
MTL,Mechel Steel Group OAO ADS (Google  Yahoo  Earnings  Chart
PKD,Parker Drilling Co (Google  Yahoo  Earnings  Chart
RHT,Red Hat Inc (Google  Yahoo  Earnings  Chart
SXE,Stanley Inc (Google  Yahoo  Earnings  Chart

Market Monitor

  • Fed said the same things, it has said for many months. But the drama around the announcement continues. Fed has stopped raising interest rates since many months. Historically that has been bullish.
  • It was mixed day for market with momentum on long side continuing. 103/39 bullish to bearish breakout ratio demonstrates that.
  • The second day of Fed announcement is when real trend manifests itself. Currently the market is still stuck in two months range and there is no clear directional bias. Short term tactical plays with tight stops is the play in such market conditions.
  • Earnings have started trickling in and PENX yesterday demonstrated the effect of Earnings on stocks price. There will be several PENX kind opportunities for speculators in coming month and half. Those who know how to speculate can find good opportunities in most market circumstances.
  • There are also opportunities on short side with many stocks breaking down. Looking at list of 4% breakdown in IBD EPS 70 plus list can give you idea of leaders breaking down.
  • Next week is holiday weekend, so moves will be exaggerated.


Few weeks of correction has many new stocks coming in IBD 70 plus EPS scans. Some of these are just starting out their rally and might be worth investigating.

ABXA,ABX Air Inc (Google  Yahoo  Earnings  Chart
AME,Ametek Inc (Google  Yahoo  Earnings  Chart
BBW,Build-a-bear Workshop (Google  Yahoo  Earnings  Chart
CMTL,Comtech Telecommun Corp (Google  Yahoo  Earnings  Chart
CPA,Copa Holdings S.A. (Google  Yahoo  Earnings  Chart
CPLA,Capella Education Company (Google  Yahoo  Earnings  Chart
CPO,Corn Products Intl Inc (Google  Yahoo  Earnings  Chart
CRNT,Ceragon Networks Ltd (Google  Yahoo  Earnings  Chart
EDU,New Oriental Edu And Tech Corp (Google  Yahoo  Earnings  Chart
HMIN,Home Inns and Hotels Management (Google  Yahoo  Earnings  Chart
IFOX,Infocrossing Inc (Google  Yahoo  Earnings  Chart
IOM,Iomega Corp (Google  Yahoo  Earnings  Chart
IPAR,Inter Parfums Inc (Google  Yahoo  Earnings  Chart
IRIS,Iris International Inc (Google  Yahoo  Earnings  Chart
KAI,Kadant Inc (Google  Yahoo  Earnings  Chart
LCC,US Airways Group Inc (Google  Yahoo  Earnings  Chart
MGPI,Mgp Ingredients Inc (Google  Yahoo  Earnings  Chart
PENX,Penford Corp (Google  Yahoo  Earnings  Chart
PPS,Post Properties Inc (Google  Yahoo  Earnings  Chart
PRAA,Portfolio Recovery Assoc (Google  Yahoo  Earnings  Chart
PVTB,Privatebancorp Inc (Google  Yahoo  Earnings  Chart
SILC,Silicom Ltd (Google  Yahoo  Earnings  Chart
SNHY,Sun Hydraulics Corp (Google  Yahoo  Earnings  Chart
TSL,Trina Solar Ltd. (Google  Yahoo  Earnings  Chart
TTI,Tetra Technologies Inc (Google  Yahoo  Earnings  Chart
YGE,Yingli Green Energy Hlds Co (Google  Yahoo  Earnings  Chart

Relevant post: CANSLIM 70 Plus EPS- Casting a wider net

Son Of Double Trouble

The question to ponder is what makes these stocks make such rapid move. What catalyst precipitate such rallies. Answer to that question can help one design strategies wich get you in to some of these stocks before they make these moves. 32 stocks out of the 35 in this list had a Episodic Pivot in last six months or less. That can be the starting point.

AFSI,AmTrust Financial Services Inc. (Google  Yahoo  Earnings  Chart
AQNT,Aquantive Inc (Google  Yahoo  Earnings  Chart
BHIP,Natural Health Trends Corp (Google  Yahoo  Earnings  Chart
CBTE,Commonwealth Biotech Inc (Google  Yahoo  Earnings  Chart
CORT,Corcept Therapeutics (Google  Yahoo  Earnings  Chart
CRNT,Ceragon Networks Ltd (Google  Yahoo  Earnings  Chart
DSTI,Daystar Technologies Inc (Google  Yahoo  Earnings  Chart
DYII,Dynacq Healthcare Inc (Google  Yahoo  Earnings  Chart
ENG,Englobal Corp (Google  Yahoo  Earnings  Chart
FSLR,First Solar Inc (Google  Yahoo  Earnings  Chart
FTK,Flotek Industries Inc (Google  Yahoo  Earnings  Chart
GHM,Graham Corp (Google  Yahoo  Earnings  Chart
GTI,Graftech Intl Ltd (Google  Yahoo  Earnings  Chart
HOKU,Hoku Scientific Inc (Google  Yahoo  Earnings  Chart
IDSA,Industrial Svcs Of Amer (Google  Yahoo  Earnings  Chart
INSW,Insweb Corp (Google  Yahoo  Earnings  Chart
KMGB,Kmg Chemicals Inc. (Google  Yahoo  Earnings  Chart
LPHI,Life Partners Inc (Google  Yahoo  Earnings  Chart
MCZ,Mad Catz Intract (Google  Yahoo  Earnings  Chart
MTOX,Medtox Scientific (Google  Yahoo  Earnings  Chart
NEXS,Nexxus Lighting Inc (Google  Yahoo  Earnings  Chart
NGA,North American Galvanizing & Coatings Inc (Google  Yahoo  Earnings  Chart
NVTL,Novatel Wireless Inc (Google  Yahoo  Earnings  Chart
ONT,On2.Com Inc (Google  Yahoo  Earnings  Chart
RCCC,Rural Cellular Corp (Google  Yahoo  Earnings  Chart
SBEI,Sbe Inc (Google  Yahoo  Earnings  Chart
SIF,Sifco Industries Inc (Google  Yahoo  Earnings  Chart
SMTX,Smtc Corporation (Google  Yahoo  Earnings  Chart
SNHY,Sun Hydraulics Corp (Google  Yahoo  Earnings  Chart
TBSI,TBS International Limited Class A (Google  Yahoo  Earnings  Chart
TBUS,Digital Recorders Inc (Google  Yahoo  Earnings  Chart
TNH,Terra Nitrogen Co L.P. (Google  Yahoo  Earnings  Chart
TRCR,Transcend Services Inc (Google  Yahoo  Earnings  Chart
VMSI,Ventana Medical Systems (Google  Yahoo  Earnings  Chart
XRA,Exeter Resource Corporation (Google  Yahoo  Earnings  Chart

What is your goal

What is your goal in trading. Basically you have a simple choice: to make money or search for market meaning or higher truth also called holy grail. To make money in the stock market there are many ways . As long as you make money it does not matter whether you follow value or growth or quanti or technical analysis approach. As long as you are not doing something illegal which will jeopardies you profits it is ok to use any esoteric method. .

If you are looking to make money, there are hundreds of ways to do it. Most of them are in public domain.It might take you some time to understand and execute them, but that is tactical problem. You may have sub optimal profitability till you get it, but there is no great rocket science to it. The process involved is simple rule making.

Now if you are the second type looking for holy grail, there is long and interesting road ahead of you. You are looking for perfection. The perfect indicator. The perfect model. The perfect source of earnings data. You want 0 second latency in your data transmission. You want the rest of market participants to perfectly act according to your hypothesis. You want perfect level of valuation or pullback. You want perfect psychological state to trade.

You are likely to be one of those who emails me 64 point clarification questionnaire on earnings strategy, or wants to know exactly how many cents above or below one should enter on Episodic Pivot candidates. Or you are on to 34th, improvised version of Double Trouble. Or want to run endless back tests. You can keep doing that.There is an entire industry which caters to people like you. There are newsletters,softwares, training courses, mentoring services, psychologists, con artists and hundreds of other ways to keep you busy. While you keep searching for that elusive perfection,the market has been rallying since 2002. There were hundreds of opportunities to make money with imperfect rules and broad guidelines.

Find a approach that works like the Investors Business Daily or Boucher or Buffet. Adopt it to your style.Do not worry so much about whether you can yourself come with original idea. After few years you will find your own original ideas.The holy grail in trading is imperfect and simple things work: if you want to make money.