HOTS Weekly Options Commentary

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Peter Stolcers
February 10, 2007

Last week there were only a few economic releases. Productivity rose 3% and unit labor costs were only up 1.7%. Workers are being paid more to produce much more and those statistics could be used to defend concerns over wage inflation. The Senate passed the minimum wage proposal by a landslide last week and the impact of rising hourly wages will be debated in future months. Fed official William Poole stated that economic growth is sustainable and inflation is largely in check. His comments set the stage for Chairman Ben Bernanke who will deliver the Fed's formal economic forecast to Congress when he testifies on Fed Monetary Policy next week(better known as Humphrey-Hawkins Report delivered semi-annually). That testimony will be the economic highlight next week, but there are a number of key reports including: retail sales, industrial production, housing starts and PPI.

Mid-day Friday, sellers came in and drove an otherwise flat market - lower. Earlier in the week, HSBC (the world’s 3rd largest bank) commented that it would take a much larger than expected write-off on non-prime loans. The initial response was contained, but as additional comments came in from other lenders and homebuilders, it was apparent the trough to the housing cycle is far from over. The financials and housing stocks were hit hard. Then, Micron Technologies (MU) warned of lower DRAM and NAND prices and the tech stocks joined the decline. From a technical perspective, the chart shows the long-term strength of the market. We will respect Friday’s price action and acknowledge that a 2%-3% retracement is overdue. However, we will place greater importance on the long-term trend.

In this week’s HOTS Report, we will position ourselves on the bullish side of the market while keeping our distance. The implied volatilities are still near historic lows and the VIX was only up marginally on Friday. We will sell put credit spreads on two stocks that have relative strength and well-defined support levels. One is a major financial institution that just announced an enormous buy-back and the other is one of the fastest growing gold producers in the world. We will also scale into a call position on a stock that has strong momentum and just broke out. Profits are on the rise as it caters to the rich, generating half of its revenue from Asia. If the market pulls back, we will add to the position. If the market rallies Monday, we’ll be satisfied with what we have.

Market Timing

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Fari Hamzei
February 9, 2007

Well......the PAUSE we talked about on Wednesday is here today........McClellan Oscillators foretold this move.......with both SPX and NDX putting in outside bar reversals today, we expect additional weakness next week (Feb Options X) till McClellan Oscillators get in to the oversold territory, maybe by Wednesday.

Video Part 1


Video Part 2

Heard on the Floor

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From our Virtual Trading Room Transcript
February 9, 2007
about 1136 PST

Brad_Sullivan> hearing from the [CME] floor
Fari_Hamzei > ????
Brad_Sullivan> that BSTEARNS
Brad_Sullivan> HAS SOLD NEARLY 4000
Brad_Sullivan> MAJORS
Cary_Kahn> wow
Brad_Sullivan> FROM 1447 TO CURRENT LEVELS
Cary_Kahn> nice day

Editor's Note: MAJORS is S&P-500 pit-traded big index futures contract.

Frank Barbera at Large (Part II of II)

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Continued from February 7, 2007

Fari: OK Frank, you also follow Gold, and other metals, what do you like in that area?

Farnk: Well, basically everything, … I am kidding, but I like what I see happening in all the metals, especially Gold, where a move over $665 on nearby April Gold would be bullish as all get out. Near term support for Gold is shaping up nicely at $648 to $650. I like GLD, and I like the Gold Stocks. Among the large cap mining stocks, Agnico Eagle (AEM), Yamana Gold (AUY), Silver Wheaton (SLW) and Goldcorp (GG) are my favorites. AEM is amazing in that they have a negative cost for mining gold, due to the fact that they have poly-metallic output from their mines, and with copper and zinc prices where they are, -- even down a fair amount in recent months, for AEM, the cost of mining gold is zip, nada, zero as Copper and Zinc credits pay the whole freight. Yamana, managed by Peter Marone, is a great growth gold, well on its way to production of 1 Million Ounces a year, -- what a great CEO, the guys a rock star in my book. In the juniors, and now I am really talking my own book, in the interest of full disclosure, I love, love, love Eastern Platinum (ELR-TSE). Eastern Platinum trades on the Toronto Stock Exchange (http://www.tse.com), and is usually on the Top Ten or Top 15 Most Actives. Today, it is No 3 Most Active (http://www.tsx.com/HttpController?GetPage=MDFMarketView&MarketView=MostActive&DetailedView=DetailedPrices&Market=T&Language=en).

For US investors, the stock trades under the five letter equivalent of ELRFF, and can be purchased through any US broker. Below C$1.60 ELR is an excellent buy. The company is in production, and has output flowing from several mines at its Crocodile River Complex near Capetown, South Africa and will soon be adding another mine, the Mareesburg Mine in early 2007. This is a growth Platinum story where output will go from 100,000 ounces a year in 2006, to over 500,000 in the next two years. The stock in my view is still a ten bagger from here, and would not be surprised to see it trade north of $10.00 US in a the next two years. It is an investment position, and not a trading stock, but the company has top notch management in CEO Ian Rozier, who I hold in the highest regard, he has done an awesome job for the company and this is one of the best values I see in the mining sector. In the small cap arena, I also like Minera Andes (MAI on the Venture Exchange) quite a bit, they have a great property in Argentina and are getting no credit in the market for a highly prospective copper deposit.

Fari: Looking at 2007, if things deteriorate in the Middle East, where would Gold go ?

Frank: In my view, Gold will break out above $1,000 per ounce, and after a long consolidation, could now be setting at the beginning of that move. All of the Gold Stocks, would go through the roof, and should turn in excellent returns. At my newsletter, The Gold Stock Technician, we keep people current with all of the latest on these markets and up to date with current buy/sell recommendations.

Fari: What about the broader stock market ?

Frank: Honestly, I cannot warm up to this market, not at these levels. The DJIA and S&P 500 have never gone this long without a 10% correction, or even a 2% down day, so the markets are riding this wave of euphoria that seems to ex-out any perception of possible risk. Last year, at the beginning of the year, I liked Tech and Healthcare with names like Zimmer Holdings (ZMH), Cisco Systems (CSCO), LSI Logic (LSI) and Microsoft (MSFT). This year, I simply have a hard time finding under-exploited situations, and the multiple on the market looks high to me considering we are talking peak earnings. I think the S&P 500 short term could start doubling back toward 1400 as first support. Ultimately, there is probably more time needed for the market to build an important top as carry over momentum levels are high, and will likely under pin the market most of the first quarter. That said, at some point, I would not be surprised to see this market roll over in dramatic fashion, and make haste for the 1200 zone on the S&P. That would wipe out the rally of the last few months, and in my view could be the beginning wave of a much larger bear market. I believe the stock market represents high risk investing and the only sectors I feel could buck a downward trend would be Gold and Oil, and that is where I operate day to day.

Inflationary Concerns

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Sally Limantour
February 9, 2007

A heavy flow of US Fed dialogue today could rekindle inflationary concerns. The Fed’s Poole is speaking now (7:45 am) and Fed Fisher at noon. With oil prices strong the March crude oil punched through that quasi triple top of 60 yesterday and gold seems to have solid footing now above the $650 level. There are a number of bullish themes for gold right now. First, as mentioned on Feb 7th, the European legacy banks are selling far less gold to meet the quotas of the Washington Agreement. The IMF is considering selling a “limited amount of gold” and in the past six to seven weeks the monetary base has exploded to the upside rising approximately $18 billion since the last week of December.

Bill Fleckenstein(http://www.fleckensteincapital.com/) wrote, Golden Glad Tidings? On the subject of gold, I received an email from a friend who said…

“The China Gold Association is claiming that the country plans to raise reserves by 3,500 tons over the next five years. (The Washington Accord selling agreement is 2,500 tons).
If that is true, we finally have hit the moment that I thought we’d eventually see – which is that Asia’s dollar-buyers of last resort are finally voting to exchange them for gold. They are willing to give them to the “European legacy banks”, which up until now have been so willing to part with their gold, though judging from the recent data I shared yesterday, they may be a little less excited about selling it than they once were.”

Let us remember not to just look at gold in US dollar terms. In other currencies, such as the South African Rand gold is breaking out. Gold denominated in Japanese Yen has gold moving to a new multi-year high.

Equity Index Update

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Brad Sullivan
February 8, 2007

During my quasi sabbatical from writing this update, I kept thinking about volatility and particularly the lack of it in our current index environment. Yesterday’s price action was interesting on a variety of levels. First, there seemed to be a general feeling of “I am throwing in the towel” on the short side of the equation. Second, there appears to be a tremendous “mark ‘em up on the close” type of settlement trade that is usually found towards the tail end of run, not the beginning. The ease in which the SP futures came off their respective high zone yesterday (1456 to 1457.50) should be seen as a near term warning. For those aggressively pushing the long side of the button, marking ‘em higher has earned a strong bit of admiration and defiance from those on the sell side. However, like the guest that stays too long at the party…you don’t want to be the last one to turn out the lights. I suspect that over the next 6 trading sessions, the indices will provide plenty of support to exit from profitable long positions.

The one fly in the ointment that I have uncovered for this scenario is the general lack of overbought levels on the index front. I have enclosed graphs of all 3 indices trading at their respective all-time highs (Midcap, DJIA, Russell 2k). Notice, that only the DJIA is at elevated levels on its 200 day extension, while the Midcap and Russell are at levels below last years highs. For a true reversal in the marketplace, these readings will have to move quite a bit higher – a final melt up if you will – before the odds favor such a happening. In the meantime, I suspect that the post expiration trade will begin a potential correction in the market. However, I would be surprised at anything greater than -3 to -4 % in the SPX.

Volatility

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Sally Limantour
February 8, 2007

Volatility or the lack of is on everyone’s mind. On CNBC early this morning they played the theme song from Jaws with the title, IS VOLATILITY COMING BACK – then phased out to a commercial. The NYT on Feb 3rd had an article IT’S CALM. LOOK OUT FOR A STORM. “If complacency breeds danger, then we might be sitting on a powder keg heading into 2007,” James Stack, editor of, Invest Tech Market Analyst.

The low reading in volatility which is trading close to record lows set in 1994 is comforting to many. A belief that the evolution of financial products makes the stock market inherently less volatile than it use to be is becoming its own mantra.

“People are very worried about risk,” says Tobias Levkovich, equity strategist at Citigroup Investment Research, and the fact that so many investors are focusing attention on volatility is another reason not to be concerned.

I see the logic in all of this – being concerned, not being concerned, being indifferent about being concerned all over this concept of volatility. My gut feel is this is going to be a volatile year. I have my reasons why and began putting on volatility strategies last week. We shall see…

Bonds

Dr. Plosser tried to crash the party yesterday with talk of higher rates. At the heart of his antinflationary remarks is a fear that labor costs are about to advance. The market remains well bid and shorts established two weeks ago were covered yesterday. Perhaps a light upward bias will take bonds back to 112 00, though I would be a seller there. You have a sector of the trade questioning overall growth prospects ahead and then you have the non-farm productivity up 3.0% annual rate in 4th quarter which was far better than the consensus of 2.0% (non-farm payrolls for all of 2006 rose 2.1%).

Stock Indexes

HSBC has warned that debts will be higher than the consensus due to further deterioration in third-party originated sub-prime mortgages in the US. Disney had impressive earnings and while I think we are building toward a correction you cannot argue with the pretty charts. The mid-cap and small caps are leading the market and that is usually a positive development. The NASDAQ is the only major index that has not set a new high this month. February typically is one of the worst performers, but seasonal tendencies cannot always be trusted nor followed. Trade with caution and perhaps tighten the stops.

Market Timing

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Fari Hamzei
February 7, 2007

Techs continue to improve...thanks to CSCO and AKAM........Defense stocks are on a tear......thanks to $700B proposed DoD budget....we like NOC, RTN, BA and LMT here;


Video Part 1


Video Part 2


Video Part 3


But our Timer Chart says we are in for a small pause here. McClellan Oscillators don't lie !!

Video Part 4

BioMarin Pharmaceuticals (BMRN)

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David Miller
February 7, 2007

At the end of this month, BioMarin Pharmaceuticals (BMRN) will report data from a pilot study on uncontrolled hypertension. BioMarin typically seeks to develop drugs for orphan indications, so this is their first shot at a blockbuster indication.

The drug is nicknamed BH4, and the so-called CONTROL study enrolled 116 patients whose hypertension (high blood pressure) was not controlled by other drugs. What is not commonly known is the CONTROL trial is a repeat of a successful smaller study. While not guaranteeing success, it does lead us to be hopeful about the outcome of the CONTROL trial.

BioMarin has big plans for BH4 in 2007. They will launch a proof of concept trial to treat sickle-cell anemia. A trial in pulmonary arterial hypertension should also be underway soon. Data from a 210-patient trial to treat peripheral arterial disease (PAD) should arrive in the first half of 2008. A win in that trial would be very important, because PAD is where good cardiac drugs go to die – it’s a damn tough indication to beat. A good drug there would easily sell over a billion per year in the US.

The company released data last year on a successful Phase III study of the orphan drug Phenoptin in people with the PKU enzymatic deficiency. Last month, they released positive data from a label expansion study in the same disease. This is an orphan indication, but if the drug is approved by the FDA with a preferential label Phenoptin could be bigger than most people expect. They’ll make the filing next quarter in the US and in Q3-2007 in the EU. They are partnered with Serono (Merck Serono KGaA) outside the US. BioMarin has 100% of US rights and will get $15M cash when they file in the EU and $30M more if Phenoptin is approved in the EU.

BioMarin markets the orphan drug Aldurazyme with Genzyme (GENZ) in a 50/50 joint venture. The company also markets Naglazyme for patients with the orphan disease MPS-IV. Alan Leong, who covers BioMarin for us, believes sales of Phenoptin (if approved), Aldurazyme, and Naglazyme could push the company to profitability in late 2008.

We’ve been covering BioMarin since 2004 and made them our top pick in our August 2006 Anniversary Issue. If you glance at the chart over that period, you’ll see it’s been a good performer for us. The stock ran into a headwind in January when the company cleaned up its remaining convertible debt by issuing 8 million shares. That supply seems to have worked its way through the markets, however.

Investing ahead of pivotal results is always “exciting” because of the prospect of big downside (40-60%) surprises. If the CONTROL trial is clearly positive, we doubt BioMarin will exit 2007 as an independent company. Good cardiovascular drugs are hard to find and the company’s orphan programs are profitable.

One or more members of BSR’s research team own shares of BioMarin. Check out the Disclosures pages of our website for more information.

Frank Barbera at Large (Part I of II)

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February 7, 2007

Fari: What are some of the key drivers shaping your view of the capital markets as we move ahead in the early months of 2007 ?

Frank: I believe the geo-political risk in the Middle East is definitely paramount in my view, as the situation in Iraq has deteriorated into a sectarian civil war, between Sunni’s and Shiites, and could potentially be threatening a larger regional conflict. In this vein, I would not be surprised to see the US and Israel lash out at Iran, or vice-versa, at some point in 2007. In my view, an expanded conflict with Iran would threaten the security of the worlds Oil supply through the very narrow Strait of Hormuz. This type of conflict may be highly problematic, in that the gulf region contains much of the world’s energy infrastructure, and Iran is well armed with ballistic missiles that are within striking reach of that infrastructure.


Fari: What evidence do you see that points you in this direction of heightened risk for expanding war?

Frank: Well, the US recently appointed an Admiral, Admiral William Fallon, as head of CENTCOM, the command center for the Middle East. It is a highly unusual move to appoint an Admiral to oversee direction of a war, that at present is defined by two land wars, Iraq and Afghanistan. Normally, a General from the Army would be in charge where ground wars are concerned, yet an Admiral was just appointed. Some believe that this hints Iran could be the next combatant and where Iran is concerned, a naval conflict would definitely be square one. For the US, in order to keep the troops in the Iraq re-supplied, control over the Persian Gulf is essential, and that is the domain of the Navy. The US has also sent minesweepers, Patriot Missile batteries (anti-missile – missiles) and more surface ships to the region which now host two carrier battlegroups and an anti-submarine attack helicopter carrier, the USS Boxer. These types of hardware hint at larger problems ahead, -- and I might add, I hope I am wrong, perhaps this is just a bluff to intimidate Iran, but the parts and pieces, are imposing.

Fari: So how would this affect the markets ?

Frank: Well, I think any further tension in the Persian Gulf could definitely force Oil prices higher, and at the very least set a floor in place between $55 and $60. In my view, that is bullish for Oil Stocks and Oil Service companies, most of which are really priced right now for $40 Oil. Yes, it is true that Energy Stocks are reporting sequentially lower earnings this year as a result of the rather savage sell off seen late last year. That said, I think Energy stocks are quite attractive, especially the drillers which have long term contracts locking in, in many cases, much higher day rates. Mind you, I would be careful over the next week or two with a lot of these stocks as we are smack in the middle of earnings announcement season, and in some cases, we could see some significant dips. But overall, I would be looking to be a buyer on weakness. I also think that near term, Crude Oil could pull back toward $55 from current levels near $60 and that could pressure individual names. In my view, where Schlumberger (SLB), or a TransOcean (RIG), or a Global Santa Fe (GSF) is involved, weakness in the near term would be a gift.


Editor's Note: Part II will be published on Friday.

Fed, Bonds and Gold

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Sally Limantour
February 7, 2007

Treasury Bonds:

“Fed Ease Unlikely Until 2008,” said Richard Berner, from Morgan Stanley. So now we have gone from an expected easing in early 2007, to easing late in the year to a possible easing in 2008. The reason: “We think future inflation risks are slightly higher than a month ago.”
(www.morganstanley.com/views/gef/archive/2007/20070205-Mon.html#anchor4338)

The Fed speakers were out in force yesterday with San Francisco Fed President Janet Yellen saying “inflation is a little higher than I would like it to be; I would like inflation to come down.” The bond market had a short covering rally and stops above the 110 15/32 area were triggered. Strong demand for the 3 year and the “slowing” rate of growth predictions by a number of Wall Street economists contributed to this. Certainly $60 oil is also on everyone’s radar.

Bottom-line: Resistance above the 111-00 will keep the bears in control.

GOLD:

The media is focused on the gold rally inspired by the energy price inflation theme. I am more interested in the fact that gold sales by legacy central banks of Europe are low. In order to meet the Washington Agreement’s annual gold sales total they need to sell 9.6 tonnes each and every week. We are now in the 7th consecutive week that the legacy central banks have sold less than 3 tonnes of gold. This is bullish and an important item to monitor.

In other news:

Goldman sells top commodities index. GS has agreed to sell its GSCI commodity index to Standard & Poor’s for an undisclosed amount, according to the FT today. Note this: “the move will give the S&P a potentially powerful influence on commodity markets as any changes to the index composition can have wide ramifications for underlying commodity prices. The GSCI, the world’s leading commodity index, has about $60 bn tracking it. Most of these funds are managed by GS, which is the largest commodities trader among investment banks.”

Regarding the grain and soybean market there is much talk of expected planting and how much will be shifted to corn, given the high prices. While bullish on this sector, I have stepped to the sidelines as I am seeing a dis-connect between the futures and the cash market.

SP500, Grains, Cotton and Base Metals

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Sally Limantour
February 6, 2007

In stock land we have little data this week, but keep your eye on budget headlines coming from Washington. The bears are gun she and rightfully so. That said, as mentioned last Friday, my short-term proprietary model is signaling a sell for early this week. This does not mean a top, just a short tem correction and with that in mind, I will look to short ESH 1458-1460 with stops over 1464.

The grain markets and cotton, my two favorite sectors for 2007 continue to act well. We have corn (March) trading over $4.00 a bushel and new crop beans (November) trading over $7.75 a bushel. Corn did fill its gap from 1/12/07 and long positions were re-established last Friday in the $3.95 area. With the $4.00 level for new crop corn, farmers are going to plant more corn this spring which will take away acreage from soybeans. The new crop beans are outperforming due to this and with the bean to corn ratio at 2.1 this creates a huge incentive for the farmers to plant corn.

Cotton has been sleeping, but woke up yesterday to close up +1.32%. I am still holding long positions from December (52.50) and with talk of reduced acreage (13.2 vs. 15.2 year ago) we may see the fund buying especially if we start to see prices breakout above 56.00.

There were reports last Friday that the large hedge fund, Red Kite (a $1 bn metals-trading fund) had hit trouble and copper prices fell 4.8%. Nickel and zinc were also down in London and perhaps that could explain the $19.00 sell off in gold (from Thurs. high to Friday’s low). It was a buying opportunity in silver and gold and I continue to think the precious metals will outperform.

Red Kite has brought out some speculation concerning the base metals. One report put the London firm down as much as 20 per cent in the first 3 weeks of January, leading to forced liquidation of copper, zinc and other base metals. In an attempt to prevent a stampede for the door among their investors, the fund requested approval for an amendment to extend 45 days from 15 the notice required for investors to withdraw their money. As the FT reports, “that smacks of the proverbial horse having already bolted.”

This has prompted the question on the role of commodities funds in driving up prices – and how that picture might unravel. Questions from the Markets Risk blog are, “What happens when the hedge funds who bid up prices in global assets start to get investor redemptions because of poor performance? What happens when the leverage unwinds and managers with little experience managing systemic or core market risks are faced with “improbable” risks?”

Answer: massive liquidations. It is estimated that more than 500 hedge funds specializing in commodities have started in the last 2-3 years. These funds represent a large percentage of the trading volume of base metals financial derivatives and it makes you wonder just how much of the 146% rise in copper prices from late 2005 to May 2006 was due to physical demand (China?) and how much was due to leveraged hedge fund derivative speculation. Perhaps a bit of both.

Remember to use stops!

The Carry Trade

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Sally Limantour
February 4, 2007

The yen was in the spotlight last week and volatility increased as speculation about the currency’s fragility would be a topic of concern with the G7 meeting. Hank Paulsen, the US Treasury Secretary added fuel to the fire when he told the US Senate last Wednesday that he was watching the Japanese currency “very, very closely.” The yen rallied right after these remarks. On Thursday, he came out and said that he did not think the yen was at an artificial level or had been influenced by political pressures which caused the yen to sell off. Political volatility is a dangerous game.

Japanese interest rates are at rock bottom and while concerns of deflation are being talked down, there does not seem to be a compelling reason for the BOJ to raise rates. The perception that rates and the yen will stay low is fueling the carry trade where any hedge fund can borrow in yen, invest in something with a higher yield, apply some leverage and achieve returns of 20 per cent or more. How long this game can go on is an important question as the unwinding of this carry trade could affect many different markets when it occurs.

Different analysts try to estimate the total size of the carry trade, but it seems a daunting task. Some economists guess at about $35 billion, while pi Economics (www.pieconomics.com), in their research report, The Credit Bubble and the Yen, thinks it is more like $1,000 billion. The yen has thus been labeled the “ATM of the global credit world.”

It is not just hedge funds, but investment banks and other institutions that fund their deals with ultra cheap yen. Most of them do not seem worried as they are betting that Japan’s economic recovery will be slow, thereby keeping the yen weak and the carry trade alive and well. There are also too many interest groups that oppose a stronger yen.

Market volatility has been low making it cheap to use derivatives to insure against the risk of a rising yen. As a result, many hedge funds are buying protection against a stronger yen while playing the carry trade game. In a recent letter to the FT, Vineer Bhanasali, Executive Vice President of Pimco recently commented on this, “low volatility and high carry pairs -is due to “invisible hand” collusion between sellers of exchange rate volatility via options (everyone is selling options as a means to generate income in their portfolios, including many of the central banks) and the authorities, which are setting transparent, low inflation rate policies. The two continue to feed each other. Nothing short of a confidence can shake this fearful yet stable equilibrium. Waiting for that crisis, unfortunately is unprofitable and, given the cheapness of protection against the tail risks, not the course of action you should expect most profit-driven speculators to follow.”

For now, the general consensus is for the yen to stay weak as UBS, AG and RBC Capital Markets both reduced their estimates for the yen. There is, however, a dissenting voice from none other than our irreverent and insightful Marc Faber of the famed, Doom, Gloom and Boom report. In the recent Barron’s Round Table he shared a different take on it. Marc is betting on volatility this year and would play it this way:

“Consider the carry trade – investors buying in yen and investing in higher-yielding assets around the world. They’re not buying dividend-paying assets, but assets like the Indian stock market. The yen carry trade will unwind when, suddenly, these risky assets begin to perform badly relative to cash rates in Japan or the Japanese stock market. Then leverage will be reduced and people will reinvest in yen. When the reversal occurs, the yen will soar against, say, the dollar. My macro pick for 2007 is to buy the yen long or long-dated calls on yen. In the long run, it is a bad policy to borrow in a low-yielding currency and invest in a high-yielding currency. It works for one year, two years, three years, and suddenly it massively doesn’t work.”

As traders we have to understand both sides of the argument and, in addition, we must look at the charts, the Commitment of Traders report and consider the seasonal tendencies. Last week the yen took out the previous week’s high and low and closed higher for the week. In making that low the yen went below the lows going back to December of 2005, but quickly rejected it. I would consider this a critical area as we made a low last week of 82.38, taking out the 2005 low of 82.52. Back in 2003, we had a double bottom at 82.20 and then rallied sharply to 97.00 into 2004. So, this 82.20 - 82.50 area is critical support and taking it out could see prices break quickly to the 80.00 level.

The Commitment of Traders report (COT) reveals a market that is not overly short. On the CME the net short yen positions still represent only 38 per cent of all yen contracts. I would want to see the COT with a larger share of short positions to begin thinking about fading the short side. Also, the seasonal tendency for the yen is to sell off during this time of year. Over the last 10 years, the yen has consistently lost anywhere from 2.15% to 3.17% between February 3rd through April 12th. If we follow the seasonal pattern this year we could see the yen trade down and test the 80.00 level. Perhaps, then we could find some attractive long-dated calls on the yen.

We have to keep in mind that anything can happen and realize too that the Japanese investor’s appetite for overseas assets continues to be insatiable which adds to the yens weakness. Despite big outflows, 93 per cent of Japanese household wealth is still yen-denominated. All of this plays a role in the value of the yen, but as we all know trends do not continue forever and things can change rather quickly. Like Hank Paulsen, I will be watching this very, very closely both for direction and volatility - for volatility is the enemy of all carry strategies.

HOTS Weekly Options Commentary

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Peter Stolcers
February 4, 2007

Overall, the economy seems likely to expand at a moderate pace over coming quarters… some tentative signs of stabilization have appeared in the housing market… readings on core inflation have improved modestly in recent months, and inflation pressures seem likely to moderate over time… however, the high level of resource utilization has the potential to sustain inflation pressures." These were the Fed’s comments. Last week, a 3.5% GDP growth rate was much stronger than the 2% recorded in the third quarter, and it handily beat the 3% expected by economists. The jobs number on Friday was in line and average hourly earnings increased by less than expected. These economic highlights pushed the Dow Industrial and Dow Transport averages to new historic highs. Monday, the ISM is released and it is the biggest number in a “light” week. On the earnings front, the news was good last week and cyclical stocks rallied on strong numbers. New earnings releases are starting to tail off and here are a few highlights for next week: HUM, ISE, DVN, AET, BRCM, WLT, and PNRA. From a technical standpoint, the SPY made a new multi-year high and it is grinding higher. Tech stocks are not participating, but that can change quickly. A strong economy and solid earnings will keep a bid to this market. It may not run higher, but at very least, it will maintain this level until something changes.

GO CHICAGO BEARS!

Crude Oil

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Sally Limantour
January 28, 2007

The energy markets had fresh news on all fronts with weekly prices closing higher for the first time since mid December. If you are trading energy you have to keep tabs on the weather, OPEC, MEND (Nigeria), Iraq, Iran, Venezuela, Mexico, stocks/usage and alternative energy news. It is a full time job!

President Bush’s State of the Union address last week called for, “twenty in ten” where he proposed cutting US gasoline demand by 20% in 10 years with plans to switch to alternative fuels by 15% and another 5% to be saved by increasing fuel-economy standards. He also announced a goal of using 35 billion gallons per year of alternative fuel by 2017. This is 7 times the current level and about 5 times the current Renewable Fuel Standard of 7.5 billion gallons by 2012. This is an extremely ambitious goal as there just isn’t enough US farmland in the US to produce that much corn.

The January reports from the US DOE/EIA and the monthly OPEC report showed demand growth forecasts were basically unchanged. There were, however, downward revisions in the non-OPEC supply forecast by the IEA which were cut by 300k/b in 2007. Talk of China building strategic oil reserves was an added bullish demand factor and it is now estimated that the US and China will account for over half of the world’s consumption growth in 2007.

This coupled with the colder weather patterns and violence in Nigeria all helped to prop up prices of crude oil after it briefly broke the $50.00 level. The sell off in crude oil from the highs of last August has occurred in two waves. The first wave occurred between August and late September as the market was working off the potential hurricane premium and it was exhibiting lower geopolitical premium. The second sell off happened during December through January and this was due to the warm weather and the rebalancing of the commodity index in January. What is next for crude oil? It seems that with speculation of a US military strike against Iran or a potential oil embargo in the air that perhaps crude oil has seen its low for now. The push to fill the Strategic Petroleum Reserve with initial purchases of 11 million barrels is also supportive. I am currently watching the crude oil from the long side. If we can hold above 52.50 and build support above $54 for a while the market could attempt a mildly bullish stance. Perhaps, at least this would silence those calling for $30 oil.

There is an interesting relationship with the CRB and energy. The crude oil sell off from the highs in August has caused the CRB to break important support levels. As a result many have claimed the commodity bull market is over. A closer look however shows that there has been a radical revision in the CRB index since July 2006 which has skewed the overall makeup of the index. This 10th revision now has oil making up 33% of the index and this has huge implications for those watching the CRB. I urge everyone to read the excellent piece by Adam Hamilton at (www.zealllc.com) titled, CRB Dominated by Oil, for a complete understanding of this change.

Equity Index Update

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Brad Sullivan
January 30, 2007

The index markets continued to trade on a dollar flow rotational basis as large caps were weighed down for the second session in a row. Meanwhile, small caps continued to catch a strong bid that began around mid-session on Friday. The Russell 2000 --- notably the only index of the five I follow not to make a new trading high during the past several weeks --- found continued strength as players seem to be rotating money back into small caps.

The session was marked by light volume and moderate trading ranges as players anticipate what is in store for the remainder of the week. On that front, today will bring Consumer Confidence expected at 110. In addition, MSFT released Vista and INTC announced a new chip yesterday. Yet, the indices remain a bit sluggish ahead of the FOMC meeting and earnings from GOOG on Wednesday. Furthermore, the overhang of Friday’s employment report continues to leave the market with overhead supply in the near term.

I have enclosed a rather sobering look at the complete meltdown in volatility across the index board. The chart captures the Russell 2k, SPX, NDX, DJIA and Midcap 400 with their respective 22day standard deviation readings, the 200 day MA of that 22 day STDEV reading and the 10day standard deviation readings. It is interesting to note that only the NDX is trading near its 200 day MA of the 22 period reading, the other indices remain around the -50% level from their respective MA levels. Simply put, this is telling me that something is bound to change in terms of intraday trading ranges, the only question is when?

Market Sentiment Alerts

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Fari Hamzei

January 30th, 2007