Today is Thursday, July 03, 2008


Why did an analyst drop his target price for General Motors (GM) to $7; why is he the only one?

Only one analyst, so far as I know, John Murphy at Merrill Lynch (MER), has set a target price for General Motors (GM) stock as low as $7.

Why did he drop his target to $7 from $28 overnight, and where did he get the $7 number?

Given the turmoil in the auto markets, many analysts apparently have no idea where the stock is going. Some are frozen in place, holding to their higher target prices, while others have put the stock under review while they try to get a handle on GM’s outlook.

My guess is that Merrill Lynch simply took a look at the options markets for GM’s puts, which is what bearish traders buy if they don’t want to short the stock. A put option gives the buyer the right to sell a stock at a strike price if the stock is at or below that price when the option expires. Alternatively, the firm used a combination of the options markets’ indicators and discounted cash flow analysis to come up with it’s target price.

The GM Jan ‘09 $10 strike put option currently is trading at about $3, which means the put options market agrees with Murphy’s target price of about $7. GM Jan ‘09 $10 strike call options show bullish traders think the stock will touch or exceed $12.82 before they expire. That the open interest on the put options is 266,039 contracts compared with 1,633 on the call options shows a tremendous bearish sentiment.

Ironically, that huge negative put to call ratio on open interest and on volume, 11,185 put contracts to 62 calls on the Jan. $10 strike, could be a signal for contrarian speculators to buy GM. There have to be traders out there thinking that the mob can’t be right and now is the time to buy.

But probably not yet. The news about GM is all bad at the moment, and the bears are firmly in control of the GM stock and options markets. When the stock rallies, as it is at the moment, bears will be selling into the rally, trying to cut their losses or to short the stock in anticipation of further declines.

Meanwhile, GM August $12.50 strike covered calls offer an annualized return of 65.68%. That is, if a trader buys 100 shares of GM at $10.33 and sells one Aug. 12.50 call contract for 100 shares at $0.79 (79 cents), the annualized return will be about 65%. This is a risky trade, because if GM plunges to $7, the trader will lose money. Covered calls, or buy writes, limit profits but not losses.

How accurate are the prices reflected in the options markets? I don’t know of any studies of the predictive records of the options markets, but scholars who’ve studied the futures markets, which are much like the options markets, say they are pretty accurate predictors of events, if not prices. What the options markets are predicting, I guess, is more trouble for GM before it can turn itself around.

I own GM covered calls.

For educational purposes only. Investigate before you speculate.

UNH: The HMO business isn’t as profitable as UnitedHealth Group thought; lowers EPS forecast 16.9%

One of the nation’s largest HMOs, Unitedhealth Group (UNH), said it will make less money this year than it thought. The
press release is here.

UNH lowered its earnings per share forecast for 2008 16.9% to $2.95 to $3.05 a share from its previous forecast of $3.55 to $3.60 because price competition is costing it commercial customers and higher than expected Medicare claims are squeezing its profit margins. The company will announce its second quarter earnings on July 22.

UnitedHealth disclosed its problems and planned solutions:

“During the second quarter, our risk-based businesses produced a lower level of gross margin than expected, and we also experienced a continuation of the pressures we saw in the first quarter” stated Stephen J. Hemsley, chief executive officer. “We are continuing to take the aggressive specific steps necessary to improve our operating performance, as well as to better position our organization for sustained future growth. We believe the initiatives we have underway will yield these results.”

Gross margin pressures continue to be concentrated in certain of the Company’s health benefits businesses. UnitedHealthcare is experiencing greater-than-expected pressure on premium yields, due to an intensely competitive commercial business environment. Efforts to improve premium yields have resulted in a continuing reduction in risk-based business during 2008, which is a contributing factor to the reduced earnings outlook. Within the Company’s seniors business there is a decrease in the projected gross margin, including gross margin directly related to 2008 benefit levels for Part D prescription drug offerings and for Special Needs Plans serving seniors with chronic conditions.

Among the specific steps to improve performance over the balance of 2008 and into 2009 are revised benefit designs for Special Needs Plans and Part D, changes in commercial market approaches related to underwriting and pricing, and a renewed focus on sales processes, care management and stakeholder relationships at the local market level. The Company is also streamlining enterprise functions in the areas of technology and operations, network management and clinical operations to improve their alignment within the benefits businesses and to enhance their effectiveness and cost efficiency. These and other operating cost actions are also expected to reduce current run-rate operating costs in 2009.

As these charts show, the HMO industry lost favor with Wall Street back in March when Wellpoint lowered its outlook and again about a week ago when Coventry (CVH) delivered its bad news.

The question is why did some of the companies rally today on UNH’s bad news?

Maybe speculators figure that UNH’s losses in its Medicare business will force Congress to reconsider cutting payments to them in the Medicare Advantage program. Congress wants to cut Medicare Advantage payments to HMOs to cover the cost of recinding planned cuts in Medicare payments to physicians.

Or speculators may think that if UNH is losing commercial business because it won’t cut premiums, the other companies are picking up market share at UNH’s expense.

And speculators may think that because UNH needs to improve its margins, it will hold the line on its premiums or even raise them. This would make it easer for the entire industry to raise their premiums.

Similarly, speculators may believe that shrinking margins will force all HMOs to get tougher in contracting with hospitals and other providers, and this will help them improve their margins.

Lots of speculation, no certainty. What we know for sure is that HMOs were in their bear market long before the Dow Jones Industrials entered the bear zone today.

I don’t own any of these stocks.

For educational purposes only. Investigate before you speculate.

General Motors (GM) falls on major down grade and new price target of $7

General Motors (GM) shareholders are taking another blow from the auto and stock markets. The stock is down $1.13 to $10.58 on a down grade by Merrill Lynch, which set a price target of $7 and said bankruptcy is not impossible.

Bloomberg.com reports:

``The key change in our outlook is a much lower forecast for U.S. auto sales that is driving a higher cash burn necessitating a much larger capital raise than the market is currently anticipating,’’ New York-based analyst John Murphy wrote in a note to clients today.

The downgrade follows GM’s report yesterday that its June U.S. auto sales fell 18 percent. Bank of America Corp. said last week that the Detroit-based automaker may need additional funding of as much as $8 billion. JPMorgan Chase & Co. has estimated GM may need to raise $10 billion as early as this quarter.

I own GM covered calls.

For educational purposes only.

Starbucks (SBUX) is a fallen leader facing weaker demand, increased competition

When a famous growth company like Starbucks (SBUX) stops growing as fast as it has in recent years, sophisticated speculators dump the stock, making it look cheap to so called “value investors” and stock pickers who like “turn around situations.”

On Tuesday, Starbucks took another step toward in its turn around program by announcing that it will shut some 500 to 600 unprofitable stores and slow the openings of new stores. This encouraged some value investors, who’ve been buying the stock because they think the return of the company’s founder, Howard Schultz, as CEO will make Starbucks the new Apple (AAPL). Since Steve Jobs returned to Apple in 1997, he’s made it a historic turnaround success.

Today, S&P put SBUX on credit watch with negative implications. WSJ.com reported:

“We will reassess Starbucks’ business risk profile in light of lower consumer spending, the company’s revised growth plans and the increased competition from other coffee retailers and quick-service restaurants,” said S&P analyst Jackie Oberoi. Oberoi said S&P doesn’t expect the company’s credit metrics to change significantly as a direct result of the store closures.

S&P currently has a BBB+ long-term corporate rating and a A-2 short-term rating. BBB+ is three steps above junk.

Morningstar.com and Standard & Poor’s say SBUX is so under valued that they give it their highest ratings, five stars. Morningstar says the $15.88 stock’s estimated fair value is $28. S&P’s 12-month price target for the stock is $27. Rochdale Securities Research estimates the stock’s fair value is $17. Reuters Research calls the stock a “neutral,” a rating it gives 40% of the stocks it evaluates. Forbes.com quoted three analysts who are neutral about the stock’s outlook.

UPDATE: Morningstar.com is sticking with its fair value estimate for SBUX, but it will re-evaluate the company after it reports its second quarter earnings on July 30.

In the options markets, 61 SBUX Jan 2009 call contracts with a $16 strike price have been traded today, and they show that buyers think the stock will trade at about $18 before the options expire in mid January. At the same time, 195 put contracts for the SBUX Jan 16 puts show bearish traders think the stock will touch $14 or lower before those contracts expire. Calls give buyers the right to buy a stock at the strike price of, say, $16, if the stock is at or above $16 when the option expire. Put options the buyer the right to sell the stock if it is at or below the strike price.

Covered calls offer 47.6% annualized returns on the SBUX Aug 16 calls. A covered call, or buy write, is a trade that involves buying the stock and selling call contracts for an equal number of shares of that stock. While profits on covered call trades are limited, losses on such trades are not.

As the charts shown here, SBUX’s technicals are very weak.  The stock’s bearish price objective on its point and figure chart is $3. This reflects the current trend in supply and demand for the stock and should be used as a guide, not a prediction.

Anyone who buys SBUX has to be confident that it can overcome increased competition in the coffee market from McDonald’s (MCD) and Panera Bread (PNRA) and reduced demand as a result of $4 gas and depressed consumer sentiment.

I don’t own any of these stocks.

For educational purposes only. Investigate before you speculate.

GM bounces on better than expected sales; Barron’s helps

General Motors (GM) bounced 2.2% to $11.85 Tuesday after reporting better than expected sales for June. GM was down 6% at its low for the day.

GM reported sales fell 18.2% in June and that first half sales were down 16.3%.

On June 2, Barron’s featured a rosy and bullish story about GM on it’s cover, and this week it reaffirmed it’s bullish position, asserting, “Barron’s continues to think that the General, armed with an array of competitive, high-quality offerings and reduced labor costs, will come back.”

I wouldn’t be surprised to see more of a bounce in GM and the markets over the next couple of days, but I also wouldn’t be surprised if the stock just sits there or declines some more.

These charts show the sorry history of GM’s stock. Link is here.

I own GM covered calls.

For educational purposes only. Investigate before you speculate.

Nine best stocks in Warren Buffett’s Berkshire (BRK.B) portfolio year to date

Nine of the 38 publicly traded stocks owned by the famous stock picker, Warren Buffett, are up year to date. The stocks are owned by Berkshire Hathaway (BRK.B and BRK.A), which Buffett runs.

The nine winners and their year to date total returns are:

Burlington Northern (BNI), +20.80%
Union Pacific, (UNP), +20.65%
Anheuser-Busch (BUD), +20.30%
Wal-Mart Stores (WMT), +19.29%
ConocoPhillips, (COP), +8.9%
Tesco Corp. (TESO), +7.19%
Comdisco Holding (CDCO), +4.83%
Comcast (CMCSA), +4.22%
Costco (COST), +0.98%

Daily charts for these stocks are here. Click on a chart to see more charts.

Point and figure charts are here. Six of the nine stocks have bullish price objectives, which reflect stock price trends, not predictions.

I don’t hold any of these stocks.

For educational purposes only. Investigate before you speculate.

‘Big Cap 20’ dominated by energy, ag, gold and drug stocks

The “Big Cap 20” stocks fell 13% in the first half, compared with a 13% drop in the S&P 500 and a 14% drop in the Nasdaq index, according to Investor’s Business Daily, which compiles the list. The “Big Cap 20” is a computer-generated list. Stocks on the list are both the most profitable and strongest performing big capitalization stocks trading in the U.S.

Daily charts for the “Big Cap 20” are here and here. Click on a chart to see hourly, weekly and point and figure charts. Point and figure charts are here and here.

Half of the stocks have bullish point and figure objectives. They include POT, HES, WMB, AGU, FLR, UPL, ABX, QCOM, NEM. Stocks with bearish price objectives include MOS, CNQ, PX, FSLR, EOG, CHK, GENZ, X, GILD and BHI.

I don’t own any of these stocks.

For educational purposes only.

GM proves that buy and hold investors need to pay attention

General Motors (GM) is down 3.63% to $11.085 this morning and down some 83% over the last 10 years, showing how buy and hold investors can lose a lot of money by not paying attention to their stocks.

Of course, you have to be in a coma to not know that GM is in trouble and has been for almost 40 years.

But there are index mutual funds and other institutional investors that have owned the stock for years because it is part of the Dow Jones Industrials Index and the S&P 500 index. Those index funds have to own a weighted number of shares in every stock in the indexes that they follow. This means they have to own GM regardless.

Individuals also have owned GM stock for years, believing the company can’t go broke and eventually will turn itself around. Instead of watching the charts and cutting their losses, these so called investors have sat there and taken huge losses.

This is called passive investing, but it really should be called dumb speculating.

Then there are speculators like me. As I blogged here, I bought GM and sold call options on the stock a few weeks ago in an effort to capitalize on the company’s generous but tenuous dividend. Rather than sell the trade when it went negative, I made the mistake of holding on for the yield, which at the moment is over 60% annualized on the very small amount of money I put into the stock.

The question is, what kind of annualized return will I get when I sell August calls after the July calls expire in a 17 days? Too early to tell.

Lessons learned. Buying and holding can cost you a lot of money. Buying high dividend payers can be very risky. Covered call trades are risky. As attractive as these trading strategies look on paper, they can go wrong.

I own GM covered calls.

For educational purposes only. Investigate before you speculate. Every trade involves speculation and risk.

Oil speculators jump on rumors Israel will attack Iran

Speculators are jumping on rumors that Israel will attack Iran.

At the moment, petroleum futures on the New York Mercantile Exchange are up $2.39 a barrel to $142.39 on the rumor and speculation.

If Israel attacked Iran, the latter would shut the world off from about 40% of its petroleum supply by blocking shipping lanes in the Persian Gulf and the Strait of Hormuz.

Futures speculators are bidding up prices expecting and knowing that the rumors of an Israeli attack on Iran’s nuclear plants and labs would cause both oil producers and refiners to speculate in the cash markets. Producers most likely are hoarding their inventories in anticipation of higher prices, and refiners most likely are over buying and building inventories in an effort to protect themselves and consumers around the world against a sudden and sharp drop in crude supplies.

Meanwhile, the stock markets are tanking in reaction to soaring energy prices.

Dow Jones Industrials headed for 9600?

Is the Dow Jones Industrials average headed for 9600, which would be a big drop from the June 30 close of 11,350?

That’s what the point and figure chart for the exchange traded fund that tracks the Dow Jones, the Diamonds (DIA), is suggesting. Point and figure chart price objectives reflect current trends and shouldn’t be considered predictions.

But stocks and ETFs do reach and go beyond their price objectives, and they are useful indicators. A few days ago, the DIA point and figure price objective was 10,000, so the chart is even more bearish this morning.

Point and figure charts for the major indexes are here.

A quick look at the DIA point and figure chart shows that it has broken out on the bearish side, and the QQQQ chart isn’t far from breaking through its support level. Once a stock or ETF breaks out on the up or down side, it usually keeps going up or, in this case, down.

Note that while the DIA is pointing to lower prices, the price objectives for the other indexes are still bullish even though their daily and weekly charts are bearish.

Daily charts for the four leading indexes, Dow Jones (DIA), Nasdaq (QQQQ), Standard & Poor’s 500 (SPY) and Russell 2000 (IWM) are here.

Hope you avoided these 7 stocks; they have made money for speculators who sold them short in May

Doug Kass told Barron’s that he was short seven stocks, and they’re all down since then, giving him nice profits on his short sales.

As I blogged at the time:

Doug Kass of Seabreeze Partners Management, a hedge fund, told Barron’s he’s shorting these stocks:

1. Colgate-Palmolive (CL).

2. Kellogg (K).

3. General Mills (GIS).

4. Danaher (DHR).

5. Henry Schein (HSIC).

6. Patterson Cos. (PDCO).

7. Fastenal (FAST).

Daily charts for the seven stocks are here. Point and figure charts for the stocks are here.

My May 20 blog on the Barron’s story is here.

I like to check on bold predictions and see how they’re working out.

I don’t own any of these stocks.

For educational purposes only. Investigate before you speculate.

Five stocks you might buy

There aren’t many stocks worth buying in a bear market, but five stocks still are potential buys based on their technicals.

They all have weak daily charts that, for some technicians, say sell. But five stocks have strong weekly and point and figure charts that say they’re buys.

Daily charts are here for Abbott (ABT), Natus Medical (BABY), McDermott International (MDR), Constellation Brands (STZ) and Universal Health Services (UHS). Their point and figure charts are here. Click on a chart to seek hourly and weekly charts as well as daily and point an figure charts for a stock. Use a stock’s symbol to search this site for my comments on that stock.

These five stocks were the only stocks in a list of 41 stocks that I’ve written about so far this year that have weekly and point and figure buy signals. Weekly charts for the 41 stocks are here.

I don’t own any of these five stocks.

For educational purposes only. Investigate before you speculate.

GLD: Gold, gold stocks and gold ETFs look bullish; dollar sinking

With stocks in or on the verge of a bear market, gold, gold stocks and gold exchange traded funds look like the most bullish trading opportunities to stock pickers who pay at least some attention to charts and other technical indicators as well as to fundamental economic and earnings data.

These are not good days for buy and hold long-term investors.

While a few other stocks have strong weekly and point and figure charts, almost all stocks’ daily charts are giving strong sell signals. A bottom in the bear market is nowhere in sight.

But even gold has to be traded carefully, and trading any commodity futures contract, stock or ETF tied to a commodity and the dollar is risky these days as these charts show. Click on a chart to seek weekly and hourly charts.

The exchange traded fund, GLD has bullish daily, weekly, monthly and point and figure charts. Few other ETFs are as strong today. GLD’s hourly, daily, weekly and point and figure charts are here.

Point and figure charts, which show trends regardless of the time, are bullish for GG, GDX, NEM, AEM, KGC and the U.S. dollar are here.

I don’t own any of these commodities, equities or ETFs.

For educational purposes only. Investigate before you speculate.

What ‘universal health care’ would look like

The thousands of physicians and millions of Medicare beneficiaries who think the government should provide “universal health care” insurance to all Americans are getting a good look at how ugly such a politically-driven scheme would be. Doctors would see their incomes fall, and patients would suffer big time.

Because Congress cannot agree on how to prevent a 10.8% cut in Medicare payments, doctors are threatening to drop their Medicare patients. And because the Democrats want to prevent the cut in Medicare payments to doctors by cutting payments to private insurers that cover millions of Medicare beneficiaries, insurers are threatening to drop out of that program and make those Medicare beneficiaries very unhappy.

A report on the politically-driven stalemate is here. Clearly, the Democrats are intent on winning political points regardless of what happens to patients. And the Republicans are intent on preserving Medicare Advantage, which they created when they controlled Congress.

Under a “universal health insurance system,” which is advocated by the Democrats, political fights like this would happen every year. Doctors and insurers, if they were still in business, would face payment cuts. Patients would face uncertainty about who their doctors and insurers would be. And relationships between doctors, insurers and patients would become more strained than some of them already are.

Warren Buffett’s Berkshire (BRK.B) portfolio lost 2.81% in the last week; down 9.59% year to date

Warren Buffett’s portfolio of 38 publicly traded stocks, which are owned by his Berkshire Hathaway (BRK.A and BRK.B), fell 2.81% in the last week, 8.73% in the last month, 9.59% year to date and 10.52% in the last 12 months. Their total return averaged 5.15% a year over the last three years. The stocks have an expected three year annualize total return of 21.48%, according to data on Morningstar.com where I maintain a watch list for the portfolio.

At the end of the week, the stocks currently in the portfolio traded for an average of 72% of the Morningstar estimated fair value for the stocks it rates. Of the 38 stocks in the Berkshire portfolio, Morningstar currently rates 33. The portfolio’s average PEG (price earnings ratio/projected growth rate) ratio is 1.25.

BRK.B closed Friday at $4,016.50, or about 1/30th of BRK.A. In the last week, BRK.B’s total return fell 3.31%; in the last month, 6.48%; and year to date, 15.19%. In the last 12 months, the total return on the stock has been 12.83%, bringing its three year average total return to 13.12%. Its expected three year average total return is 18.91%. There is no PEG ratio for the stock.

Morningstar estimates BRK.B’s fair value is $5,100 and that it is trading for 79% of fair value.

As previously noted, I’ve also created watch lists on Morningstar for the widely followed Dow Jones Industrials index and for 26 undervalued stocks that pay relatively high dividends.

In the last week, the Dow Jones Industrials’ 30 stocks in the index fell an average of 3.98%. This is different from the decline in the index because I don’t weight the stocks. In the last month, these stocks were down 8.88%, year to date they’re down 10.20% and in the last year they’re down 7.2%. They’ve gained an average of 8.4% a year over the last three years, and their expected annualized total returns over the next three years is 19.53%. Their average PEG ratio is a modest 1.2.

Morningstar currently rates 28 of the 30 Dow Jones Industrials, and the rated stocks are trading for 75% of estimated fair value, which means the market is pretty undervalued in the eyes of Morningstar’s analysts. Two companies in the DJ index, Boeing (BA) and General Motors (GM), currently aren’t rated by the independent stock market research firm.

The Dividend 26, as I call them, had a relatively good week, losing only 1.83%. In the last month their total returns fell 8.59%; year to date, 17.25%; over the last 12 months, 27.31% and over the last three years their average total return has been a negative 3.23% a year. Their expected annualized returns over the next three years is 25.25%, and their peg ratio is 1.35.

Twenty three of the Dividend 26 are rated by Morningstar, and they are trading for an average of 67% of estimated fair value.

Speculators have convinced the NY Times that they shouldn’t be blamed for soaring oil prices

Columnists for both The New York Times and The Wall Street Journal believe speculators have nothing to do with soaring energy and commodities prices, but pension funds, endowments and other buy only institutional speculators are playing major roles in inflating futures prices and consumer prices.

What these columnists don’t understand and their friends in the speculators’ community won’t tell them is that the recently arrived institutional speculators distort the markets by taking long-term positions on the buy side only. Because they only buy huge positions, they put artificial floors under energy and other futures markets prices, as explained by farmers and others at a forum sponsored by the Commodity Futures Trading Commission on April 22. Transcripts of many of the remarks made at that forum by representatives of growers of corn, soybeans, wheat, cotton and rice are here.

A scholarly explanation of the problems created for corn and bean farmers and grain elevators was made by Prof. Eugene Kundra of the University Illinois. His statement is here.

Kundra said there are several reasons that futures and cash prices aren’t converging when futures contracts near expiration, causing major problems for farmers and commercial buyers of their corn and beans. While he didn’t specifically point to the long-term positions held by index funds and other institutional speculators, he clearly implicated them in one of his major proposed solutions. He proposed that the CFTC and the Chicago Board of Trade consider:

“Managing" the influence of passive longs and perhaps other groups by
limiting hedge exemptions, thereby forcing those groups to trade with spec
margins and spec limits. This solution follows from the assumption that these
traders have artificially and permanently forced futures prices above
fundamental value of the commodities in the cash market.

Garry Niemeyer, a corn grower, explained how institutional speculators are distorting the corn markets and making it impossible for grain elevators to buy corn or finance their hedges on the Chicago Board of Trade’s corn futures markets. His statement for the National Corn Growers Assn. is here.

After a detailed explanation of the problems institutional speculators are creating for farmers and the grain elevators that buy their crops, the corn growers recommended that speculating by institutions should be limited.

It is NCGA’s opinion that the large funds are having an overwhelming influence on the
futures markets and are “non-commercial” traders. Frequently, we see dramatic shifts in
the futures market that have no substantiated fundamental drivers. While we do not want
to drive the index and hedge funds from the market, they should be treated for what they
are, “speculators”. I realize this flies in the face of some CFTC decisions, but I believe to
truly be classified as a hedger, an entity must have a cash commodity position. NCGA
realizes that the large Index Funds are selling a commodity index and then going long in
each of their market basket commodities which could be construed as a hedge. But, they
are selling a market basket of futures prices, not a market basket of physical
commodities.
NCGA proposes that the Index Funds no longer be afforded the same margin
requirements as traditional commercial hedgers. Specifically, to be classified as a hedger
the entity must have a cash position. We are not suggesting that they have an equal or
proportional cash position, but somewhere within that company they must be buying or
selling cash grain to retain the “hedger” classification.

Soybean, cotton and wheat growers agreed with this recommendation. They are in the markets every day. They have been in the markets during most of their careers and while they value the traditional roles of speculators in the futures markets, they also believe that index funds and other institutional speculators are distorting the markets, inflating prices and hurting both growers and consumers.

Having covered and studied the futures markets for years, I think the growers’ case that speculators are inflating prices and consumer prices is much stronger than the speculators’ argument that they are not. Institutional speculators say they are diversifying their portfolios and hedging against inflation for their beneficiaries.

But it is clear that institutional speculating in the energy and other commodities futures markets is causing much more inflation and is hurting their index fund and pension fund beneficiaries much more than it is helping them.

It’s time for institutional speculators to reassess their strategies and the impact of their speculating on their beneficiaries as well as on the American consumer.

The CFTC obviously was persuaded by the arguments that institutional speculators’ trading in the futures markets must be curbed.

On June 3, the CFTC announced that it was reversing previously announced intentions to expand position limits for institutional speculators, and it announced that it would work to make it easier for traders and the public to track trading activities by institutional speculators. The press release is here.

Joe Nocera’s Times column is here. As I previously reported here, Congress is investigating whether the sovereign wealth funds of net oil exporting countries are playing the futures markets and inflating prices. I advocated tighter position limits on commodity index funds and other institutional investors here. I explained one way institutional speculators influence individual speculators and trading by hedgers here.

Exchange traded funds that track Nasdaq, S&P 500, Russell 2000 have bullish point and figure charts

Some of the exchange traded funds that are pegged to the Nasdaq, S&P 500 and other leading indexes have bullish point and figure charts, but most of their daily charts are very bearish.

The point and figure charts are here. Their daily charts are here.

Note that the bearish price objective for the Diamonds (DIA), which tracks the Dow Jones Industrials, is 10,000, down from the 11,467 close Thursday.

Point and figure price objectives reflect trends. They are not predictions.

I don’t own any of these ETFs.

For educational purposes only.

What I’m doing with my depressed GM stock

Soaring oil prices, changing auto and truck markets and the tanking stock market have thrown thousands of stock pickers and long-term investors in General Motors (GM) stock under a gas guzzling Hummer.

Although I have owned GM covered calls only since June 11, I’m one of the losers in the GM market. Millions of other long term investors have huge losses in the stock, compared with what I’m dealing with.

I bought GM at $16.57 and at the same time sold GM July 17.50 call options for 96 cents. This put my breakeven at $15.61. The stock closed Thursday at $11.43 and the call options at 7 cents.  So I’ve got a $3.29 per share, or 21%, loss on my trade. Annualized, that’s horrible!

Why did I do this trade? I explained here.

While I knew GM was in trouble and headed lower over the near term, I also knew that it was highly rated by Morningstar.com, which estimated its fair value at $27. Morningstar now has the stock “under review” for obvious reasons. It’s assumptions have been thrown under the pickup.

Well, last anyone heard, GM’s still paying a $1 per share dividend, which amounts to a 6.04% yield for me and 8.8% for those who bought GM at $11.43. So, if I collect the dividend for a year, my loss is reduced by a buck, assuming GM doesn’t cut the dividend and the stock doesn’t fall further. Both could happen. One reason GM has tanked in the last week is that analysts have determined it will need to raise capital. A dividend cut would be relatively cheap capital but would hurt employee and investors relations.

The July 17.50 (strike price) call options I sold a couple of weeks ago will expire out of the money on July 18. Then I can sell August 12.50 or 15 call options, depending where the stock is on July 21. I want to sell calls that are far enough out of the money so that there is little chance the stock will rise to the new strike price and be called, making me take my loss sooner than I want too. A call option with a 17.50 strike price gives the buyer of the call the right to buy your stock for $17.50 a share if the stock is trading at $17.50 or above.

Indeed, my strategy is to collect the dividend and sell calls over the next couple of years. This would reduce my basis, or effective purchase price, and it would give the company time to begin to turn itself around. Once investors see that a turn around effort is working, they will bid up the price of the stock, giving me a nice profit over the next two to four years, unless the stock is called prematurely. Thus my strategy for selling far out of the money calls.

I’m speculating that GM can and will turn itself around with some help from gas prices, which I’m counting on going down. Congress is moving to limit the roles of pension funds, endowments, hedge funds and other financial speculators that have been inflating oil prices over the last two or three years. Some think that if their irresponsible speculative activities are curbed, oil prices could fall 50%. That would help GM’s bottom line big time.

I’m not that optimistic, because no one can predict what will happen.

Meanwhile, GM is shaking up its product line to meet the demand for vehicles that give better mileage. It could become a major importer of its smaller Opel and other high mileage cars it makes abroad. And it could and should reduce the number of models it offers, following the examples of Toyota, Nissan and Honda.

A company’s success is 80% to 90% based on the business it’s in and 10% to 20% based on management effectiveness. GM has been constrained by unions, legacy pension and retiree health care expenses, commitments to its thousands of dealers and suppliers and environmental laws. It’s been virtually frozen in place.

Now it’s fighting for its survival, and a lot of those constraints have been and will be thrown under the SUV. Lots of workers and small business owners will be hurt while GM tries to satisfy consumers and environmentalists as well as shareholders.

The options markets are reflecting some optimism that GM will return to prosperity. Options that expire next January show that speculators think the stock will recover to between $13 and $14 before January 2009 options expire.

January 2010 10 call options suggest the stock will recover to $14 before they expire while January 15 2010 calls show some speculators are counting on a rally to about $17.

Bearish buyers of GM January 2010 15 puts, however, are speculating that the price will be under $10 a share when the options expire on January 15, 2010.

As you can see, writing covered calls is a risky strategy, even when you buy stocks with high dividends. Covered call trades limit profits, but not losses and require a trader to pay close attention to their positions. This strategy is not for passive investors. And there is absolutely no guarantee that my strategy for working myself out of this hole will succeed.

I own GM covered calls. And I’m glad my position is tiny. I didn’t bet the farm on this trade.

For educational purposes only. Investigate before you speculate. Read some books on option trading before trying this strategy.

BBT: BB & T Corp. offers generous 7.47% yield; raises dividend

BB & T Corp. (BBT), a Winston-Salem-based bank holding company, has raised its quarterly dividend to 47 cents a share from 46 cents a share, showing its confidence in its ability to do well in today’s shaky credit markets. This brings projected annualized yields as of this writing to a generous 7.47%.

http://www.dividends4life.com calls BBT a four-star buy here.

Morningstar.com calls BBT a four-star stock and estimates its fair value at $43. The stock is trading at $25.18, or about 59% of its estimated fair value. Even if it takes two or three years to achieve that estimated fair value, an investor will achieve a very respectable total return of 20% to 27% a year, assuming dividends continue to grow.

An options trader can achieve even greater returns by both buying, say, 100 shares of BBT for $25.18 per share and selling one BBT July 27.5 (strike price) call option for 81 cents. Such a trade provides an immediate return of 3.22% on the stock purchase after commissions. This works out to an annualized return of about 51%, assuming no change in the stock price and that a new call option can be sold in each subsequent month after the July call expires. Add the 7.47% annual dividend and the total annualized return is over 58%, which most likely is too good to be true but worth shooting for. By buying an out of the money covered call, a trader is more likely to see the call option expire worthless and to continue holding the BBT stock and collecting its dividend.

If a trader buys 100 BBT for 25.18 and sells one BBT July 25 call for $1.70 per share, the annualized covered call return would be about 106% with 23 days to expiration. The risk here is that by buying an in the money covered call, the stock is more likely to be at or at the $25 strike price when the call option expires. As a result, the call buyer would be able to buy the stock for $25, regardless of whether it was trading for $25 or much higher. If the stock is called, the total return would be about 90% annualized.

Writing covered calls is risky and for nimble traders who watch their positions very closely and can execute trades on their personal computers. While covered calls limit profits, they don’t limit losses.

Buyers of BBT calls that expire in January 2009 25 calls think the stock will touch or top $28 before the options expire in mid January. Bearish buyers of BBT January 2009 25 puts think the stock could touch $21.

Technically, BBT’s charts are bearish, which means investors aren’t convinced the stock is a buy. The stock’s point and figure chart has a bearish price objective of $6.

BBT’s hourly, daily, weekly and point and figure charts are here.

This is a bank holding company, after all, and despite today’s rally in banks’ shares, they are very much out of favor in this bear market.

I own BBT covered calls, which I bought today.

For educational purposes only. Investigate before you speculate.

Are oil producing countries manipulating U.S. oil futures prices?

In a little noted or reported letter requesting information about commodities speculators, Congress has asked the Commodities Futures Trade Commission for information about how other countries are speculating in U.S. oil, grain and other commodities futures markets. The letter is here.

The question is, are net oil exporters like Venezuela, Nigeria, Iran, Mexico and Saudi Arabia inflating oil prices by buying futures contracts on the New York Mercantile Exchange?

Are the Sovereign Wealth funds, as they are known, trading heavily enough to inflate prices. If they are inflating prices, by how much? Sovereign Wealth funds invest money held by their countries’ governments.

While Saudi Arabia and other OPEC countries are making nice noises about the need to take speculators out of the oil markets, they may at the same time be lining their pockets with inflated oil revenues caused by their own speculative activities.

John D. Dingell (D-MI), chairman of the House Committee on Energy and Commerce, and Bart Stupak (D-MI), chairman of the Subcommittee on Oversight and Investigation, asked the CFTC to:

Please provide a list of Sovereign Wealth Funds that have commodity investments including:
a. An estimate of the open intererst in futures and options held by Sovereign Wealth Funds.
b. How many Sovereign Wealth Funds from countries that are net exporters of oil are taking positions in oil or other energy futures?
c. In the event that CFTC does not have sufficient information to assess the size and extent of these investments, please issue a Special Call for information to obtain a list of the Sovereign Wealth Funds, identify their aggregate positions in commodities, and make this aggregated information public.

Congress asked for a report by June 20, but the CFTC told a Congressional hearing Monday that the agency would have the information by Sept. 15.

Read the whole letter. It’s a very interesting discussion of speculation in the futures markets.

Would tighter controls on speculators cut oil prices in half?

Nobody knows what proposed tough new regulations for oil and other commodities speculators would do to the prices of oil, corn, soybeans and wheat, but a lot of people are speculating that prices would drop as much as 50%.

That speculators, especially index funds and institutional speculators such as pension funds and hedge funds, are very likely to face much tighter regulations was made clear Monday during Congressional hearings on the roles of speculators. MarketWatch reports here. The Christian Science Monitor reports here. Bloomberg reports here. Reuters offers links to dozens of stories here.

Already, apologists at The Wall Street Journal and on Wall Street are claiming that curbing speculation would do little good and that speculators would get around any regulations imposed by Congress.

I think curbing institutional speculators by imposing position limits would help reduce price volatility and the price of oil. And I don’t think institutional speculators could get around the new regulations, especially if they were replicated around the world, as they most likely would be.

Medical devices makers recommended by Leerink Swann

Leerink Swann (http://leerink.com/) initiated coverage of a dozen makers of medical devices with seven “outperform” ratings and five “market perform” ratings, which apparently are the equivalents of buy and hold but don’t sell ratings.

Market outperform ratings went to Stryker (SYK), St. Jude Medical (STJ), Medtronic (MDT), Intuitive Surgical (ISRG), Covidien (COV), Baxter (BAX) and Abbott (ABT). Daily charts are here. Point and figure charts are here.

Market perform ratings went to Zimmer (ZMH), Boston Scientific (BSX), Johnson & Johnson (JNJ), Hospira (HSP) and C. R. Bard (BCR). Daily charts are here. Point and figure charts are here.

I own leaps on STJ.

For educational purposes only. Research these stocks at yahoo.com, reuters.com and other financial sites.

Biotechnology, global warming, ethanol and environmentalism

The world faces economic disasters if it adopts the policies advocated by global warming alarmists Al Gore and Nicholas Stern, and promoting ethanol as an alternative energy resource is a mistake that politically will be hard to reverse.

That’s the message that this global warming skeptic takes from Freeman Dyson’s review of two books on global warming in a recent issue of The New York Review of Books. A link to his thought-provoking review is here.

There are several scenarios for reducing carbon emissions, and the most costly seem to be the most popular at the moment. Dyson summarizes the approaches:

“Stern" imposes draconian limits on emissions, similar to the Kyoto limits but much stronger. “Gore” is a policy advocated by Al Gore, with emissions reduced drastically but gradually, the reductions reaching 90% of current levels before the year 2050. The fifth and last kind is called “low-cost backstop,” a policy based on a hypothetical low-cost technology for removing carbon dioxide from the atmosphere, or for producing energy without carbon dioxide emission, assuming that such a technology will become available at some specified future date. According to Nordhaus, this technology might include “low-cost solar power, geothermal energy, some nonintrusive climatic engineering, or genetically engineered carbon-eating trees.”

Dyson says carbon-eating trees should be in the ground in about 20 to 50 years and could reduce the amount of carbon in the atomosphere by as much as 50% in the next 50 years.

In his review of A Question of Balance: Weighing the Options on Global Warming Policies by a professional economist, William Nordhaus, Freeman summarizes:

The main conclusion of the Nordhaus analysis is that the ambitious proposals, “Stern” and “Gore,” are disastrously expensive, the “low-cost backstop” is enormously advantageous if it can be achieved, and the other policies including business-as-usual and Kyoto are only moderately worse than the optimal policy. The practical consequence for global-warming policy is that we should pursue the following objectives in order of priority. (1) Avoid the ambitious proposals. (2) Develop the science and technology for a low-cost backstop. (3) Negotiate an international treaty coming as close as possible to the optimal policy, in case the low-cost backstop fails. (4) Avoid an international treaty making the Kyoto Protocol policy permanent. These objectives are valid for economic reasons, independent of the scientific details of global warming.

These are remarkable conclusions for a liberal publication like The New York Review of Books to print. Maybe global warming alarmists are giving Gore and Stern a second, more critical look?

Dyson is a physicist with a number of books and articles under his byline. He has opinions about the global warming debate, as pronounced here:

It is likely that biotechnology will dominate our lives and our economic activities during the second half of the twenty-first century, just as computer technology dominated our lives and our economy during the second half of the twentieth. Biotechnology could be a great equalizer, spreading wealth over the world wherever there is land and air and water and sunlight. This has nothing to do with the misguided efforts that are now being made to reduce carbon emissions by growing corn and converting it into ethanol fuel. The ethanol program fails to reduce emissions and incidentally hurts poor people all over the world by raising the price of food. After we have mastered biotechnology, the rules of the climate game will be radically changed. In a world economy based on biotechnology, some low-cost and environmentally benign backstop to carbon emissions is likely to become a reality.

In the last part of his review, Dyson discusses Global Warming: Looking Beyond Kyoto, an anthology of papers presented at a 2005 conference at the Yale Center for the Study of Globalization. The book was edited by Ernesto Zedillo, former president of Mexico (1994-2000) and chairman of the conference.

Dyson deplores the way global warming alarmists, including the U.K. government, have decided that the debate is over and are treating global warming skeptics as the enemy of environmentalism, which he calls the new secular religion, replacing socialism as the secular religion.

Anyone who has read Jonah Goldberg’s Liberal Fascism, the secret history of the American left from Jussolini to the politics of meaning, recognizes the fascist strategy being used by the global warming alarmists. See http://www.liberal-fascism.com.

Dyson notes that skeptics often have been proved correct and majorities often have been proved wrong in previous scientific debates and disputes. Global warming skeptics may be right or wrong, but they deserve to be listened to, he argues. He concludes:

Much of the public has come to believe that anyone who is skeptical about the dangers of global warming is an enemy of the environment. The skeptics now have the difficult task of convincing the public that the opposite is true. Many of the skeptics are passionate environmentalists. They are horrified to see the obsession with global warming distracting public attention from what they see as more serious and more immediate dangers to the planet, including problems of nuclear weaponry, environmental degradation, and social injustice. Whether they turn out to be right or wrong, their arguments on these issues deserve to be heard.

Charts show the oil bubble

Farmfutures.com publishes daily and weekly market commentaries on agricultural futures, and it offers commentary on petroleum and currency futures markets, which are so important to agricultural prices.

This morning the corn, beans and wheat markets look weak due to anticipated profit taking despite expectations that the Midwest’s floods are cutting production.

This link is to commentary and some interesting charts of oil, currency, diesel fuel, propane, fertilizer and metals prices. Anyone interested in the grains and beans markets should check the farmfutures.com site daily.

Oil may be peaking in $130 to $140 range, Barron’s says

Barron’s June 23 cover story says oil prices may be peaking in the $130 to $140 price range, which is what I was saying several weeks ago here, here and here. The Barron’s link is here.

Barron’s impact graphs:

In the next decade, oil indeed may hit $200 a barrel. But prices could fall to $100 a barrel by the end of this year if Saudi Arabia makes good on its pledge to increase production; global demand eases; the Federal Reserve begins lifting short-term interest rates; the dollar rallies, and investors stop pouring money into the oil market. China raised prices on retail gasoline and diesel fuel by 18% Thursday, in a move that is expected to curb demand.

It’s tough to know how much of the surge in crude-oil prices—up 40% just this year—reflects fundamental supply and demand, and how much is due to other factors, including the dollar, commodity speculation and interest from institutional investors. Like some others, we suspect the run-up was fueled by more than economics.

THERE IS GROWING TALK OF AN OIL BUBBLE, THOUGH evidence of asset bubbles isn’t conclusive until they burst. The trajectory of oil prices in the past eight years looks eerily similar to the Nasdaq’s eight-year run to a peak of more than 5,000 in March 2000. More than eight years later, the Nasdaq is at half that level.

“My basic message to those who say that prices have to go up forever is that the oil markets have been cyclical for 140 years. Why should that have stopped?” says Edward Morse, chief energy economist at Lehman Brothers.

Yep.

Obama’s ties to ethanol, corn lobbyists distort his views of energy markets

Corn-based ethanol is helping inflate energy and food prices, and Sen. Barack Obama (D-IL), his party’s presumptive presidential nominee, has close ties to the ethanol and corn lobbies, the NY Times reports here.

Having spent the last two days driving 982 miles from central Illinois across Iowa, Nebraska and Colorado, I can tell you that when ethanol is blended with gasoline, it reduces mileage by more than three times the price discount offered on gas blended with the corn-based ethanol. I’ve had the same experience in previous trips across the corn belt.

In other words, the lobbyists representing Illinois-based corn growers and ethanol producers have Obama in their pocket.

Politicians and economists who aren’t dependent on ethanol and corn lobbyists agree that when President Bush and members of Congress enacted huge subsidies for ethanol in an effort to win Corn Belt votes and campaign contributions, they made one of the biggest mistakes in top-down, centralized planning in the history of the country.

Their support for ethanol, which is basically a not very well hidden agricultural subsidy, got them elected. And it has helped inflate energy prices and has made a lot of foodstuffs unaffordable and even scarce in poor countries.

Now Obama is proposing to have the federal government spend $150 billion over 10 years on research into alternative energy technology. That boondoggle for alternative energy venture capitalists and entrepreneurs would not only take money out of the pockets of tax payers but also distort the capital and energy markets even more. It’s a disaster waiting to happen.

Congressional panel finds speculators account for about 70% of oil futures trading

So much for the argument that speculators have little to do with surging oil futures prices, which have a big influence on cash prices.

In Monday’s paper, The Wall Street Journal’s story on the findings begins:

Panel Cites Surge in Speculative Oil Trades
Congress Gears Up
To Devise Limits;
Campaigns Spar
By STEPHEN POWER and IAN TALLEY
June 23, 2008; Page A7
WASHINGTON—Speculative traders’ interest in crude oil has grown to the point that they now account for roughly 70% of all trading in West Texas Intermediate crude on the New York Mercantile Exchange, compared with 37% in 2000, according to an investigation by a congressional subcommittee that forms part of an escalating political assault on Wall Street’s role in the run-up in oil prices.

The subcommittee’s findings, based on data obtained from federal commodity-futures regulators, are the latest sign that Washington is gearing up to try to limit the role of hedge funds, investment banks and other speculative traders in the oil markets. The issue flared into the presidential contest Sunday as the campaigns of Illinois Democrat Barack Obama and Arizona Republican John McCain sparred publicly over which candidate would be more aggressive in closing legal loopholes that some say have contributed to excessive speculation.

The House Subcommittee on Oversight and Investigations, which conducted the inquiry into the oil futures markets, has scheduled a hearing for Monday to call attention to the increasing role that financial investors are playing in the oil futures market. The investigation was led by the subcommittee’s chairman, Rep. Bart Stupak, and senior Democrat, Rep. John Dingell, both of Michigan. In the coming weeks, Congress is expected to consider legislation to set strict limits—or in some cases, an outright ban—on trading in energy futures in some markets.

For those who have paid subscriptions to wsj.com, the link is here.

Warren Buffett’s Berkshire (BRK.B) portfolio loses 4.34% in last week; 6.34% in last month

The 39 publicly-traded stocks owned by Warren Buffett’s Berkshire Hathaway (BRK.B) fell 4.34% in the last week, bringing losses for the month to 6.34%, for the year to date to 6.99% and for the last 12 months to 9.15%. The stocks currently in the portfolio are up an average of 5.21% over the last three years and have a three-year expected return of 20.25%, according to data on my morningstar.com watch list portfolio.

The 39 stocks are trading for an average PEG ratio of 1.27. The PEG ratio is the price earnings ratio divided by the five year earnings growth rate projected for a stock. Such projections are unreliable. The stocks are paying an average dividend of 1.93%.

They are trading for an average of 75% of the estimated fair values that Morningstar’s analysts have given them.

As for Berkshire, which owns 100% of dozens of companies, in the last week the total return on its BRK.B stock fell 2.19%, reducing its total return gain for the last month to 1.29%. Year to date, the total return is down 12.29% while its 12 months total return is up 15.02% and its three-year total return is a positive 14.64%. The three-year expected return on the stock is 17.59%, according to Morningstar.com.  BRK.B, which is 1/30th of BRK.A, closed Friday at $4,154 per share.

I don’t own any of these stocks.

For educational purposes only. Investigate before you speculate.

Dividend-paying stocks look very undervalued; down 2.56% in last week, 25% in last 12 months

The 26 dividend-paying stocks that I’m tracking at morningstar.com are very undervalued, according to Morningstar’s analysts.

And no wonder, those unloved stocks dropped another 2.56% in the last week, bringing their losses for the last month to 8.81%, for the year to date to 15.24% and for the last 12 months to 24.97%. They’ve lost an average of 2.92% over the last three years.

But Morningstar’s expected three-year return for the 23 stocks it currently rates is 24.35%. And it gives them 4.68 stars out of a possible 5 because they are trading at an average of 68% of fair value. Three stocks that previously carried ratings of four or five stars are under review by Morningstar because of changes in their outlooks and reassignments of the analysts who cover them. The stocks under review include Eli Lilly (LLY), TCF Financial (TCB) and Union Bank (UB).

These stocks look cheap with an average PEG ratio (price earnings ratio/5-year growth projections) of 1.37.

But don’t jump into any of these stocks as long as their technicals look as bearish as most of them do now. Daily charts for the stocks are here, here and here.

I previously blogged on these stocks here.

the 26 stocks pay an average dividend of 5.29%.

Full disclosure: I own covered calls on LLY, TCB, Corporate Executive Board (EXBD) and Worthington Industries (WOR).

For educational purposes only. Investigate before you speculate.

McCain and Obama are right: Institutional speculators are driving oil prices higher

McCain and Obama are pandering to voters who believe and fear that speculators are to blame for rising commodity prices and inflation. Both men are saying dumb things about soaring oil prices.

Routine politics.

Unfortunately, there is more than a figment of truth to the charge that speculators are helping inflate commodities prices.

When markets look bullish based on expected changes in fundamental supply and demand, speculators buy, and their buying helps push prices higher. And when individual speculators see institutional speculators pour billions into oil and corn futures, they become even more bullish and aggressive in their buying.

The new wrinkle in the speculating game is the role of institutional speculators. And no one has answered the question, how do long-term, institutional speculators such as pension funds and college endowments affect market psychology? At what point will institutional speculators become fearful of a bubble burst and suddenly begin selling, or at least stop buying?

We had a hint of a bubble burst a week or so ago, but “events” sent prices up to new highs.

Here’s what to watch:

1. Can jawboning by Paulson, Bernanke, Obama, McCain, members of Congress, Bush, the Saudis, Prime Minister Brown and other politicians scare institutional and individual specualtors out of the markets? So far, no.

2. Will moves by consuming countries such as China, India and other Asian countries to make their consumers more sensitive to soaring oil prices slow demand enough to halt the surge in prices? So far, not too much.

3. Will the Fed next week raise interest rates in an effort to firm the dollar and depress oil prices? The betting seems to be that it won’t.

Just as the bubbles in the Chinese and Indian stock markets have burst this year, so too will oil and other commodities’ price bubbles meet their fatal pricks. The question is when will we see the final spike?

No one knows.

BAC: Chances Bank of America will cut its dividend are as high as 72%; fair value $56

There is a 72% chance that Bank of America (BAC) will raise additional capital and/or cut its dividend, assuming that it goes through with its acquisition of the troubled Countrywide (CFC), according to Morningstar.com.

With the stock trading at $28.52 and paying a $2.56 per share annual dividend, BAC is yielding almost 9%.

In a report dated June 9, Morningstar said:

We are maintaining our $56 fair value estimate, which includes the dilutive effect of a potential capital-raising and/or dividend cut needed to finance the Countrywide acquisition. There are a lot of moving parts in our valuation. First, we took three scenarios for B of A’s core business, which resulted in values ranging from $47 to $63. In these scenarios, loan losses range between $12 billion and $15 billion in the near term and returns on equity range between 14% and 17.5% in the long run. We then assumed there was a 90% chance the Countrywide deal goes through and a 10% chance B of A walks away. We went through four possible mark-to-market scenarios for Countrywide’s balance sheet to determine the potential damage to B of A’s balance sheet and its need to raise capital. We concluded that if the deal goes through, there is an 80% chance B of A would cut its dividend and raise additional capital. The various scenarios resulted in a dilution between 1% and 3%, which might seem small, but is reasonable considering Countrywide is only one tenth the size of B of A. Multiplying the 90% chance of the deal getting done by the 80% chance of a capital event brings us to our 72% chance B of A will raise additional capital and/or cut its dividend.

Full disclosure: I own BAC July covered calls, as described here.

For educational purposes only. Investigate before you speculate.

Bernanke’s health care term paper shows how little he knows about health care economics, uninsured

Federal Reserve Board Chairman Ben Bernanke’s freshman-level term paper on health care economics shows how little he knows about it.

Here’s the evidence:

He talks about the health care system in America as if there is one. There are thousands of health care systems in this country. They include the military and Veterans Administration health care systems, the investor-owned and not-for-profit health care systems and systems owned and run by states, counties and municipalities. Typical systems include hospitals, specialty hospitals, long-term care facilities and services and primary care, diagnostic, emergency care and surgical clinics. Every state and municipality that has a hospital, doctor’s office, nursing home or other health care provider is a health care and health insurance market. In addition, we have dozens of medical devices, medical supplies and pharmaceutical markets. While they are interdependent, they are not in a “system.”

He cites a Institute of Medicine report on medical errors, which has been discredited in the Journal of the American Medical Assn. and other peer-reviewed journals. I’ve also written about its flaws in Health Care Strategic Management. Here is one of the 32 posts I’ve written about medical errors, and it puts the number of deaths due to errors at 32,000, not the more than 100,000 projected and estimated by the IOM in its 1999 report.

Bernanke talks about the 47 million uninsured when there are, at most 10 million American citizens who cannot afford health insurance and are “uninsured.” I’ve explained the math here. On this blog, I’ve written about the uninsured more than 177 times over the last five years.

The Fed’s chairman repeats a couple of important points.

First, no single reform will fix the health care markets.

Second. We have excellent health care services and medical products producers in the U.S., and policy makers must be careful not to damage what we have, which is what they’re bound to do.

BBG, FST, VQ, WLL, XEC: Higher price targets for Colorado-based energy stocks

Lehman (LEH) has raised its price targets for five Colorado-based energy stocks.

Daily charts for Bill Barrett (BBG), which is trading at $55.42 and has a new price target of $62 vs. the old target of $54, and the other stocks are here. The stocks’ point and figure charts with their price objectives, which reflect trend calculations, are here. Click on the charts for more information.

The other four stocks, their current prices and their new and old price targets include:

Cimarex (XEC), $71.98, $77 and $74.
Forest Oil (FST), $70.76, $88 and $72.
Venoco (VQ), $23.57, $27 and $21.
Whiting (WLL), $100.20, $105, $87.

I don’t own any of these stocks.

For educational purposes only.

Warren Buffett’s Berkshire (BRK.B) portfolio lost 1.35% in last week; has lost 6.12% in 12 months

Warren Buffett’s Berkshire Hathaway (BRK.B) saw its portfolio of 39 stocks lose 1.35% in the last week, compared with a 0.87% gain in stocks currently in the Dow Jones 30 Industrials index and a 1.78% loss in the 26 undervalued dividend paying stocks that I’m tracking.

Year to date, Berkshire’s current portfolio is down 3.25%, compared with the Dow 30, which are down 3.46% and the undervalued 26 dividend paying stocks, which are down 13.36%. In the last 12 months, the Berkshire stocks are down 6.12%, the current Dow 30 are down 1.17% and the dividend 26 are down 23.48%, according to watch portfolios that I’m tracking on Morningstar.com.

All three portfolios are undervalued. Berkshire’s portfolio is trading for 77% of Morningstar’s estimated fair values for the stocks in the portfolio that it rates. The Dow 30 are trading for 80% of fair value and the dividend payers are trading for 70% of estimated fair value.

BRK.B, which is 1/30th of a BRK.A share, fell 0.91% in the last week to $4,247. This brought its one month gain to 2.39%. Year to date, the stock is down 10.33%, but it’s up 17.16% in the last 12 months and 15.06% in the last three years. Its expected three-year return, according to Morningstar.com, is 16.74%. BRK.B is trading for 83% of Morningstar’s $5,100 estimated fair value for the stock.

Morningstar’s expected three year total returns are: Berkshire, 19.85%; Dow 30, 17.26%; dividend payers, 23.19% and BRK.B, 16.74%.

Full disclosure: I don’’t own any of the stocks mentioned, but my investment club owns BRK.B.

For educational purposes only. Watch portfolios can be created for free at yahoo.com, google.com and other financial sites on the Web.

Should you buy any of the stocks picked by Barron’s midyear roundtable gurus?

Eleven prominent stock pickers recommend a couple of dozen stocks and other trades in Barron’s midyear roundtable, but, technically, many of the recommended stocks are looking pretty weak and traders may want to wait to buy them after they get cheaper or after they show signs of rallying as the gurus are predicting they will.

This means, put the stocks on a watch list and wait for them to show signs of strength before buying them. I’ve created a watch list portfolio for 22 of the buy recommendations, which I’ll call the Roundtable 22, on Morningstar.com.

The Roundtable 22 in the last week lost 0.81%. In the last month, they gained 1.68%; year to date, they gained 10.04%; in the last 12 months they gained 15.39% and in the last three years they gained 28.15%. Their expected three year return, according to Morningstar, is an average of 13.84%, compared with 19.85% for the Buffett portfolio of 36 rated stocks, 23.19% for the Dow 30 and 16.74% for Berkshire’s BRK.B.

Roundtable 22 stocks closed Friday at 86% of Morningstar’s estimated fair value of those stocks, compared with 77% for Berkshire’s portfolio and 80% for the Dow 30.

Daily charts for Fairpoint (FRP), Countrywide (CPC), J.P. Morgan Chase (JPM), Tyco (TYC), Commscope (CTV), Wells Fargo (WFC), Bank of America (BAC), Bolt Technology (BOLT), Beldon (BDC) and AMR Corp. (AMR) are here. Their point and figure charts are here.

Charts for Telephone & Data (TDS), Tootsie Roll (TR), Tredgar (TG), Herley Industries (HRLY), Diebold (DBD), Ultra Petroleum (UPL), Southwestern Energy (SWN), Freeport-Morgan (FCX) and Haliburton (HAL) are here. Their point and figure charts are here.

Charts for U.S. Steel (X), a recommended short, an exchange traded fund for Japanese small companies (SCJ) and an exchange traded fund for technology stocks (SOX) are here. Their point and figure charts are here. The recommendation on SOX is to buy puts rather than short the exchange traded fund.

One member of the round table says this is the time to buy gold futures, a gold stock, Golden Star Resources (GSS), or a gold exchange traded fund that owns gold stocks(GLD). Their bearish daily charts are here and their bearish point and figure charts are here. Based on the technicals, it looks like it’s early to buy gold or gold ETFs.

UPDATE: 21 of the recommended buys have point and figure chart price objectives that reflect the stocks’ trends. These are not predictions. Of the 21, 10 have bullish price objectives, and their charts are here.

Full disclosure: I own Bank of America covered calls.

For educational purposes only. Read the Barron’s article and research these trades on the Web.

Institutional speculators distort oil, corn, beans and other commodity futures markets

Congress is beginning to focus on institutional speculators such as exchange traded funds, pension funds, index funds and university endowments that are distorting prices for petroleum, gasoline, metals and agricultural commodities, the NY Times reports here.

The article accurately describes the roles of traditional speculators as they are represented by participants in the markets and by most scholars.

But the question that still hasn’t been asked as far as I know is, “How do institutional specualtors’ trades influence individual speculators, producers, processors, importers and exporters? Do they trade with the institutions, against or both with and against?”

And, recognizing that futures markets are the momentum markets of momentum markets, how can institutions not help inflate prices when their buying produces market charts and other technicals that encourage individual speculators to pile on and push prices even higher?

GM: How you might make a 45% annualized return on poor old General Motors; dividend yield is 6.2%

General Motors (GM) dropped 4.1% Wednesday, but some speculators figure they’ll make an annualized return of between 45% and 57% on GM between now and mid July.

If you buy 100 shares of GM at Wednesday’s closing price of $16.12 and sell one call option contract (100 shares) with a strike price of $17.50 per share for 76 cents a share, you will make an annualized return of 45.32%. This is called a covered call trade, because your sale of a call contract is covered by your purchase of an equal number of shares of the underlying stock, which is GM common.

To accomplish this, the stock has to be trading below its strike price of $17.50 when the option expires in 36 days and at or above the price you paid for the stock. If the stock closes below $17.50, or out of the money, you keep the 76 cents a share you got when you sold a contract for 100 shares, or $76.

Assume that after the GM July 17.50 call expires, you can sell a GM September 17.50 call that also yields 45%. This is unlikely, because the September call option will be priced in July to reflect whatever GM is trading at and how both stock and option traders think GM will trade during the next month or so. A call option with a $17.50 strike price gives the buyer of the call the right to purchase 100 shares per contract at $17.50 even if the stock is trading at a higher price.

At Wednesday’s close, GM August 17.50 calls were trading to yield 36%. A covered call’s return can change quickly. Early Wednesday, for example, I bought GM at $16.57 and sold call contracts for an equal number of shares at 96 cents, or 5.8% of the stock’s price. In other words, by selling call options, I reduced my effective price by 5.8% to $15.61. At the time of the trade, my projected annualized return was almost 58%, well above where the covered call closed Wednesday night.

Why do a covered call trade on GM when it’s stock appears to be in a free fall?

First, the 45% to 57% return is pretty good.

Second, Morningstar.com, an independent stock market research firm says the estimated fair value of GM’s stock is $27. Morningstar says its fair value estimate carries a high degree of uncertainty. In Morningstar lingo, that makes GM, which is trading a little below 60% of fair value a very undervalued, four-star stock. Five stars are the most that Morningstar gives a stock. It means not only that the stock is undervalued and that it may take a long time to recover to its fair value or higher, but also that it is out of favor with investors and riskier than stocks that are fairly valued. Fairly valued stocks are three-star stocks, and very overvalued stocks are one-star stocks.

Third, GM is both a four-star stock and a very good dividend payer, so far. At Wednesday’s close, GM’s $1 projected annual dividend provides a yield of 6.2%, unless GM cuts its dividend, which it could given the lousy new auto market.

When you combine the projected 45% to 57% annualized return on the covered call trade, the probably small chance that the stock will rally some 40% to $27 a share over the next two to five years and the 6.2% dividend, GM looks like it’s worth a small speculative swing for the fences.

Warning: This is a risky and highly speculative trade. Don’t put a high percentage of your trading capital into such a trade. If GM drops to, say, $9 or $13, you’ll be in a deep hole for a long time unless you cut your losses at 10% to 20% of your initial cash outlay.

I made the small trade intending to stick with GM through thick or thin, counting on it to turn around during the next three years and to continue to pay its $1 per share dividend. My plan is to write out of the money covered calls against the stock to generate additional income. When GM is trading for $16.12 and the strike price on the call option is $17.50, the covered call trade is out of the money.

I want the stock to close below $17.50 so the option will expire worthless and I can continue collecting dividends and writing covered calls on the stock. But I don’t want the stock to go much lower, which it very well could.

GM’s daily, weekly and point and figure charts are here. They’re all bearish, and the point and figure price objective is $9. A price objective is not a prediction, it’s a trend projection which could change overnight.

This is the same strategy I’m using in trading Bank of America (BAC) and several other stocks. I blogged on my BAC trade here.

Full disclosure: I own GM and am short GM July 17.50 calls, which makes me long a GM covered call.

For educational purposes only. Before you trade covered calls, read some books on options trading and search the Web for more information. There are no guarantees that trades describe on this blog will work out as planned.

Seven stocks you might want to avoid: Update

The seven stocks that Doug Kass told Barron’s on May 19 that he is shorting took a beating last week and five of the seven are down again this morning while four of the seven are down since Kass made his calls.

Dailly charts for the stocks are here. And point and figure charts are here. 

Three of the seven stocks have bearish price objectives on their point and figure charts. These price objectives reflect the current supply and demand for the individual stocks. They are not predictions.

Full disclosure: I don’t have positions in any of these stocks.

For educational purposes only. Investigate stocks on Reuters.com, Yahoo.com and Google.com. Also, search the web for information.

BAC: Bank of America is a 5-star stock that pays an 8.4% dividend; how to increase the yield

Bank of America (BAC) is a severely depressed, undervalued five-star stock that pays an 8.4% dividend and will yield close to 20% if you sell call options on the stock. Barron’s Michael Santoli notes, traders are playing banks’ shares to “crack to new lows” short term and “Longer-term types are warming to financials as cheap on a two-year horizon.”

In other words, while BAC is weak now, longer term it could not only pay high dividends and generous returns on covered calls, it also could appreciate 20% to 30% over the next couple of years. Or, of course, it might not. Most stock pickers don’t want anything to do with BAC these days because they’re bearish on the financials and the stock.

Morningstar.com gives BAC a five-star rating, but other independent stock market research firms are less optimistic, given the fairly high chances that the bank will have to raise more capital and might have to cut its dividend in the face of continuing credit market problems. Morningstar estimates the $30.30 stock’s fair value is $56. It might be years before the stock reaches that fair value, if ever. And chances are good that it will go lower before rallying. After dropping 4.7% Friday, the stock is trading 42.4% below its 52-week high and 44.6% below its five year high, according to Morningstar.

Here’s how I’m playing BAC to achieve about a 19% return annualized.

The dividend is just too high for me to pass up even though it is at risk of being cut. The stock’s current price anticipates a dividend but, but it could fall some more if the dividend actually suffers the 30% to 50% cut I’m anticipating.

Therefore, I bought the stock, but only a small position because of the risks involved. And then, to increase the yield, I sold call options that expire in July for as many shares as I purchased. So I’m long the stock and short the calls. My plan is to keep selling call options against the stock as older options expire.

Thus, when the July call options expire out of the money, I’ll sell an equal number of call options that expire in August. When the August options expire, I’ll sell September options, and so on.

The key is to sell options that are far enough out of the money that they won’t be called unless I want them to be. With the stock at $30.50, I’ve sold $35 strike price call options. This is because I very much doubt BAC will climb back to $35 before the July options expire.

Many traders who play what as the covered call or call write market trade the highest yielding calls and hope their stocks will rise above the call’s strike price and be called away.

But I’m trading a high yield stock that I want to keep. So I’m taking a lower annualized yield of only about 10% instead of the highest available and riskier covered return of 44% on BAC July 30 strike calls. A call option gives the buyer of a call the right to buy calls at the strike price of the call. If a stock is trading at less than the strike price when the option expires, the call option expires worthless. If the stock is at or above the strike price, the call holder gets the stock for the strike price.

Based on Friday’s close, the BAC July 35 calls are 34 cents bid, which means they would provide an annualized covered return of 9.78%. The market is saying BAC will be worth $35.34 when the options expire in 40 days. I doubt it, given current market conditions.

Indeed, Credit Suisse rates the stock a neutral and estimates its fair value is $34, much less than Morningstar’s estimated fair value. Standard & Poor’s gives the stock three stars and a target price of $40. Rochdale Research calls the stock a hold and estimates its fair value at $35. Sabrient says the stock is a sell.

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