Weekend Update – June 2, 2013

Who’s wagging who?

Anytime a major market goes down 7% it has to get your attention, but what seemed to set Japan off? Maybe it was just coincidental that earlier in the day across an ocean, the United States markets had just finished a trading session that was marked by a “Key Reversal,” ostensibly in response to some nuanced wording or interpretation of Federal Reserve Chairman Ben Bernanke’s words in testimony to a congressional committee.

The very next day we showed recovery, but since then it’s been an alternating current of ups and downs, with triple digit moves back in fashion. Intra-day reversals, as in their May 22, 2013 “Key Reversal” extreme have been commonplace in the past week after a long absence

Whether there is any historical correlation, direct or inverse between gold and our markets, gold has been experiencing the same kind of alternating gyrations and actually started really wagging a day before simple words got the better of our markets.

In the meantime, Japan clearly was the last to wag, but buried in the chart is the fact that in the after hours the Nikkei has had significant reversals of the day’s trading and it appears that our own markets have then taken their cues from the Nikkei futures.

 

 

 

It may have all started with a daily price fix in London and then it may have been fired up with mere words, but then having gone across the Pacific, it has all come back to our shores with great regularity and indecision.

For me, that is painting an increasing tenuous market and it has shown in individual stocks.

 

As a covered option seller, I do like alternating moves around a mean. I don’t really care what’s causing a stock to wag back and forth. In fact, doing so is an ideal situation, but more so when the moves aren’t too great and the time frames are short. Certainly the most recent activity has been occurring within short time frames, but the moves may presage something more calamitous or perhaps more fortuitous.

It’s hard to know which and it’s hard to be prepared for both.

Toward those ends I continue to have a sizeable cash position and continue to favor the sale of monthly contracts, but it can’t be all passive, otherwise there’s the risk of letting the world pass you by, so I continue to look for new investing opportunities, although I’ve been executing fewer weekly new positions than it generally takes to make me happy.

As usual, the week’s potential stock selections are classified as being in Traditional, Double Dip Dividend, Momentum or the “PEE” category (see details).

I’ve been a fan of Dow Chemical (DOW) for a long time. It’s performance over the past year is a great example of how little a stock’s price has to change in order to derive great profit through the sale of call options and collecting dividends. It is one of those examples of how small, but regular movements round the mean can be a great friend to an investor. While I prefer assignment of my shares over rolling contracts over to the next time period, in this case, Dow Chemical goes ex-dividend at the very beginning of the July 2013 option cycle, thereby adding to the attraction.

I recently sold puts on Intuit (INTU) minutes before earnings were released, having waffled much the way our markets are doing, up until the last minute before the closing bell. Having had two precipitous falls in the weeks before earnings, there wasn’t much bad news left to digest and I was able to buy back puts the following morning, as shares went higher. June isn’t always a kind month to shares of Intuit, but it isn’t consistently a negative period. I think it has still enough stored bad will credit to offer it some stability this June.

Transocean (RIG) is just another of those stocks that’s part of the soap operas created when Carl Icahn puts a company in his cross-hairs. Having just re-initiated the dividend, Transocean has done an incredible job of maintaining value during the period when it ceased dividends and was still subject to lots of liability related to the Deepwater Horizon incident.

There’s nothing terribly exciting about Weyerhauser (WY). I currently own higher priced shares that have withstood the surprisingly low lumber futures thanks to a recent dividend and option premiums. As there is increasing evidence that the economy is growing there’s not too much reason to fear a continued slide in asset value.

Joy Global (JOY) reported earnings last week and I didn’t go along with last week’s suggestion that it would be a good earnings related trade, having also gone ex-divided. Although earnings weren’t stellar, some of the news from Joy Global was and indicated growth ahead, not just for its own operations, but in mining sectors and the economy. Shares seem to have been holding very well at the $55 level

Riverbed Technology (RVBD) is always on my mind for either a purchase or sale of puts in anticipation of a purchase at a lower price. Unfortunately, I don’t always listen to my mind, sometimes forgetting that Riverbed Technology has been a consistent champion of the covered call strategy over a five year period and was highlighted in one of the first articles I wrote for Seeking Alpha, which includes a delightful picture at the end of the article.

Coach (COH) is another of my perennial holdings, however, it was most recently lost to assignment at a substantially lower price, following good earnings. Despite the higher price, it is in the range that I originally initiated purchases and also goes ex-dividend this week. What gives it additional appeal is that now weekly options are available for sale.

Baxter International (BAX) also goes ex-dividend this week and like so many in the health care sector has performed very nicely this year. It recently responded very well to the adverse news related to one of its drugs in the United Kingdom and otherwise has very little putting it a great risk for adverse news. Being currently under-invested in the healthcare sector I’d like to add something to the portfolio and Baxter seems to have low risk at a time that I’m increasingly risk adverse.

Coca Cola Enterprises (CCE) is a stock that I have never owned, despite having considered doing so ever since its IPO, which was more years ago than I care to divulge. It is down approximately 5% from its recent high and appears to have support about $2 lower than its current price. I think that it can withstand any tumult in the overall market with its option premium and dividend offering some degree of comfort in the event of a downturn.

Although, I currently own shares of Williams Companies (WMB) and am uncertain as to whether I will add shares, as I’m over-invested in the energy sector and may favor Transocean to Williams. However, it too, offers a dividend this week and shares seem to be very comfortable at t its current level, which is about 7% lower than its April 2013 high point.

Finally, the lone earnings related trade of the week is Navistar (NAV), now back from the pink sheet dead. Mindful that its last earnings report saw a 50% rise in share price, you can’t completely dismiss a similar move to the downside in the event of a disappointment in earnings or guidance. However, recent reports from Caterpillar (CAT), Cummins Engine (CMI), Joy Global and others suggests that there won’t be horrible news, although you can never predict how the market will react or what other factors may drag an innocent company along for a ride. In Navistar’s case, the weekly futures imply about a 7% move. In the meantime, the sale of a put at a strike price 10% below the current price could provide a 1% ROI. NAy more than that loss and you should be prepared to add Navistar shares to your portfolio and hopefully you’ll enjoy the ride.

Traditional Stocks: Dow Chemical, Intuit, Transocean, Weyerhauser

Momentum Stocks: Joy Global, Riverbed Technology

Double Dip Dividend: Baxter International (ex-div 6/5), Coach (ex-div 6/5), Coca Cola Enterprises (ex-div 6/5), Williams Companies (ex-div 6/5)

Premiums Enhanced by Earnings: Navistar (6/6 AM)

Remember, these are just guidelines for the coming week. Some of the above selections may be sent to Option to Profit subscribers as actionable Trading Alerts, most often coupling a share purchase with call option sales or the sale of covered put contracts. Alerts are sent in adjustment to and consideration of market movements, in an attempt to create a healthy income stream for the week with reduction of trading risk.

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Picking a Winner in the Pfizer-Zoetis Divorce

Strictly speaking, Pfizer’s (PFE) decision to separate from Zoetis (ZTS) is called a spin-off.

It did so initially on February 1, 2013 and there was much excitement about the prospects of being able to invest in the pets and livestock healthcare business, which was being touted as that portion of Pfizer that had the greater growth potential and by inference the greatest likelihood of out-performing the market and certainly out-performing stodgy old Pfizer, itself.

Certainly, if you are able to remember back to the heady days of Pfizer when Viagra was brought to an eager consumer demographic, there isn’t much reason to believe that sort of growth is in Pfizer’s future. From every logical point of view the best way to unlock shareholder value was to unleash hidden gems that were buried inside of a behemoth.

Additionally, if you look at the recent experience of the spin off by Conoco Phillips (COP) of its refiner arm, Phillips 66 (PSX) you might be of the belief that such spin-offs are akin to a license to print money.

By now Pfizer shareholders may have received the offer to exchange shares of Pfizer for Zoetis. With consummation of this offer, the separation of the two entities will be complete.

Pfizer refers to it as an “exchange offer to separate the Zoetis animal health business from Pfizer’s bio-pharmaceutical businesses in a tax-efficient manner, thereby enhancing stockholder value and better positioning Pfizer to focus on its core bio-pharmaceutical business.”I call that a divorce.

In some situations, I suppose that the children of divorce could see themselves as winners, particularly if they are able to leverage their parents against one another, but that sort of thing may be more common in situational comedies than in real life.

Perhaps shareholders of Pfizer see themselves as winners, as well, although, Zoetis shareholders may have a very different view of melding families.

On the surface, the offer looks very attractive. In a nutshell Pfizer shareholders are being given the opportunity to exchange $100 worth of their Pfizer shares for approximately $107.52 of Zoetis shares.

When in a red hot stock market, that kind of exchange is actually more than just appealing. Where else can you get a 7.52% return from one minute to the next?

For me, the decision isn’t quite so straightforward, as I have sold Pfizer calls with an expiration of June 22, 2013, while the deadline to respond to the offer is on June 17, 2013. There is no mechanism in the option market, particularly for contracts that may be exercised to identify those Pfizer shares that have been offered for tender.

There may, in fact, be some liability if, having sold calls and accepted the tender offer, the shares are subsequently assigned as a result of option exercise. That would be potentially onerous, especially if Zoetis shares were to go on a run higher, but I’m not overly concerned about that occurring.

But forget about me and my problems, or the problems of an option buyer. For the ordinary buy and hold investor the decision should be a fairly easy one to make.

Right?

Well not so fast.

For starters, the likelihood of being able to exchange all of your shares is small. There are over 7 billion shares of Pfizer and only about 400 million shares of Zoetis being offered. That’s good enough reason to inform shareholders that the exchange may be made on a pro-rata basis. Unlike a Facebook (FB) IPO offering you’re not likely to get more shares than you imagined.

Incidentally, about 75% of Pfizer’s shares are institutionally owned. The greatest likelihood is that those holdings are in excess of 100 shares per institution, but more on that later.

Assuming that everyone in the world salivates at the prospect of that 7.52% premium and the ability to cash in by selling shares of Zoetis, there are a number of considerations before counting your profits.

Among those considerations is that institutions, which currently only own approximately 18% of Zoetis shares, would be more facile in being able to unload shares quickly, as they are freely transferable upon exchange. That 7.52% premium may not be destined to withstand a lack of buyers, even if some discipline existed and there was an attempt to create orderly selling.

With the differential in the number of shares between the two companies, assuming that all shares were tendered, each shareholder would receive an allocation of about 6% of their request.

Before you get exposed to too much math, you should also know that there is a $30 fee to exchange shares. As with all investing transactions, there is an economy achieved in volume, especially when there’s a fixed price involved.

In the event that someone holds 100 shares of Pfizer, approximately 6 of those would be eligible for exchange, based on the assumption that all outstanding Pfizer shares would be offered for tender. The final number of shares of Zoetis received in exchange for Pfizer shares will be based upon an exchange rate as determined by the 3 day weighted closing price as announced on June 19, 2013, or after, if the deadline is extended by Pfizer.

For illustrative purposes, let’s assume the final Pfizer share price was $29. That would entitle the shareholder to $31.18 worth of Zoetis shares.

Your 6 share allocation would mean a profit on the exchange of $13.08, less the $30 transaction fee, leaving you with a loss of nearly $17.

That is an example of snatching defeat from the jaws of victory.

Of course if less than all shares are tendered the 100 share stock owner would fare better. If only 3 billion shares are offered for exchange he would break even.

Or would he?

The next part of the equation is what happens to Zoetis. At the moment the float is approximately 500 million shares, which will increase from one moment to the next to 900 million shares.

Then comes the real fun as there will certainly be those looking to quickly capitalize on that 7.52% differential before the opportunity disappears.

One can only imagine that would put some downward pressure on share price, which incidentally hasn’t fared terribly well since the initial spin-off.

Zoetis became a publicly traded company in a successful IPO, having been priced above expectations and closing up 19% on its first day of trading, from an IPO price of $26. Unlike Phillips 66, however, it hasn’t left its parent in the dust.

In fact, despite an early positive showing, Zoetis has lagged Pfizer in its performance, while both have trailed the S&P 500.

As with many stocks that hold the promise of growth, Zoetis doesn’t offer a terribly appealing dividend, although that could change as it has already been increased for Phillips 66. Currently the Zoetis yield is 0.8%. Compare that to the stodgy Pfizer that is yielding 3.4%

Ultimately. in terms of the offer itself, the fewer that express an interest, the far better the offer would likely be as allocations would be increased and pricing pressure on Zoetis would be decreased.

A classic battle of greed versus common sense.

As an inveterate option seller, I have an additional consideration. Zoetis does offer option contracts, but unlike Pfizer it does not offer weekly contracts, nor does it have a multitude of unit denominated strike prices, making the prospects of holding shares less attractive for me.

With a bit more than two weeks until a decision is required my initial reaction to the offer has undergone quite a transformation, but I’ll still end up following the numbers and determining whether some additional return can be squeezed out of the transaction owing to the size of my Pfizer position

While I now anticipate the possibility of continuing to hold onto my Pfizer shares, I do hope that perhaps someone who hasn’t given the subject too much thought may end up exercising their $29 option early, at a price below the strike, as they may perceive Pfizer priced at anything greater than $27 to be the equivalent of Zoetis priced at $29 and hope to make a killing in what they believe to be an arbitrage opportunity.

Maybe divorce isn’t that bad? At least if you don’t think about it too much.

 

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Picking a Winner in the Pfizer-Zoetis Divorce

Strictly speaking, Pfizer’s (PFE) decision to separate from Zoetis (ZTS) is called a spin-off.

It did so initially on February 1, 2013 and there was much excitement about the prospects of being able to invest in the pets and livestock healthcare business, which was being touted as that portion of Pfizer that had the greater growth potential and by inference the greatest likelihood of out-performing the market and certainly out-performing stodgy old Pfizer, itself.

Certainly, if you are able to remember back to the heady days of Pfizer when Viagra was brought to an eager consumer demographic, there isn’t much reason to believe that sort of growth is in Pfizer’s future. From every logical point of view the best way to unlock shareholder value was to unleash hidden gems that were buried inside of a behemoth.

Additionally, if you look at the recent experience of the spin off by Conoco Phillips (COP) of its refiner arm, Phillips 66 (PSX) you might be of the belief that such spin-offs are akin to a license to print money.

By now Pfizer shareholders may have received the offer to exchange shares of Pfizer for Zoetis. With consummation of this offer, the separation of the two entities will be complete.

Pfizer refers to it as an “exchange offer to separate the Zoetis animal health business from Pfizer’s bio-pharmaceutical businesses in a tax-efficient manner, thereby enhancing stockholder value and better positioning Pfizer to focus on its core bio-pharmaceutical business.”I call that a divorce.

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That was the Crash, Dummy

That was the crash, dummy.

“I’ll know it when I see it,” is a common refrain when you’re at a loss for just the right descriptors or just can’t quite define what it is that should be obvious to everyone.

While there are definitions for what constitutes a recession, for example, an individual may have a very good sense of personally being in one before anyone else recognizes or confirms its existence.

Certainly there’s also a distinction between a depression and a recession, but it’s not really necessary to know the details, because you’ll probably know when you’ve transitioned from one to another.

The same is probably true when thinking about the difference between a market crash and a market correction. While people may not agree on a standard definition of what constitutes either, a look at your own portfolio balance can be all the definition that you need.

I’ve been waiting, even hoping for a correction for over two months now. That hoping came to a crescendo as a covered option writer with the expiration of many May 2013 contracts and finding more cash than I would have liked faced with the aspects of either being re-invested at a top or sitting idly.

Then came Federal Reserve Chairman Ben Bernanke’s congressional testimony and the mixed signals people perceived. Was it tapering or not tapering? Was it now or later?

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Weekend Update – May 26, 2013

That was the crash, dummy.

“I’ll know it when I see it,” is a common refrain when you’re at a loss for just the right descriptors or just can’t quite define what it is that should be obvious to everyone.

While there are definitions for what constitutes a recession, for example, an individual may have a very good sense of personally being in one before anyone else recognizes or confirms its existence.

Certainly there’s also a distinction between a depression and a recession, but it’s not really necessary to know the details, because you’ll probably know when you’ve transitioned from one to another.

The same is probably true when thinking about the difference between a market crash and a market correction. While people may not agree on a standard definition of what constitutes either, a look at your own portfolio balance can be all the definition that you need.

I’ve been waiting, even hoping for a correction for over two months now. That hoping came to a crescendo as a covered option writer with the expiration of many May 2013 contracts and finding more cash than I would have liked faced with the aspects of either being re-invested at a top or sitting idly.

Then came Federal Reserve Chairman Ben Bernanke’s congressional testimony and the mixed signals people perceived. Was it tapering or not tapering? Was it now or later?

What came as a result was what some called a “Key Reversal Day.” That is a day when the market reaches new highs and then suddenly reverses to go even lower than the previous day’s low. It’s thought that the greater the range of movement and the greater the trading volume the more reliable of an indicator is the reversal,

On both counts the aftermath of the reaction to Bernanke’s words, or as the “Bond King” Bill Gross of PIMCO called “talking out of both sides of his mouth” was significant.

Was that the beginning of the long over-due correction? After all we are now in the 52nd month of the current bull run, which has been the duration of the past two.

With news that the Japanese market lost more than 7% overnight following our own key reversal day was the sense that the correction may take on crash-like qualities, but instead our own markets almost had another key reversal day, but this time in the other direction. After an early 150 point drop and subsequent recovery all that was missing was to have exceeded the previous day’s high point.

Correction? Crash? That was so yesterday. It’s time to move on, dummy

While hopeful that some kind of correction might bring some meaningful opportunities to pick up some bargains, the correction was too shallow and the correction to the correction was too quick.

So this week is more of the same. Nearly 50% cash and no place to go other than to be mindful of a great 1995 article by Herb Greenberg that has some very timeless investing advice in the event of a crash, having drawn upon some Warren Buffett, Bob Stovall and Jeremy Siegel wisdom.

As usual, the week’s potential stock selections are classified as being in Traditional, Double Dip Dividend, Momentum or the “PEE” category (see details).

Already owning shares of both Deere (DE) and Caterpillar (CAT), as I often do, a frequent companion is their more volatile counter-part, Joy Global (JOY). Always sensitive to news regarding the Chinese economy, Joy Global reports earnings this week, as well, which certainly adds to its risk profile. Most recently the news coming out of China has pointed toward slowing growth, although historically the Chinese data have demonstrated as much ability to contradict themselves longitudinally as the US data. I believe bad news is already incorporated into the current prices of the heavy machinery sector and all three of these companies are trading within a long established price range that provides me some level of comfort, even in a declining market. For that reason, I may also add shares of Deere, particularly if it approaches $85.

Morgan Stanley (MS) has gone along the uphill ride with the rest of the financial sector in recent weeks. It was among the many stocks whose shares I lost to assignment at the end of the May 2013 cycle, but it too, has been a constant portfolio companion. It tends to have greater European exposure than its US competitors, but for the time being it appears as if much of the European drama is abating. Over the past year it’s shares have traded in a wide range but has shown great resilience when the price has been challenged and has offered very attractive premiums to help during the periods of challenge.

Unlike the prior week, this past week wasn’t very good for the retailers. WIth earnings now past, one of the elite, JW Nordstrom (JWN) goes ex-dividend this week. While it still has downside room, even after a 3% earnings related drop along with the rest of the more “high end” oriented retailer sector, it will likely out-perform other lesser retailers in the event of a market pause.

Also in the higher end range, Michael Kors (KORS) has been one of my recent favorites, although I must admit I didn’t see the reason for the excitement on a retail level during a recent early morning trip to the mall. No matter, I’m not in their demographic. What I do know is that their shares move with great ease in either direction, other reversing course during the trading session and it offers an appealing option premium. That premium is a bit more enhanced as it reports earnings this week and I may look to establish a position after having shares also assigned recently.

I approach any purchases in the Technology sector with some concern for being over-invested in such shares. Although Cypress Semiconductor (CY) is now trading 10% higher from where I had shares recently assigned on two previous occasions it continues to offer a reasonably attractive options premium and trades in a stable price range.

Lexmark (LXK) is now well above the strike price that I had shares recently assigned. It’s appeal is enhanced by being ex-dividend this week and the knowledge that it appears to have gotten beyond the initial shock that this “printer maker” was getting out of the “Printer maker” business. Thus far, it appears as if the transition to a more content management and solutions oriented company is proceeding smoothly.

Also going ex-dividend this week is one of the little known, but largest owner of television stations around the nation. Sinclair Broadcasting (SBGI). It may be in position to pick up a rare gem as an ABC station in Washington, DC is rumored to be available for purchase. While it has appreciated significantly in the past two months, it’s shares are down approximately 7% from recent highs.

Not that I would suggest lighting up one of their products while watching a fine situation comedy being broadcast by SInclair, but Lorillard (LO), which assuages some of its health related guilt by offering a rich dividend, does go ex-dividend this week. It too, has been trading higher of late, but is down just a bit from its recent high.

Finally, Salesforce.com (CRM) reported earnings after this past Thursday’s (May 23, 2013) closing bell. The market assessed an 8% penalty for its disappointing numbers, but that should just be a minor bump in their road and not likely a deep pothole. Unfortunately, I didn’t execute the earnings related put sale trade last week as I thought I might, which would have returned 1% even in the face on an 8% drop in share price, but this week brings new opportunity, only on the share purchase and option sale side.

In fact, I was so convinced by the previous paragraph that I sent out that Trading Alert on Friday rather than waiting for Tuesday.



Traditional Stocks: Cypress Semiconductor, Deere, Morgan Stanley, Salesforce.com

Momentum Stocks: none

Double Dip Dividend: JW Nordstrom (ex-div 5/29), Lexmark (ex-div 5/29), Lorillard (ex-div 5/29), Sinclair Broadcasting ex-div 5/29)

Premiums Enhanced by Earnings: Joy Global (5/30 AM), Michael Kors (5/29 AM)

Remember, these are just guidelines for the coming week. Some of the above selections may be sent to Option to Profit subscribers as actionable Trading Alerts, most often coupling a share purchase with call option sales or the sale of covered put contracts. Alerts are sent in adjustment to and consideration of market movements, in an attempt to create a healthy income stream for the week with reduction of trading risk.

 

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Copyright 2013 TheAcsMan