Morning Call

0 CommentsMonday • August 24, 2009 • by alwaters

Morning Call
August 24, 2009

A Better Option

One of many lessons learned during the financial crisis has been that a hands off buy and hold strategy just doesn’t work well anymore. This is not to say that long term investing is dead but, rather, that a successful strategy will need to include a balanced approach including both long and short term positions. One invaluable but often misunderstood investment vehicle is options. Options offer a low cost opportunity to lock in potential moves with less capital risk than one would incur with the direct purchase of a stock. The purchase of an option contract gives the holder the right to buy shares (or obligate the other party to buy the shares) at a set price if the underlying shares move in the direction the investor expects them to. The difference with options is that, if you are wrong, your loss is limited to the premium paid on the contract.
Options can be complex and being successful does take an experienced hand. The fact remains, however, that there is a move toward option strategies among many savvy investors. The lower cost frees up cash that can be used and invested elsewhere.
Consider shares of IBM (IBM) as an example. With the stock at $116.86, investors can replace shares with a January $120 call; the cost of the trade is $6.60, or 5.65% of spot (cost of the stock), freeing 94.4% of the total notional invested in the stock.
If you have made profits in a certain position and wonder whether to cash in or ride it out, another choice would be to do both. You could accomplish this by taking profits by selling the shares and then reinvesting a portion of the gains in call options on the same shares. If the stock continues to rise you can still benefit.

What to Buy

Generally speaking, commodity plays will be positive today as economic sentiment is holding up rather well. Specifically today we are taking a look at a small but promising gold mining company; Jaguar Mining (JAG). Since making a significant pullback last Monday, Jaguar Shares have been trending higher. Much of the selling was most likely profit taking after a strong move following positive earnings news the week before. The company is primarily active in Brazil and has a joint project with Xstrata.

Market Outlook

Federal Reserve Chairman Ben S. Bernanke and European Central Bank President Jean-Claude Trichet, speaking at the annual central bankers’ gathering in Jackson Hole, Wyoming, said the world economy is pulling out of recession. This expression of confidence, along with word that European industrial orders increased more than economists forecast in June, has led to some positive movement in global equities. Overnight in Asia the major averages climbed by 2-3%. Financial and industrial stocks led the way in Asia; including the automakers such as Mitsubishi and Isuzu. In Europe this morning, equities are moving higher, but at a slower pace. At mid-day, stocks are higher by a half percentage point. The financial sector, however, is exceptionally strong with some, such as Lloyds and RBS up by about 5%. Futures in the US point to a modest gain at the opening bell, although the banking stocks are relatively weak compared to elsewhere in the global markets.

One of the strongest signs of positive sentiment is in the commodities markets this morning. Commodities are strong across the board and both oil and gold have ticked higher. Crude has added a few cents to reach above the $74 mark in early trading. This does bring prices toward the top side of the recent trading range so we could see some retracement between current levels and $75. Gold has also gained some momentum; adding more than $3 this morning to about $958. The move for gold was rapid this morning and we will likely see a pullback to about $954 before moving to a level near $960. The Dollar, for its part, is higher on the Yen and Pound but weaker against the Euro. The Yen is the worst performing currency this morning as the markets move higher and it loses its luster as a safe haven.

Investors will be essentially on their own today as the news calendar is void of any major releases. The Chicago Fed’s Manufacturing Index stands alone for economic news and there are no notable earnings reports scheduled for today.

Famed economist Nouriel Roubini, in a piece in the Financial Times, expressed his concern that a double dip or W-shaped recession is a growing risk. HE went on to point out that policymakers are essentially caught between a rock and a hard place as unwinding stimulus policies too soon could undermine a recovery but running large deficits could push up borrowing rates and cut off economic growth as well. We would add to that cautious undertone the fact that bank failures continue to add up. Eighty one banks have failed this year so far and that number could grow considerably. We could see this number reach 200 or more by the end of 2009 and this will put a considerable strain on the FDIC’s insurance fund. The failures will also put pressure on the banking industry, which could see as much as 25% of its 2010 pretax income go towards FDIC fees. These are among some of the more critical issues that must be resolved before true recovery can begin.

Posted in: Morning Call: Daily Analysis of the Global Markets and Economy

Tagged with: bonds, economy, gold, oil, stocks