A Bullish Pair of Trades

Over the past two weeks, the price action in stocks has become more positive and investor sentiment more optimistic. As evidence of this, the S&P 500 hit its highest level in nearly two months and the VIX closed below 20 for the first time in 10 weeks. Much of the rebound has been the result of a rotation out of commodities and related stocks and into the technology and retail sectors. It remains to be seen if this rally, which represented a 50% retracement from the July 15 low, is sustainable.

For this reason, I am proceeding with caution and keeping the overall structure of the model portfolio in the form of a married put, in which I maintain broad downside protection through the Spyder Trust (SPY:Amex) put position while building bullish positions in individual names. This morning, I want to add positions to data storage company EMC (EMC:NYSE) and telecommunications firm Verizon (VZ:NYSE). I am also making an adjustment to the Valero (VLO:NYSE) position, placing a new limit order in the Spyder Trust, and tightening the stop in Walgreen (WAG:NYSE).

Before I get to the trades, I want to mention that I will be away for the balance of the week and will have minimal Internet and telephone access. Therefore it's unlikely I will issue any Alerts, even though I will be monitoring the model portfolio positions. Also, the next Weekly Roundup will appear Tuesday, Aug. 26.

Rally Could Be in Store for EMC

Shares of EMC have rallied some 27% to $15.30 since hitting a 52-week low July 22, but they are still some 40% from their October high. The stock has basically been tracking VMware (VMW:NYSE), which EMC spun off last August and in which EMC still owns about an 85% stake. VMware was one of the hottest IPOs of 2007, but has since stumbled badly and fallen about 75% from its 52-week high. The largest damage came when the company reported disappointing earnings in early July, causing shares to lose nearly one-quarter of their value. In a case of what I think was the tail wagging the dog, shares of EMC also gapped lower on the same news.

But there are three factors that bolster my bullish view. The fundamentals of EMC's core data storage business remain sound, there should be good demand heading into the seasonally strong fourth quarter as IT departments must "use or lose" their budgets by the end of the year, and the chart is forming a bullish flag. So I want to scale into purchasing calls to establish a bullish position.

The Trades:
-- Buy to open 10 January $15 calls (EMCAC) at the market price.

And
-- Buy to open 10 January $15 calls (EMCAC) at $1.60 a contract.

I have an upside target of $20 a share. Use a close below $13 a share as a stop-loss for exiting the position.

Verizon Is Calling

I want to establish a bullish position in Verizon for few simple reasons: The stock has been beaten down and now trades near its lowest price-to-earnings ratio in nearly two years; the wireless division and bundling of services, especially the recent rollout of FIOS, should be a catalyst for increased revenue; and the chart has formed a nice base. I will place a limit order to purchase some calls.

The Trade:
-- Buy to open 15 January $35 calls (VZAG) at $2.30 a contract.

I have an upside target of $39 a share. Use a close below $33 a share as a stop for exiting the position.

Current Open Positions

Spyder Trust: long 15 September $127 puts (SPYUW) and short 10 September $122 puts (SPYUR). I want to begin establishing some longer-term downside protection, so I am entering an order to buy a put spread in the October series.

The Trade:
-- Buy to open 10 October $130 puts (SFBVZ); and
-- Sell to open 10 October $125 puts (SPYVU), for a net debit of $1.60 for the spread.

This will be the beginning of the process of rolling out of the September position and into the October one.

Valero: long 15 September $32.50 calls (VLOIT). The recent decline in the price of crude oil will help the refiner's margins, and the stock has reflected this by gaining ground in the past two weeks. The price action has been positive, and the chart seems to indicate that the stock has put in a bottom. I want to extend the life span of the position by rolling the calls to a later expiration date.

The Trade:
-- Buy to open 15 October $31 calls (VLOJB) at the market price.
--Sell to close 15 September $32.50 calls (VLOIT) at the market price.

This trade can be executed as a spread. Rolling this position to a later expiration and slightly lower strike price will provide additional time for my bullish thesis to play out. It will also reduce the impact of time decay. I have an upside target of $44 a share. Lower the stop for exiting the position to a close below $31 a share from a close below $32 a share.

Laboratory Corp. of America (LH:NYSE): long five November $70 calls (LHKN). On Friday, I closed half of the position by selling five contracts to take a partial profit of $700 for the model portfolio. I have an upside target of $75 for the remaining five calls I am long. Use a close below $69.50 as a stop-loss for exiting the position.

ON Semiconductor (ONNN:Nasdaq): long 25 October $10 calls (OKUJB). I have an upside target of $12 a share. Use a close below $9.00 a share as a stop-loss for exiting the position.

Textron (TXT:NYSE): long 15 January $42.50 calls (TXTAS). I have an upside target of $54 a share. Use a close below $39.50 a share as a stop-loss for exiting the position.

Walgreen (WAG:NYSE): long 10 October $35 calls (WAGJG). I have an ultimate upside target of $40 a share. Raise the stop for exiting the position to a close below $34 a share from a close below $32.80 a share.

Regards,

Steven Smith

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