Selling TRID, ETFC/MUR/DUG Covered calls

Selling TRID 1000 shares @ 2.95

COVERED CALLS -
Selling Oct $4 ETFC 60 contracts @ $0.10

Selling Oct $90 MUR 1 contract @ $1.10

Selling Sept $40 DUG 5 contracts @$0.65

Are Basic Financial Models About to Blow Up?

Financial investment theory has a few very basic sacred beliefs. One of them is that more risk brings more reward. Study after study prove that stocks outperform bonds, and that small cap stocks outperform them all.

Studies prove this. Study after study proves this.

But what if those studies are wrong? After all, they always include the last 15 years and I believe that the last 15 years were an anomaly. In many ways, the last few years favored small cap stocks. The rise of the internet created the ideal conditions for small cap stocks. Traditional barriers to entry were destroyed overnight. Small companies could form connections a lot faster. Access to customers became easier.

This is when small cap stocks became the monster stocks of today: Cisco, Dell, Google, Yahoo, Ebay, Amazon, and so on.

In essence, the last few years were the golden age for small companies.

What if those days are over? After all, as far as I can tell, we've wrung out almost all the gains in the supply chain.

Is it possible that if we take out the internet age, small cap stock returns are actually less rewarding for their risk? That would shatter quite a lot of investing approaches.

The reason that I raise this is that I had the chance to review someone's investment portfolio. Their adviser had 50% of their portfolio in micro-cap stocks, far too many of which were housing related. naturally, they were down ~50%+ for the past year.

In speaking with the financial planner, I was told that I shouldn't worry. I should take the long-term view because, after all, the small cap stocks always generate the best returns.

Needless to say, I left shaking my head. I don't blame the investment advisor for buying into the theories that call for a better reward for small cap stocks. It's certainly worked. What bothers me is that this seems to remove responsibility for picking dumb sectors. Why buy into the housing sector last year when it was so obvious that it was crashing?

And, frankly, I question the entire premise. Maybe small caps have had their heyday, and the risk isn't offset by the reward.

I tend to avoid small cap stocks because of the liquidity problems and the potential for radical manipulation. Also, they are the first ones to suffer in a slowdown.

AN in the news

AN - http://www.zacks.com/stock/news/14316/Autonation+Heavily+Exposed+to+Lag
"We expect Autonation, Inc. (AN), the largest automotive retailer in the U.S., to be hurt by a continuing weak new car market. The company is disproportionately exposed to Florida and California, states that will be hit the most by a slowing car market. As a result, we rate the shares a Sell with a target of $9."
Ouch!

Hewlett packard - Currency Exchnage Rate to The Rescue

I know that I keep hammering away at this point. But it is hugely critical, especially when this core benefit disappears.
Far too many companies are meeting their sales and earnings growth targets mainly because the dollar is weaker and that exaggerates the strength of overseas earnings.
We can predict when this comes to an end - January 2009. Specifically, we can say that EPS growth will be negative for most international companies. Live by the sword, die by the sword.

Here's what I mean.
If we consider the year-over-year gain of the Euro versus the dollar, we can see a general trend towards a stronger Euro. Starting in September of last year, the Fed began emergency rate cuts. That made the Euro stronger by comparison and the rate of strengthening accelerated from a benign 7% to ~18% in 6 months.

That is, the Euro surged in value 18%. Since that time it has weakened and is only 9% more valuable than it was same time last year.

That is not a small thing: it accounted for 50% of HWP's Sales growth.
http://biz.yahoo.com/ap/080819/earns_hewlett_packard_summary_box.html?.v=2
"sales rose 10 percent -- 5 percent if adjusting for currency fluctuations"
Eliminate the currency exchange rate issue, and HP's growth is barely positive.

Return to the slide and we see that, indeed, that currency rate advantage is going away.
Scenario #1: Euro stays flat. Already the Euro/USD rate is approaching that of last year. A flat rate would eradicate most of HWP's growth.

Scenario #2: Euro weakens. Less likely but always a possibility. In this case, HWP sales growth goes negative.

Scenario #3: Euro strengthens. Possible. After all, I suspect that it is weakening only because of Central bankers bluff and no actual moves.

Regardless of which scenario we consider, the days are almost over for the currency impact on EPS. This will be a major surprise for too many investors. And that is a negative for the Bulls.

Trick or Treat?

It's an early Halloween, complete with scary undead monsters. Is that Alan Greenspan again? He's like Jason - you think he's gone, and then he pops back up again to scare us.

My gut is telling me a few things:
1. Dollar may start to weaken again. Consider that the dollar rose only after the threat of action (or inaction) by The Fed and the ECB. the Fed talked tough about inflation, but did nothing. The ECB talked tough about inflation but did nothing. A lot of nothing in the face of inflationary fiscal and monetary policy tends to play out one way: weak dollar and continuing inflation
INVESTMENT IMPACT: Good for multinational US companies, exporters, and commodities.

2. Return of commodities. The past few days, oil has steadily weakened but I noticed that the oil/gas/coal/energy stocks have stopped crashing. Better yet, some positive comments are coming out - mostly saying "wow, these companies sure look cheap!"
INVESTMENT IMPACT: Demand is uncertain and supply increases each month. I was opportunistic when I bought these calls on the pullback, but I bought too soon. We'll see what the next month brings us - maybe we can narrow the losses a bit. I also want to close DUG and I am going to put an order in for $39.50.

3. End of the mini-rally sparked by short covering. The lurch up last week and the sudden lurch down this week both indicate that options expiration on Friday was playing a role. In essence: short covering. Consider AN. Since the news was released last month that the Gates Foundation took a stake, the stock shot up from $8 to $12.50 last week. In fact, in 6 trading days, it rose from $11 to $12.50 by Friday. Then today it dropped back to $11.
If I am right about this, Dow will be <11,000
INVESTMENT IMPACT: Great for our Ultrashorts and our puts. Bad for our calls, unless energy rallies from being oversold.

4. Financials back in trouble. Suddenly everyone is realizing that the credit crisis has a long way to go and that Financial institutions are not being honest. FNM, FRE, Merrill, and others are about to shock the world with the bad news.

We have a long way to go yet for our options to show the returns we want. I will be posting the portfolio update this weekend.

Commodities Due for A Rise

Commodities have crashed as the fast money moved out. But I suspect a resurgence. Nowhere else is there growth >20%.

I am a strong believer in a 12 week cycle wherein investment companies tend to make their investment decisions around week 7 or 8 (basically a month before end of the quarter).

It's consistent with the buy-on-the-rumor, sell-on-the-fact behavior, except this follows the practical behavior of funds. Practically speaking, 2 months into the quarter, most companies have a feel for where they will be at quarter end. And hedge funds trade less in analysis and more in insider information. By Week 8, their spies are giving them early indication of performance expectations.

We are halfway through Q3 and approaching that point. Already I am noticing the early trail of a commodity promotion.

If I'm right, you'll start to see analysts upgrading agriculture, coal, oil and gas. Here's an example

http://news.moneycentral.msn.com/provider/providerarticle.aspx?feed=AP&date=20080818&id=9038612

Notice that a key reason for the upgrade: oversold sector.

I am especially watching NG because this is the first year that the UK is a major importer. I expect a lot of competition for They and other countries are much more reliant on NG for heating and cooking. One solid hurricane in the Gulf and a cold snap in the Northern hemisphere, and gas prices will surge

Bear in mind that expectations are for a heavier than usual hurricane season. I don't like counting on a hurricane to move gas stocks up, but that is the reality.

Also, with the Olympics over, I expect a surge in Chinese commodity demand. That should startle folks and drive interest back into these sectors.

Catching Up

I was out the past week and need to catch up.
That means:
* Writing calls on MUR and ETFC
* Selling some DUG and TRID
* Watching this week (post-options week) to determine whether or not to unwind some oil/gas positions or wait til November
* Watching the post-Olympics impact