Monday, February 11, 2013

LEN: Bearish breakout on a bullish chart

Update: LEN crossed above the upper 10-day price channel at $40.59 on March 5, ending the bear position with a 5% loss. 

Lennar Corp. (LEN) broke below its 20-day price channel on Monday on the 11th day of a decline from a peak of $43.22. If the stock trades below the channel boundary, $39.46, on Tuesday, the bear signal will be confirmed.

The bear signal runs counter to the  overall bullish cast that characterizes LEN's chart.

LEN has been stair-stepping upward since Nov. 15. The present decline has pushed the price below the  swing low of the most recent step in the rise.

The current retracement from a high is a hook at the top of a long-term price increase that began from $12.14 in the fall of 2011.

History suggests that LEN may be been topping for much of this year.

Before this week, LEN has altogether broken beyond the price channel 32 times. The most recent breakouts have all been successful -- meaning profitable -- both to the upside and the downside. In earlier periods, success tended to be skewed toward the upside breakouts.

It's a pattern that suggests a strengthening of the downward movements.

Analysts, perhaps being fearful of being caught in a share distribution at the end of a long run -- no one wants to be the last sucker in line for shares -- have opinions that collectively give LEN a 29% negative enthusiasm rating.

That flies in the face of the chart. It also flies in the face of home builder and financial service company's business.

For the housing sector has begun to recover from the shock it received when its bubble collapsed. Based on the story as well as the chart, LEN by rights ought to be embarking on a period of growth.

Lennar Corp., based in Miami, Florida, has a moderately bullish financial spectrum, with return on equity of 7% but with a high load of debt, identical to equity, that is characteristic of the homebuilding industry.

Earnings have accelerated steadily from the 1st quarter of 2012 (adjusting for a one-time extraordinary gain in the 2nd quarter). Of the last 12 quarters, 11 have been profitable and 11 have showed upside earnings surprises.

Institutional ownership is quite high, amounting to nearly all of the shares, and the price has been bid up to where it takes $1.80 in shares to control a dollar in sales. Both show a degree of confidence in Lennar's business prospects.

Lennar's stock is quite liquid, making it easy to structure the full spectrum of options trades.

LEN on average trades 3.6 million shares a day, sufficient to support a moderate selection of option strike prices with front-month open interest running mainly to the three figures. The front-month at the money puts have a bid/ask spread of 3.1%, which is on the low side.

Implied volatility stands at 32%, near the lower end of the six-month range. Volatility has been on a gentle rise since late January.

Options are pricing in confidence that 68.2% of trades will fall between $35.69 and $42.85 over the next month. The range implied by options volatility would keep the price retracement below the swing high of $43.22.

In the near term there is little speculative pressure on LEN. Monday's options trading was running the five-day average volume, at 69% of average for calls and 44% for puts.

Monday's 30-minute chart buttresses the bearish case. It shows a fair-price zone from $39.21 to $39.85, encompassing 68.2% of transactions surrounding the most-traded price, $39.36. The stock closed near the bottom of the zone after falling for much of the day.

An open on Tuesday below the zone's lower boundary, $39.21, would strengthen the bear case.

Lennar next publishes earnings on March 28. The stock goes ex-dividend in April for a quarterly payout yielding 0.41% annualized at today's prices.

Decision for my account: I'm traveling in Asia and so, because of the time difference with New York, am placing trades when the market is closed. 

I've placed a conditional trade to open a bear position in LEN if it trades below it's $39.46 breakout level, structuring it as a bear call spread expiring in March, short the $41 calls and long the $45 calls.

The vertical spread reamains profitable up to $41.63, giving me a 5.2% cushion in the event the price moves against my position. If the price continues to fall, I'll add to the position by buying long puts expiring in May with deltas as near to 70 as I can manage.


My trading rules can be read here.  A discussion of recent modifications to my trading methods, which haven't yet been incorporated in the original write-up, can be found here.

And the classic Turtle Trading rules on which my rules are based can be read here.

Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.
No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decision decisions for his or her own account, and take responsibility for the consequences.

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