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Thursday, June 13, 2024

Semiconductor credit spread indicates bearish view

Today’s tickers: SMH, ELAN, FDX, DELL, AN, GE, POT, PCLN & ERIC

SMH Semiconductor HOLDRS Trust – The semiconductors ETF has seen shares decline by more than 3.5% to stand at $18.11 today. We noticed one investor who is looking to profit from a near-term pull back in shares, by establishing a credit spread in the April contract. While the open interest at the April 18 strike suggests that there has been bullish activity there recently, we believe the trader we observed today is taking the opposite stance. At the April 20 strike price 25,000 calls were purchased at 46 cents apiece, while at the April 18 strike 25,000 in-the-money calls were sold for 1.36 each. The net credit achieved with this strategy amounts to 90 cents and is safe in the bank if shares remain below $18 by expiration next month. SMH has not traded above $20 since November of 2008, and the stock has reached a line of resistance at around $18. This investor may turn out to have made a wise choice in taking advantage of the richer premium afforded by the in-the-money contracts at the lower strike, and he will look for both the April 18/20 calls to expire worthless in 30 days in order to pocket the 90 cent premium. This bear was not alone in the woods today, as the May contract saw 14,000 puts purchased at the 14 strike price for 24 cents apiece. Super-pessimists are looking for shares to decline below the 52-week low on the stock at $14.51 because profits begin to amass as shares fall beginning at the breakeven share price of $13.76.

ELN Elan Corporation PLC – The neuroscience-based biotechnology company has experienced a share price decline of 2% to $5.29. ELN appeared on our ‘hot by options volume’ market scanner after one investor traded a large number of calls in the January 2010 contract. The trader purchased 28,000 calls for 20 cents each at the January 17.5 strike price. Given that shares are light-years away from nearing $17.50, we investigated the open interest of 29,000 at the 17.5 strike. It looks as though this investor sold a good portion of these 28,000 calls short on January 8, 2009 for a premium which ranged between 70 cents and 1.25 per contract when shares were at $9.00. We noted at the time in our commentary that this was part of a three-legged spread. Option implied volatility for Elan has come off slightly from 95% to the current reading of 89%.

FDX FedEx Corporation – Shares have declined by nearly 7% to $42.13 after reports yesterday revealed disappointing quarterly earnings, which dropped by 75%, amid falling sales and lower air shipments. The second-largest U.S. package-shipping company – considered a bellwether for U.S. economic activity – has also announced that it will respond to the dismal economic environment by cutting personnel and work hours as they take steps to reduce capacity at its FedEx Express and FedEx Freight units. We observed pessimistic trades today by option investors who do not appear to see a rebound from FDX in the near future. One trader initiated a bearish credit spread in the April contract by purchasing 5,000 calls at the April 50 strike price for 55 cents apiece, and by selling 5,000 April 45 strike calls for a premium of 1.80 each. The net credit pocketed by this investor amounts to 1.25 and is bankable as long as both the April 45/50 strikes expire worthless by landing out-of-the-money. The worst case scenario would be that shares rally above $45 because the investor’s premium would fully erode at a share price of $46.25. Additionally, he would face a maximum loss of 3.75 if the rally continued all the way to $50, or the upper strike price.

DELL Dell, Inc. – Shares of the struggling technology provider are off slightly by less than 1% to $9.95. One option trade in particular caught our attention in the August contract where it appears that a sold strangle has been established. While the contracts traded to the middle of the market, we believe that employing a strangle strategy would only make sense if it was sold given where shares currently reside. At the August 9.0 strike price, 14,500 puts traded for a premium of 94 cents each, while at the April 12 strike 14,500 calls traded for 81 cents apiece. The gross premium enjoyed on the trade amounts to 1.75 and is fully retained by the investor as long as shares of the underlying stock remain within the specified strike prices. Should shares swing outside of the boundaries, the trader faces losses starting at $7.25 on the downside and at $13.75 on the upside.

AN Autonation Inc. – The used-car seller had done rather well on the view that the 92.9% of the population still working would be more likely to buy a used rather than a new car to get through commuter traffic. As such shares rose from $4.00 to $14.00 in the past five months. Today a pretty stiff downgrade from UBS has sent shares down 11% to stand at $12.21 cutting its view from ‘neutral’ to ‘sell,’ citing liquidity concerns. Annual revenues peaked in 2004 and have been on the wane ever since. One investor positioned for a further slide in the company’s fortunes by selling calls to buy puts both expiring in October. Some 10,000 puts purchased at the 10.0 strike infer a further 18% share price slide. The simultaneous sale of 15.0 strike calls mainly offset the premium on the puts leaving the investor with a tiny one dime premium on the trade. Of course there’s no free lunch here and the investor is on the hook for having to deliver one million shares if called in the event shares do quite the opposite by October. Implied options volatility remained steady in the face of today’s decline at 79%.

GE General Electric – One day after a marathon six-hour conference call, option traders were quick to sell call options on General Electric having digested a vaguely more pessimistic reflection from management. Shares drooped 3.75% to $9.75 as investors pondered reduced earnings forecasts from at least two analysts having assessed GE’s exposure to the U.S. consumer, its capital position and the quality of its real estate exposure. A good amount of 9.0 strike calls were sold for a premium of 1.50, while upper strike calls at the 10.0 strike were sold more than 5,000 times for an 88 cent premium, while calls at the 12.0 and 15.0 strikes were also ditched to recoup premium. On the put side, some 9,000 contracts were bought by investors looking to protect against further retracements in the underlying share price. The average 47 cent premium implies protection at expiration below a share price of $8.53. Options implied volatility stayed calm at a reading of 94% today.

POT Potash Corporation of Saskatchewan, Inc. – Shares of the fertilizer and feed products company have rallied 1% to $80.04 perhaps on higher commodity prices. POT popped onto our ‘most active by options volume’ market scanner after one investor initiated a call spread in the April contract. Looking for upside gains in the stock the trader purchased 11,300 calls at the April 90 strike price for 2.70 apiece, while 11,300 calls at the April 95 strike were sold for a premium of 1.50. The net cost of the spread amounts to 1.20 and yields a breakeven price of $91.20 where profits begin to amass. By selling the calls at the upper strike, profits are capped at a maximum of 3.80 to the trader if shares can rally to $95 by expiration. Shares are currently a long way off and would need to rally by about 14% in order for this bullish investor to breakeven on the trade.

PCLN Priceline.com – We’re not entirely convinced that the large amount of calls traded today at online travel agent, priceline.com is necessarily as bullish as it might appear. Shares in the company are 2.7% lower at $76.45 and 75,000 calls have been traded very likely by the same investor. The volume is heavy in April calls. At the 85.0 strike we can see 27,500 were bought for 80 cents. Looking at open interest reveals that open interest built to this amount just before and after earnings were announced last month at premiums between 1.33 and 3.10. We suspect that checking investor positions after this weekend will reveal that today’s purchase was profit taking on a short position. Volume of 12,500 at the April 75 and 35,000 calls at the same expiration 80 strike both traded to the middle of the market and we can’t readily tell and can only suspect more written options as on investor continues to take a dim view on consumer travel online.

ERIC LM Ericsson Telephone Co. ADR – Shares of the telecommunications company have dropped 11% to $8.28. Perhaps the decline stems from reports that mobile phone maker, Sony Ericsson, a joint venture between LM Ericsson Telephone and Sony, expects to announce first quarter pre-tax losses. Earnings have been slaughtered by weak consumer demand and destocking by retailers cutting inventory as the global financial crisis continues. Not surprisingly, option traders concentrated on the put side and purchased 1,000 puts at the July 5.0 strike price for 20 cents per contract. Pessimism spreads further into the October contract where more than 3,000 puts were picked up at the 5.0 strike price for a premium of 35 cents each. Option implied volatility has risen sharply from yesterday’s reading at 53% to the current value of 64%.

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