Today’s tickers: VIX, MER, GRMN, RIMM, WFR, CSCO, RSH, MRK, SGP
VIX – Volatility watchers were soothed by the implications of an interview with Merrill Lynch CEO John Thain, who told Japan’s Nikkei News today that the brokerage – now fully a quarter under his superintendence - had no need to seek outside capital. He also appeared to throw water on the fervor of M&A-mongers by telling the news agency he had no plans to sell or consolidate the firm.
Coinciding with a 1.5% crimp in the CBOE Volatility Index to 23.07, it appears that a trader may have taken the opportunity to sell a 14,000-lot strangle in the May VIX contract between strikes 25 and 32. The trader in this case would accept the $2.70 premium – more than 11% of the current VIX value – in the expectation that the composite implied volatility of the S&P 500 will remain bound in the 25-32 range into the May contract. While a short strangle is customarily deployed against lower anticipated volatility, the lower strike in this instance actually represents a slight move higher in volatility from current levels, but fully in line with the average VIX reading of the past month - 26.58. A strangle seller is looking for another month of “been there, done that” volatility above the 25 level but unlikely to breach 32. Taking the other side of the trade, a buyer would be seeking a break out of the long-standing volatility range, with no preference as to the direction.
MER – The Thain interview hit the newswires as many market observers were already zoned out on our generation’s answer to the Iran-Contra hearings, the televised Capitol Hill testimony on Bear Stearns. Both developments helped to send bank and brokerage shares on a self-congratulatory bid higher. Shares in Merrill Lynch rose 2.3% to $46.41, but the move higher – occurring against the backdrop of a 10% gap in implied volatility below the historic reading – led to some counterintuitive put action in the May contract. It’s here that traders will be concentrating their bets in connection with Merrill’s April 21 earnings report, an event which could serve to reinforce or dispel this sense the market has newly embraced of turning a collective credit corner. Buying in excess of open interest occurred at the May 42.50 and 45 strikes, and while this may be contrarian position in anticipation of a leg lower for Merrill shares in connection with the earnings, the presence of fresh long positions at the May 52.50 strike could suggest some volatility-bullish strangles going through in advance of earnings.
GRMN – Such a charmed week it might have been for Garmin, the maker of GPS personal navigation systems. Just weeks off the unveiling of its flairful touch-screen smartphone, the GPS-loaded nuviphone, Garmin has been making the rounds with its wunderkind smartphone this week at the semi-annual CTIA mobile phone industry trade show. Following this morning’s exceptional earnings from Blackberry maker RIM, one might have theorized that Garmin would benefit from news confirming consumers’ stable appetite for quality features-laden smartphones over traditional handsets. Instead, shares in Garmin slumped 3% to $54.73, brushing a new 52-week low earlier in the session, after the company’s CFO was quoted in a Reuters interview guiding lower-end Q1 sales compared to the traditionally robust Q4. While the CFO said he predicted the nuvifone would be a winner with consumers from the get-go, he did not expect phone sales to account for more than 10% of Garmin’s revenues in quarters 3 and 4. While option volume quickly tripled on the sell off, implied volatility increased 9% on the day to 64%. Early in the session we saw option traders eager to take profits on positions in the April 55 puts, which doubled in value in the first hour of trading and sold off duly. Fresh volume at the April 55 call strike traded to buyers and sellers, along with calls 1 strike higher at 60. Option traders hold twice as many call positions as puts in Garmin, solidifying a trend that has been in place for most of the year so far.
RIMM – As we alluded to above, validation of the smartphone concept – and its relative hardiness in a recessionary environment – was given in the form of an unusually robust Q4 earnings report from the Blackberry maker. Moreover, RIM doubled its sales as the company diversified its subscribership away from purely business users of the original Blackberry – a segment vulnerable to corporate job cuts - and into users of the casual, smaller-scale Pearl and Curve email phones. RIM shares, while up 6.4% to $133, appear hampered by sluggish action in the tech sector today, with today’s $7 price move still well short of the $16 move that the $120 RIM straddle has been pricing in for most of this week. Meanwhile, with implied volatility coming off more than 21% in early trading, premiums are likely to be depleted, making it hard for traders who were long volatility heading into RIM earnings to recoup costs. Despite this, nearly twice as many calls are trading as puts, with heavy two-way traffic in April calls at strikes of 120, 125 and 130.
CSCO – Shares in Cisco took a 2.8% shave to $24.29 after UBS downgraded the bank on concerns of an order slowdown and a tapering off in revenues from its European and emerging markets segments. With options trading on a total volume of some 78,000 lots, option traders showed an early willingness to take off positions in the May 26 calls at 51 cents – this strike having drawn heavy volume yesterday at about 80 cents apiece. Willingness to buy calls was observed one strike lower, at the May 24 line, on volume of more than 7,400 lots where prior open interest was virtually nonexistent. At 35%, the implied volatility reading on Cisco options shows a very slight elevation from the 34.9% degree that its shares have traditionally deviated, which could explain the willingness of traders to seek long exposure to Cisco calls at lower strikes and at lower premiums. Cisco shares have already lost 10.5% of their value so far this year.
WFR – Shares in MEMC Electronic Materials, the maker of solar and semiconductor wafers, dashed 3.4% lower to $73.76 – paring much deeper losses early in the session - after the company lowered its earnings guidance for the Q1. With more than 55,000 lots actively deployed by afternoon, MEMC quickly rated among the most active tickers on our platform, and while the volume distribution shows a fairly level quantitative balance between puts and calls, earlier today we observed what may have been ratio put spread activity in the front month, with a trader selling 2,000 of the April 65 puts for $1.70 apiece against the purchase of 1,000 April 70 puts for $3.90 apiece. Structuring the trade in this way would generate enough initial credit that the buyer would stand to profit with shares trading in a range from $65-$69.50. Simply buying the 70 puts outright wouldn’t have generated profit for the buyer until shares dropped below $66.66. Large moves aren’t out of character for MEMC, however – this is a stock that has traded as high as $96.08 and as low as $49.70 over the past 52 weeks, and the fact that implied volatility is 13% higher than the historic reading shows option traders believe the odds are particularly good for stronger-than-usual swings over the next month.
RSH – Shares in consumer electronics chain Radio Shack logged a .83% decline to $16.64 in early market action, trending with competing franchises Best Buy and Circuit City. While some might consider this a temporary setback after consumer electronics chains posted some impressive gains earlier this week (in fact, Radio Shack shares are still up 1% for the week), the 3-fold increase in trading volume seems to show traders taking an advance bearish stance ahead of its April 28 earnings report. This was expressed through fresh long positions in May 12.50 puts, which for a mere 30 cents apiece would insure the buyer against a drop of more than a dollar below Radio Shack’s 52-week low. Not exactly a vote of confidence for a chain that this quarter unveiled cash-paid, recession-friendly customer service initiatives such as mobile-phone money transfers in cooperation with Western Union. Implied volatility in Radio Shack options shows a slight, 5% risk premium to its shares over the next month.
SGP – Shares in Schering-Plough, one-half of the clinical-trial debacle known as Vytorin, rose 10% to $15.27 after the company announced plans to cut 10% of its workforce and execute a wave of plant closings to stem losses from the Vytorin failure. With shares barely a buck and change over the 52-week low, option traders did show willingness to buy into April 15 calls at 60 cents apiece – a 200% increase in premium value overnight. But the trend in subsequent months showed fresh volume on the put-side, notably at the May 20 strike for $5.20 and extending into November where the same position was bought for $5.90. Given both the time value and the fairly larded premiums on these strikes, it’s interesting to us to see traders looking to secure the right to sell Schering-Plough shares for $20 at a price that would require its shares to remain at or below current levels through the expiration period.
MRK – Option volume in Schering-Plough cohort Merck also followed sharply higher as the company posted a more modest 2.3% gain to $37.98. With some 68,500 options trading by afternoon, we noted that implied volatility on Merck options shows a gap below the historic reading, indicating about 20% less imminent price risk to Merck shares than they have shown in recent weeks. The expectation of less drastic price action in Merck over the next month may have led a trader to position in anticipation of dwindling premiums in the month of May. It looks like this was the case at the May 35/42 strangle, which seems to have been sold for $1.70 in upfront premium this morning.
Andrew Wilkinson and Rebecca Engmann Darst
ibanalyst@interactivebrokers.com
Note: The material presented in this commentary is provided for informational purposes only and is based upon information that is considered to be reliable. However, neither Interactive Brokers LLC nor its affiliates warrant its completeness, accuracy or adequacy and it should not be relied upon as such. Neither IB nor its affiliates are responsible for any errors or omissions or for results obtained from the use of this information. Past performance is not necessarily indicative of future results.
