Despite grilling in Congress, GM investors retain bullish option bias
How much damage the GM recall has on its future remains an open-ended question? Given the pre-bankruptcy nature of management’s apparent failure to deal with the situation, one hopes that CEO Mary Barra will learn from the mistakes of her predecessors and galvanize safety procedures over the coming years. During mid-February when the company announced the recall of more than 778,000 vehicles, its shares were trading at $35.20. The S&P 500 index has advanced since then by 3.28% to its current record high. Meanwhile shares in GM have slipped by 2.10%.
Despite an uncomfortable ride for GM stock, which is higher by 10¢ at $34.45 as of the time of this writing, the weight of evidence suggests investors expect better times for the company once the interruption has passed. Most analysts on Wall Street have shaken off the recall woes and on average project a price target for the stock of $44.78 or 29.8% above its current trading price. And positioning in the option market tends to support the bullish case. Perhaps that might be different were the economy heading towards recession, but the reality remains that auto sales continue to recover from the recession magnified by rising employment prospects.
Change in GM option open interest since Feb. 13
Using the January 2015 expiration series as a proxy, the charts reflect rising open interest in both calls and puts. Bearish posturing at the $30.0 strike rose by 37,000 contracts to 91,000 lots. However, the number of outstanding bullish contracts measured by call open interest has risen to 138,000 or by 51,000 contracts as the stock has underperformed the broader market. Implied volatility using option premiums has also edged lower just as Congress gets its teeth into CEO Barra.
By plugging in Wall Street’s generous forecast for GM’s share price over the next 12-months into the IB Probability Lab, one can view a set of stock and option combinations that might suit investors taking such a stance. Indeed, judging by the towering call option positions on the stock, it appears many investors concur with the optimism expressed by those analysts who follow the stock. By tailoring the implied Probability Distribution to a more bullish outlook in line with those analysts, the IB Probability Lab generates a delta neutral strategy of long positions in the 40.0 calls and 30.0 puts and short positions in the 50 calls and 25 puts. The Delta reading across a price spectrum is also displayed below to pinpoint the investor’s long and short position under various scenarios for the stock price.