Stephen Solaka of Belmont Capital in Los Angeles did an excellent job in the Striking Price column and with description of the CBOE S&P 500 Implied Correlation Index (JCJ). This is an index that calculates the S&P 500 implied volatility versus a the implied volatility of a basket of stocks that would closely resemble the performance of the S&P 500. The use on this index is the ability to measure the risk of large price movements of individual stocks versus the risk priced in by index option contracts. More information may be found at www.cboe.com/jcj
Options Action –
There was some discussion of the overall market before diving into the recommendations of the week. During this chatter, the guys mentioned the VIX under 25.00 and stated it was a result of some of the low volatility we have had this past week and that many traders may be done for the year in the option area. A final mention of the VIX stated to look out to March and beyond on the futures curve. Those contracts are trading in the 30’s which indicates the markets are anticipating periods of higher volatility to come. A visual of this appears in the chart at the end of this posting.
Partially based on the disappointing debut performance of Zynga (ZNGA – 9.50) on Friday there is a bearish recommendation on LinkedIn (LNKD – 65.84). It is mentioned that 55 million restricted shares of LNKD will be available to be sold in February so part of the recommendation is based on this event. The trade is a put spread buying the LNKD Feb 55 Put at 3.50 and selling a LNKD Feb 45 Put for 1.50. The result is a net cost of 2.00. The outlook to justify this trade involves LNKD dropping down to 45.00 at February expiration. At this price the spread would be worth 10.00 for a profit of 8.00.
The second trade recommendation is in Oracle (ORCL – 29.21). ORCL reports their earnings on Tuesday. As of Friday the option contracts were indicating a 4% move on the earnings report which is in line with the average move over the last 8 quarters. Directionally the guys think the stock is due to trade higher over time so the March option contracts are the focus of the trade. The trade recommended is a bullish call spread combined with a short put. The call spread involves buying the ORCL Mar 30 Call at 1.70 and selling the ORCL Mar 33 Call at 0.70. The final leg of this trade takes a short position in the ORCL Mar 26 Put at 0.85. The net cost of this trade is 0.15. With ORCL at 26.00 or lower on March expiration a long position would result from the short put and the net effective cost of shares would be 26.15 (26.00 assignment price plus 0.15 cost of spread). Between 26.00 and 30.00 all options would expire and the trade would lose 0.15. Above 30.00 the 30 strike call would be exercised and shares would be purchased and if the stock is also above 33.00 the shares would be sold for a maximum profit of 2.85 (3.00 from exercise and assignment then subtracting the 0.15 cost of the spread).
As promised – here’s the chart of the VIX term structure as of Friday’s close –