Nothing brings a smile to my face quicker than an obscure reference to an 80’s song on a Saturday morning. That’s what we got from Steven Sears as he takes a line from Prove My Love by the Violent Femmes. The line is, “3rd verse, same as the first”, and he is referring to the continuous reference in the markets to the fiscal cliff. He mentions there are more issues for the market to focus on than just the outcome of discussions in Washington, DC. Without specifics puts on SPY (think SPX) or calls on VIX are ideas to hedge against a market drop if negotiations do not come to a resolution by the end of December.
Another piece that caught my eye in Barron’s was a bullish piece on Transocean (RIG – 46.20) which has been under pressure and lagging competitors as RIG was the operator of the Deepwater Horizon oil rig that was involved in the 2010 Gulf Oil Spill disaster. According to the story, litigation is winding down on this and RIG may be poised for a move higher. A target of 60.00 over the next year is suggested. When I hear target prices that far out I think LEAPS (being option brainwashed and all).
Checking RIG Jan 2014 LEAPS I noticed the RIG Jan 2014 35 Call offered at 13.80. With the stock at 46.20, there the time value associated with this LEAPS Call comes to 2.60. In addition to LEAPS, there are also Weeklys listed on RIG so there will be some opportunities to sell short term options against a long LEAPS call. For example if you think RIG will be under 46.50 this coming Friday then a RIG Dec 7th 46.50 Call could be sold for 0.53. If you own the LEAPS Call with a long term expectation of the stock at 60.00 and you choose to sell shorter date options opportunistically, you may be able to offset that 2.60 of time value with just five or six trades short term trades. This is one of the great advantages that Weeklys have to offer and a reason that short dated option contracts have seen such tremendous growth.
Options Action –
The show started out discussing Yum Brands (YUM – ) which is the operator of Pizza Hut, Taco Bell, and Kentucky Fried Chicken. YUM also is a great proxy for the Chinese economy as 45% of sales come from China. The stock dropped 10% on their outlook which included stating that the pace of the slowdown in China is shocking. Maybe we have more to worry about in the world than our own fiscal cliff.
The first stock recommendation goes along with the China slowdown theme and is a bearish trade on Nike (NKE – 97.48). The trade is a fun one in the form of a put calendar. Specifically a weekly NKE Dec 7th 95 Put was sold for 0.50 and a standard NKE Dec 95 Put was purchased for 1.90. The cost and maximum risk is 1.40 on this trade and the idea is to actually have the weekly put expire and continue to hold the NKE Dec 95 Put with the expectation of a drop in NKE into earnings which come out on December 20th. Also, it was mentioned that after expiration on December 7th the plan involves possibly creating a vertical spread with the remaining long option contract. This is one I hope they follow up on, if not I plan on seeing where we are on this next weekend.