In those sometimes accurate heat-seeking option markets, it appears there’s still at least one or more bears which see Hewlett Packard (HPQ) as having its work cut out for it despite the announcement of ex eBay head Meg Whitman coming on board as Chief for the struggling computer hardware outfit that’s looking to move beyond its namesake PC business.
During Friday’s chink in the armor to “buying the rumor and selling the news” and shares dropping about 4.25% to fresh yearly lows, a couple large blocks totaling 17,000 in both the January 24 and 31 calls for about $1.45 suggests a bear spread initiation. With shares at 21.85, the trader(s) will stand to make the entire credit if shares stay below 24 come expiration, breakeven around 25.45 and stand to lose nearly $5.50 above 31 if HPQ somehow managed to aggressively change course as it enters into a new calendar year.
Why a bear and not a bull? The guesstimate from this trader is the premium received for selling the 31 call, which amounts to $0.35 or so per contract with the 24s trading for $1.80, isn’t much of an offset to the debit. As much and not particularly attractive to the bull spread, it is nonetheless something a market maker or a large firm would be willing to take on in the normal course of their obligations in providing customer liquidity.
Further, for the buyer of the 31 call and hence a seller of the bear spread, the protection, albeit loose at 7 points or roughly 32% of the current share price, does still serve the purpose of acting as very real protection. The long call also frees up margin since the trader has a limited risk vertical versus maybe originally looking at a naked call sale on the 24 strike.
Figure 1: Hewlett (HPQ) Risk Comparison
Another alternative position is to incorporate the bear spread against long stock using maybe a delta neutral ratio of shares or one-to-one against the contract count. Shown above in Figure 1 is a scaled down comparison of a bear vertical versus a long stock / bear vertical position on 17 contracts and 1700 shares.
In using a bear vertical against long stock a would-be buy-writer is giving up a small amount of premium above 24 by purchasing the 31 call but allowing themselves to show even larger profits above 31 since the position is net long deltas and contracts due to the stock position. What’s the reality of a move through 31 by January expiration for shares of HPQ? Probably not very good in our opinion, but wilder things have been known to occur in the market. And for a difference of $0.35; this latter option may not have been overlooked by Friday’s unknown hedge hog of some sort.
Senior Options Writer, former Market Maker & fulltime Option Hedge Hog Advocate
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