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Put Spreader Prepares For Possible Market Rout

Posted on the 11 November 2011 by Phil's Stock World @philstockworld

EFA - iShares MSCI EAFE Index Fund – A massive put spread on the EFA, an exchange-traded fund made up of stock in multinational companies such as Nestle, Novartis and BP, to name a few, suggests one big options player is prepared should equities stumble over the next few months. Shares in the index developed as an equity benchmark for international stock performance rallied 2.5% to $51.80 this afternoon as stocks across the board look to end the week on a positive note. The put spread initiated on the fund may serve as a life preserver for its owner if (when) the next negative headline from Europe rocks markets once more. The investor purchased 55,000 puts at the Jan. 2012 $49 strike for a premium of $2.27 each, and sold the same number of puts at the lower Jan. 2012 $43 strike at a premium of $1.07 apiece. Net premium paid to initiate the spread amounts to $1.20 per contract, or a total of $6.6 million. The spread positions the trader to profit in the event that shares in the ETF fall 7.7% to breach the effective breakeven point on the downside at $47.80 by January expiration. Maximum potential profits of $4.80 per contract are available on the spread – that amounts to a cool $26.4 million – should shares in the EFA tumble 17.0% over the next few months to trade below $43.00 at expiration. Shares in the fund slumped to a 52-week low of $45.45 as recently as October 4, but have not traded below $43.00 since May 2009.

KMX - CarMax, Inc. – A flurry of put activity on CarMax, Inc. pushed the used car retailer onto our ‘hot by options volume’ market scanner this morning. Shares in the Richmond, Virginia-based company rose 0.80% to $28.60 in the first half of the session. It looks like one investor binged on KMX puts, perhaps to take an outright bearish stance on the stock through the end of the year, or to provide varying degrees of downside protection on a long position in the underlying shares. The investor purchased roughly 200 puts at the Dec. $28 strike, the closest to-the-money available in the expiry, for a premium of $1.10 each. Buying continued at the Dec. $26 and $27 strikes, where the trader picked up more than 650 puts at each strike at average premiums of $0.56 and $0.80, respectively. Put volume generated in the feeding frenzy is greatest at the Dec. $25 strike, with 2,500 contracts having changed hands for an average premium of $0.40 apiece. Finally, the investor bought more than 400 puts at the Dec. $24 strike for a premium of $0.30 per contract. The put buyer may profit if shares in CarMax pull back during the next five weeks to December expiration. Profits, or downside protection, will have kicked in at each strike selected if shares in KMX plunge 17.1% to breach the effective breakeven point on the lower Dec. $24 strike put options, at $23.70. CarMax is scheduled to report third-quarter earnings on December 21, several trading sessions after the December options expire.

ONNN - ON Semiconductor Corp. – Bullish options trading is notable in a number of beaten-down chipmakers today, including ON Semiconductor Corp., which saw its shares rally nearly 5.0% to $7.80 this afternoon. At least one investor is positioning for shares in the name to continue to climb as 2011 draws to a close. ONNN’s shares gained some ground already in November, having previously lost nearly half of their value during the past six months, sliding from $11.80 in May down to as low as $6.54 in October. Investors exchanged more than 8,700 calls at the Dec. $8.0 strike this morning, against open interest of just 17 contracts. It looks like one investor purchased the majority of the calls for an average premium of $0.39 a-pop. The trader may profit at expiration if shares in ONNN rally another 7.6% over the current price of $7.80 to surpass the effective breakeven point at $8.39.

Caitlin Duffy
Equity Options Analyst

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Put Spreader Prepares For Possible Market Rout
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