Options Update: Apple October Put Volume Spikes Ahead of Expiration

Shares of Cupertino, California-based Apple
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have fallen more than 3% so far today, despite a “buy” reiteration today and positive comments from a pair of brokerage firms yesterday. Specifically Agrus reiterated AAPL with a “buy” rating this morning, while J.P. Morgan boosted the shares to “overweight” from “neutral” yesterday. Also on Wednesday, Goldman Sachs lifted its price target on AAPL to $125 per share from $110.

Nevertheless, AAPL shares are sharply lower today, and are flirting with long-term support/resistance at the 95 level. This questionable price action has prompted a flood of speculation in the options pits, with more than 134,255 put contracts trading so far today. This activity not only double’s AAPL’s average daily put volume, but it has also placed the stock on out Intraday Volume Explosion List. What caught my eye, however, was the more than 23,000 puts that changed hands at AAPL’s soon-to-expire October 90 put.

Apple option volume details

The Anatomy of an Apple Put Position

The first thing I noticed when examining AAPL’s October 90 put volume was that nearly all of the 23,000 puts that have crossed the tape traded in blocks of less than 50 contracts. This activity hints that we are seeing individual traders speculating on AAPL, and not institutional trading. The second thing that caught my attention was that these individual traders appeared to be betting against AAPL, since the majority of today’s volume traded at the ask price, suggesting put buying. Reinforcing this speculation is the fact that volume has easily outstripped open interest at the October 90 put, which totals 14,828 contracts.

Running with the put-buying theme, it would appear that a trader purchased 500 AAPL October 90 puts at 10:38 a.m. Eastern time for the ask price of $3.03. The total outlay for this position would be $151,500 — ($3.03 * 100)*500 = $151,500. For this trade to reach breakeven, AAPL would need to fall about 8% from yesterday’s close to $86.97 per share before the end of trading tomorrow. The maximum loss on this position is limited to the initial investment of $151,500.

By entering this trade, the investor is indicating that he expects AAPL to fall quickly, extending today’s 3% decline beyond potential technical support at the round-number 90 level. What’s more, this move needs to happen before October options expire tomorrow afternoon. AAPL is well on its way to the 8% loss needed for an October 90 put to reach profitability, but let’s see if the stock’s technical or sentiment backdrops provide any additional drivers for this trade.

Getting Technical

Looking at a daily chart of AAPL, I see that there is potential for the decline necessary for the October 90 put to reach a profit. The stock continues to struggle with overhead resistance at its 10-day and 20-day moving averages, which have conspired with AAPL’s 100 level to hold the shares lower in recent weeks. This overhead technical resistance should keep the stock from rallying through the end of the week, barring any major market rally tomorrow. Furthermore, should AAPL close below the 95 level in today’s trading, another session of sharp selling pressure could quickly send the stock down for a retest of support at the 85 level. Such a move could offer a trader holding the October 90 put a nice exit point during Friday’s trading.

Daily chart of Apple since August 2008 with 10-day and 20-day moving averages

The Sentiment Drivers

The stock’s sentiment backdrop is also supportive of continued weak price action from the shares. Despite the recent flurry of support from the brokerage bunch, Zacks.com reports that AAPL has garnered 14 “buys,” 6 “holds,” and no “sell” ratings. This configuration still leaves the door wide open for potential downgrades, which seem more likely at the moment given the stock’s poor technical performance, the weakening economic environment, and the sheer number of bullish analysts. Price target cuts are also a concern for AAPL. Thomson Financial reports that the stock’s average 12-month price target rests at $162.27 – a 71% premium to the stock’s close on Wednesday.

Finally, options traders have become extremely enamored with AAPL. The stock’s Schaeffer’s put/call open interest ratio (SOIR) of 0.50 indicates that calls double puts among near-term options. What’s more, this ratio currently rests at an annual low, meaning that options traders have not been more bullish on the shares during the past year. If these bulls decided to close out their losing positions ahead of tomorrow’s expiration, AAPL could be subjected to additional selling pressure.

Sentiment indicators for Apple

The Verdict?

Personally, I don’t like trading out-of-the-money options this close to expiration, as time premium is no longer available to cushion any sudden moves in the underlying shares. As such, a trade can quickly shift from a slight gain to a complete loss in a matter of minutes amid the volatile trading that occurs during expiration. That said, while an AAPL October 90 put doesn’t suit my risk tolerance, a November or January 2009 put at the 95 or 100 strike looks much more appealing considering the stock’s poor price action and heavily bullish investor sentiment.

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Copyright Schaeffer’s Investment Research. www.schaeffersresearch.com.