Options Update: Call Buying on Potash Corp. of Saskatchewan on USDA Report
Potash Corp. of Saskatchewan
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POT |
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PowerRating) is a hot commodity today, with shares of the company rocketing more than 7.5% higher.
The stock received an initial boost when POT declared a quarterly dividend of 10 cents per share and announced an increase in its share repurchase program. Providing additional lift, the U.S. Department of Agriculture (USDA) cut its projections for 2008 U.S. corn and soybean production.
POT was bid higher in anticipation for additional fertilizer demand, as corn requires more nutrients than other crops. Finally, Citigroup reiterated the shares with a “buy” rating and keeping the stock as a “Top Pick.”
Options traders jumped on the barrage of positive reports, sending more than 28,900 call contracts across the tape before noon. The heavy volume placed POT on our Intraday Volume Explosion List, but it was the particular attention to the September 160 strike that caught my eye today, as this contract is set to expire in about 1 week on September 19.
Looking at the chart above, you can see that the vast majority of today’s volume changed hands at the ask price. This ask activity, combined with the fact that volume at the September 160 call has outstripped open interest of just 5,304 contracts, suggests that traders are buying (to open) POT calls. For today’s call-buying example, I’ll be using the combined block of 510 contracts that traded at 9:53 a.m. Eastern time – all of which traded at the same time on the same exchange, hinting that they could be part of a larger position.
Anatomy of a Potash Call Position
Digging into today’s call-buying example, the hypothetical trader purchased 510 POT September 160 calls for $4.20, or a total outlay of $214,200 — ($4.20 * 100)*510 = $214,200. For this trade to reach breakeven, POT would need to rally about 1.5% (in addition to today’s gain of 7.5%) to $164.20 per share. We arrive at this by adding the cost of the option ($4.20) to the strike of the purchased 160 call ($4.20 + $160 = $164.20). The total loss for this position is limited to the initial investment of $214,200.
Trading a front-month contract this close to expiration can be risky, as time value on the option will begin to drop quickly. But POT appears to have a considerable degree of momentum on its side, so let’s see if the stock’s sentiment or technical backdrops provides any additional drivers for the trade.
Getting Technical
The past couple of months have been rough for POT, as the stock has fallen about 40% from its June peak. However, POT has rallied more than 70% along its 10-month and 20-month moving averages during the past 52 weeks. What’s more, the shares are in the process of rebounding from support in the 140 region, just above their rising 20-month moving average. This bounce could indicate that the recent selling pressure has run its course, and that POT’s long-term uptrend remains intact.
Still, a long-term outlook won’t benefit a trader hoping for the shares to rally sharply before September 19. Turning to the short-term outlook, the only major hurdles standing in POT’s way are its 20-day moving average and the 165 level. The security’s 20-day trendline has been a thorn in POT’s side since mid-June, but the shares have pushed past this moving average on several occasions. The 165 level stands as a more imposing short-term resistance level, as it had previously provided resistance for POT in March.
The Sentiment Drivers
The sentiment backdrop for POT reflects a heavy degree of optimism for the shares. While this bullish sentiment is warranted given the stock’s impressive long-term price action, it does little to provide the buying power needed for a September 160 call to reach profitability before the option expires. The stock’s Schaeffer’s put/call open interest ratio (SOIR) of 0.83 ranks in the 29th percentile of its annual range, short interest accounts for about 1.5% of the stock’s total float, and 9 of the 11 analysts following the shares rate them a “buy” or better.
The Verdict?
Potash shares certainly have momentum on their side following today’s deluge of positive headline news. However, much can change over the weekend, and I fear that POT may be hard pressed to sustain today’s buying pressure through the end of next week. The stock still looks solid as a long-term investment, but a September 160 call is a bit too risky given the recent market fluctuations and the short-term technical resistance facing POT. Personally, I would have pushed the trade back to the October or December series of options, using the added time premium to mitigate potential market headwinds.
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Copyright Schaeffer’s Investment Research. www.schaeffersresearch.com.