Options Update: Cypress Bioscience Sees Heavy Call Activity Ahead of FDA Decision
It’s fun with options day on Options Update, as what appears to be a bullish trader on Cypress Bioscience
(
CYPB |
Quote |
Chart |
News |
PowerRating) has me scratching my head.
If you haven’t heard of CYPB, the company is a biotechnology firm that specializes in chronic, symptom-based disorders. The firm’s primary target is fibromylagia, a condition marked by pain, stiffness, and fatigue. CYPB is currently anticipating a ruling from the Food and Drug Administration on its fibromylagia drug milnacipran. According to reports, the FDA is scheduled to rule on the drug within the next
month.
There has been considerable hype surrounding the drug, with Jefferies & Co. stating on September 25 that “there is a 70 percent to 80 percent chance the company will receive a positive decision next month,” according to an article in Forbes. The brokerage firm also noted in the article that “a delayed decision would have little downside to the stock, since the FDA would likely approve milnacipran within 9 months.”
Such a setup for volatility in a stock is music to options traders ears, and today’s appearance of CYPB on our Intraday Volume Explosion List should come as no surprise. In fact, more than 4,000 calls have traded on the security so far today, outpacing CYPB’s average daily call volume by a ratio of more than 18-to-1. However, what caught my eye was the fact that nearly all of this activity changed hands in 2 blocks of 2,000 contracts.
The Anatomy of a Cypress Bioscience Call Position
As you can see from the chart above, all of today’s volume changed hands between the bid and ask. I would also note that both blocks changed hands at the same time on the same exchange. This would suggest that the trades are related, though determining whether the contracts were bought or sold is neigh impossible, especially considering that open interest at both the December 7.50 call and the December 15 call exceeds volume at the strikes.
On the surface, it would appear (keep in mind that this is purely speculation on my part) that the hypothetical trader owns the shares and is looking to capitalize on a potential rally following an FDA decision, but is uncertain of the equity’s staying power once the verdict is handed down. In this situation, the trader would buy the December 7.50 call to take advantage of any rally in CYPB shares, and sell the December 15 call to set a maximum target gain for the position. By entering such a position, the trader collects the premium of the sold December 15 call – ($0.40 * 100)*2,000 = $80,000 – and buys the December 7.50 call – ($1.55 * 100)*2,000 = $310,000 – for a total outlay of $230,000.
In this scenario, the trader offsets the cost of buying the December 7.50 calls and lowers his breakeven on the position to a rally of about 16% to $8.25. We arrive at this by subtracting the cost of the sold December 15 call ($0.40) from the cost of the December 7.50 call ($1.55) and adding the total to the strike of the December 7.50 call ($1.55 – $0.40 + $7.50 = $8.25). The total loss for this position is limited to the difference between the premium received from the sold call and the purchased call: $310,000 – $80,000 = $230,000.
Meanwhile, the trader avoids having the shares called away due to the sold December 15 call as long as CYPB stays below the 15 level through December 19, when the options expire. Should the shares trade above 15 before expiration, the stock could be called away, netting the trader $15 per share in addition to the profit received from exiting (selling to close) the December 7.50 call.
Given that biotechnology stocks are highly volatile, especially when the FDA is involved, there is a very good probability of a sharp move from CYPB shares following a decision. As I noted above, Jefferies & Co. places the likelihood of a positive resolution from the FDA at about 70% to 80%. Still, it is worthwhile to see if the stock’s technical picture or sentiment backdrop provide any additional drivers that could help or hinder a long position on CYPB.
Getting Technical
Looking at a monthly chart of CYPB, you can see that the stock is prone to very sharp moves. In May 2007, the stock rocketed more than 66%, while in September 2005, the equity plunged more than 60%. Currently, CYPB is trading below staunch resistance at its declining 10-month moving average, and, ceteris paribus, would be a big detractor from any long position on the shares. However, the company is facing a decision from the FDA, and an approval could certainly blast CYPB sharply above this intermediate-term trendline. Such a development would be an obvious boon for a purchased CYPB December 7.50 call.
On the other hand, the monthly chart also reveals that the 15 level stands as long-term resistance for the equity. Furthermore, even when CYPB does trade above the 15 level, it doesn’t do so for very long. As such, a sold December 15 call stands a good change of never reaching in-the-money status. Additionally, if this call is covered (i.e. the trader owns the underlying shares), the trader may want to sell his position given the risk of decline, which the sold December 15 call would facilitate should CYPB rally above the 15 level.
The Sentiment Drivers
The stock’s sentiment backdrop is heavily bearish, though looking at CYPB’s technical performance during the past year, this seems warranted. That said, this heavy-handed pessimism could play right into the hands of today’s hypothetical trader. Currently, CYPB’s SOIR of 0.79 ranks above 73% of all those taken during the past year, while 22% of the stock’s total float is sold short. An approval from the FDA could send these bears scrambling for the exits, thus adding to the potential buying pressure on the shares, directly benefiting a purchased December 7.50 call.
The Verdict?
Remember that without knowing the mind of today’s hypothetical trader, I am merely speculating on CYPB’s options activity. It is possible that today’s 2 blocks of 2,000 contracts are unrelated, or part of some credit/debit spread that I am unaware of. That said, the sentiment backdrop is primed to exacerbate an upside move in the shares should the FDA approve the company’s fibromylagia drug milnacipran. The biggest risk to this trade is a delayed or negative decision by the government agency. While I wouldn’t recommend the hypothetical strategy laid out above, if you can stomach the risk involved, a December call might not be a bad trade to look into for CYPB.
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