Options Update: Dendreon Attracts Put-Selling Activity on Recent Rally

With earnings looming just over the horizon, and broad-market buying strength gaining momentum on Wall Street, the shares of biopharmaceutical concern Dendreon
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have soared higher in recent weeks.

The stock is up more than 27% from its October 27 low near $4 per share, and today’s rally above long-term resistance at the 5 level may have finally pressured a bearish player or 2 out of the options market. But can the equity maintain this momentum, or will it cave once again to overhead technical resistance?

There are a couple of looming events to take note of before we dive into DNDN’s options activity today. The first is the company’s participation in the Rodman & Renshaw 10th Annual Healthcare Conference. While I don’t expect much from this event, given that the company recently released preclinical data on anti-tumor activity from developmental drug D-3263, there is the potential for some minor details to arise from the conference.

Shortly thereafter, however, DNDN should be slated to release its third-quarter earnings report. Currently, Wall Street is expecting the company to post a loss of 22 cents per share, a penny narrower than last year’s loss of 23 cents per share. Historically, DNDN has performed pretty well, besting analysts’ expectations in 3 of the past 4 reporting periods by an average of 4.5%.

Officially, Dendreon has yet to officially set the date for its third-quarter earnings report, but this won’t stop the Dendreonites from positioning themselves ahead of the event. In today’s trading, more than 21,000 DNDN puts have crossed the tape, outpacing the stock’s average daily put volume by a factor of 12 and placing the shares on today’s Intraday Volume Explosion List. However, it was the heavy activity at the January 2009 5 put that caught my eye this afternoon.

Dendreon option volume details

The Anatomy of a Dendreon Put Position

The first thing I noticed about today’s DNDN volume was that it was almost entirely consumed by 1 rather large block trade of 19,088 contracts – suggesting institutional activity. This block crossed the tape at 10:29 a.m. Eastern time at the bid price of $0.90, indicating that these contracts were most likely sold. With open interest at the January 2009 5 put vastly exceeding today’s volume, this activity is most likely the closure of an existing position to limit losses, as a purchased put at this strike would now be out of the money.

On the other hand, I cannot completely rule out the possibility that this block was the initiation of a put-sell position. Considering that the 5 level has long been a support/resistance level for DNDN, a trader could have used today’s push above this level as an entry point for just such a neutral-to-bullish trade. Such a speculative trade would breakdown as follows: The trader sells to open 19,088 DNDN January 2009 5 puts for a total credit of $1,717,920 — ($0.90 * 100)*19,088 = $1,717,920. Remember that a put-sell trader keeps the premium received on the trade as long as the underlying shares remain above the sold strike through expiration, which, in this case, is January 16, 2009.

By entering this trade, the investor is indicating that he expects DNDN to hold above $5 per share for the next couple of months. The shares have pulled past potential technical resistance at the 5 level today, but let’s see if the stock’s technical or sentiment backdrops provide any additional drivers for this trade.

Getting Technical

Technically speaking, DNDN has parlayed its recent technical strength into a rally above former resistance at its declining 10-day and 20-day moving averages. These trendlines had held the shares in check since October 6, and could now provide support on any pullbacks in the equity. This support could be key for a January 2009 5 put-sell position, as the stock’s 20-day moving average is currently positioned just below the 5 level.

However, the stock still faces some potentially daunting technical hurdles. Specifically, DNDN remains capped by resistance at its declining 10-week and 20-week moving averages. The former of these trendlines is perched just above the equity, near the 5.30 level. What’s more, the shares are also locked in a slow year-to-date downtrend, with DNDN sitting on a loss of more than 20% since January 2008. A put-sell trader would need the equity to breakout of this funk and move above its 10-week and 20-week trendlines in order to retain the premium received.

Weekly chart of Dendreon since October 2007 with 10-week and 20-week moving averages

The Sentiment Drivers

From a contrarian perspective, DNDN has considerable upside potential if the shares can extend their recent technical strength. Bearish investors have taken quite an interest in the shares, as Zacks.com reports that all 7 analysts following the shares rate them a “hold” or worse. Furthermore, Thomson Financial reports that the average 12-month price target for DNDN rests at $2.50 per share – well below the stock’s close of $4.93 on Monday. This configuration boosts the chances of upgrades or price-target increases for the shares.

Meanwhile, short sellers are betting heavily against DNDN, as more than 28% of the stock’s float is sold short. Options traders are equally as bearish, with the stock’s Schaeffer’s put/call open interest ratio (SOIR) of 1.57 arriving at an annual peak – indicating that options speculators have not been more bearishly aligned during the past year. Should pessimism unwind from either the short-selling camp or the options pits, we could see an influx of buying pressure for DNDN shares, thus supporting the case for a January 2009 5 put-sell position.

Sentiment indicators for Dendreon

The Verdict?

As far as today’s trading activity is concerned, I would bet that the heavy volume at the January 2009 5 put represents the closure of an existing position. That said, as I have outlined above, a put-sell position or even a call position on DNDN may be worth considering. The stock certainly has the available sideline money necessary to sustain a considerable rally. Now, all the Dendreonites need is a spark to light that tinderbox (third-quarter earnings?), and the stock could be off to the races.

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