Options Update: Plunging U.S. Bancorp Shares Attract a Flood of Puts
For the quarter, USB said that net income fell 65% to $330 million, or 15 cents per share, from $942 million, or 53 cents, last year. The results fell well short of analysts’ expectations for a profit of 26 cents per share.
“Higher credit costs were a major contributor to the decline in net income this quarter, and the costs were in the middle of the range we communicated last December,” Chief Executive Richard Davis said in an accompanying statement.
Heading into the report, options traders were extremely put heavy, as the stock’s Schaeffer’s put/call open interest ratio (SOIR) of 1.16 ranks above 84% of all those taken during the past year. What’s more, the International Securities Exchange (ISE) and Chicago Board Options Exchange (CBOE) 10-day put/call ratio of 3.12 hints that puts bought to open outnumber calls bought to open by more than 3 to 1. This reading is also higher than 87% of all those taken during the prior 52 weeks, underscoring this preference for these bearish bets.
With the stock down sharply on this morning’s news, puts have retained their popularity as an investment vehicle for USB. Specifically, more than 40,000 puts have traded on the stock so far today, more than quintupling the equity’s average daily put volume and placing USB on our Intraday Volume Explosion List. Amid the rush, however, it seems that traders have yet to decide if USB is destined to decline further, or if the shares may have found a short-term bottom.
The Anatomy of a U.S. Bancorp Put Position
As you can see from the chart above, blocks of February 10 puts are changing hands at both the ask price and the bid price in heavy numbers. Open interest at this front-month option rests at a mere 1,414 contracts, so much of today’s volume could translate as new positions. As such, I will take a look at both a bought-to-open February 10 put and a sold-to-open February 10 put in today’s example.
With USB down sharply following earnings, the kneejerk reaction might be to rush out and buy puts, betting on a continued decline. Assuming that the contracts were, in fact, purchased, the block of 250 contracts that traded at 10:44 a.m. Eastern time with an ask price of $1.40 could accomplish this goal. The total outlay for this position would be $35,000 — ($1.40 * 100)*250 = $35,000. For this trade to reach breakeven at expiration, USB would need to fall about 44% to $8.60 per share from the stock’s Tuesday close of $15.34 before the options expire on Friday, Feb. 20. The maximum loss on this position is limited to the initial investment of $35,000.
On the other hand, if traders believed that the initial sell-off following the earnings report was the worst of the storm, but held little faith that the equity would achieve any significant rally in the coming weeks, then selling to open a February 10 put could be a profitable position. For instance, a block of 895 contracts traded at the bid price of $0.90 at 11:57 a.m. Eastern time. The total credit received for this trade would be $80,550 — ($0.90 * 100)*895 = $80,550. 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 Feb. 20.
Taking stock of the situation, put buyers would expect a sharp decline in USB shares during the next month, while put sellers need USB to at least stabilize above the sold strike. With this in mind, let’s see if the stock’s technical or sentiment backdrops provide any clues to USB’s stability.
USB’s technical performance appears to heavily favor buying puts on the shares. During the past 52 weeks, the equity has shed more than half of its value. What’s more, this decline has accelerated to the downside since September 2008, with USB plunging some 68% since its Sept. 19 high of $42.23 per share. A continuation of this downtrend heavily favors purchasing a February 10 put.
That said, long-term support appears to be taking hold in the 12-13 region. This area buoyed USB from January through May 1997, and has roughly marked the stock’s intraday low so far today. Below this, the 10 level stands as a psychological barrier between double-digits and single-digits for USB shares. In this respect, selling a February 10 put looks like a solid option for capturing premium on an underperforming equity. Remember, put sellers don’t need the underlying shares to rally, only not fall below the sold strike.
The Sentiment Drivers
As you would expect for an underperforming member of the banking sector, investors are heavily pessimistic toward USB. In addition to the heavy attention to put options, Wall Street analysts have doled out 12 “holds,” 2 “sells,” and just 3 “buy” ratings on the shares. Additionally, Yahoo! Finance reports that the average 12-month price target for USB rests at $27.83 – an 81% premium to the stock’s close at $15.34 on Tuesday.
While this outlook from the brokerage bunch is decidedly negative, there is room for the situation to deteriorate further. As a case in point, S&P Equity Research downgraded the shares today to “sell” from “hold,” and cut its price target to $10 per share from $27 per share. Should any more analysts follow S&P Equity’s lead, we could see additional selling pressure sweep in on USB.
While there is a case to be made for buying a February 10 put, I would be more inclined to sell the option. Why? First, technical support looks like it could hold in the 12-13 region – the area that has marked USB’s lows today. Second, any additional fallout from today’s earnings report would have to be pretty severe to push the stock below psychological support at the 10 level.
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