Options Update: Suncor Energy Attracts Call Activity on Scotia’s Initiation

The combination of a $586-billion economic stimulus package from China and positive comments from brokerage firm Scotia has sent the shares of Suncor Energy
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more than 4% higher in today’s trading.

According to reports, China said it will use the money for housing and infrastructure, which will spur demand for oil, iron ore, and copper. Meanwhile, Scotia initiated coverage on SU with a “sector outperform” rating and a price target of C$44 per share.

The added attention on Wall Street has prompted some mixed activity in SU’s options pits this afternoon. More than 5,000 SU calls have changed hands so far today, more than doubling the stock’s average daily call volume and placing SU on our Intraday Volume Explosion List. However, it was the nearly 4,000 contracts that traded at SU’s November 25 strike that caught my eye today.

Suncor Energy option volume details

The Anatomy of a Suncor Energy Call Position

Diving into the options data, I noticed that call activity is mixed toward SU. Most of the activity on the stock’s November 25 call is crossing at the bid price, but quite a few contracts have changed hands between the bid and ask price. Muddying the water further is the fact that volume at this front-month option has yet to exceed open interest. The combination of this mixed trading activity and relatively low volume makes it difficult to pinpoint definitive buying or selling activity.

That said, I will be running with a call-buying theme this afternoon, as several combined blocks of SU November 25 calls traded closer to the ask price than the bid price shortly after 10:00 a.m. Eastern time. Specifically, 3 blocks totaling 455 contracts changed hands at 10:25 a.m. for the “between” price of $0.90 – the bid was $0.80, while the ask was $0.95. If this were buy-to-open activity, the total outlay for this position would be $40,950 – ($0.90 * 100)*455 = $40,950. For this trade to reach breakeven, SU would need to rally about 20% to $25.90 from Friday’s close at $21.44 per share before the options expire on November 21. The maximum loss on this position is limited to the initial investment of $40,950.

By entering this trade, the investor is indicating that he expects SU to surge during the next several weeks. The shares are off to a slow start, gaining about 4% at last check, but let’s see if the stock’s technical or sentiment backdrops provide any additional drivers for this trade.

Getting Technical

Technically speaking, SU is in a precarious position. Today’s rally has pinned the equity between its 10-day and 20-day moving averages, with short-term resistance looming overhead at the 26 level. The stock has closed just a handful of sessions above its 10-day and 20-day trendlines since late August. Meanwhile, short-term support lies just below the shares at the round-number 20 level, but a pullback to this region would do little for a November 25 call. What’s more, looking at the chart below, it appears that a sideways trend is developing between the 20 and 26 levels – another development that would negatively impact a November 25 call on the stock.

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

The Sentiment Drivers

While the technicals are uninspiring for a bullish option trader, SU’s sentiment backdrop could solidify the security’s poor price action over the near-term. Specifically, the stock’s Schaeffer’s put/call open interest ratio (SOIR) of 0.41 indicates that calls more than double puts among near-term options. This ratio also ranks below 96% of all those taken during the past year, indicating that options traders have been more bullish toward SU only 4% of the time in the prior 52 weeks.

Elsewhere, Zacks.com reports that 7 of the 9 analysts following the shares rate them a “buy” or better, with nary a “sell” to be found. While Scotia initiated coverage this morning, it could be difficult for SU to benefit from upgrades to existing coverage, since most brokerage firms already designate SU a “buy.” Furthermore, the shares are extremely vulnerable to potential downgrades, especially if the brokerage community grows more concerned about the potential impact of a global economic slowdown.

Sentiment indicators for Suncor Energy

The Verdict?

The facts are these: SU is down more than 60% so far this year, and the stock has entered a tight trading range between the 20 and 26 levels. Meanwhile, investors are expecting SU to rebound sharply from its long-term decline. Calling a bottom for any stock is, at best, a gamble. With the majority of investors already bought into SU, I find it difficult to see where the additional sideline money will come from to pressure the shares higher. This is doubly true for a SU November 25 call, which could need a few more stimulus plans like China’s in order to realize a profit before the options expire on November 21.

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