Friday, July 23, 2010

Forest Labs (FRX) - Risk Reversal Trades in Sep

FRX is trading $28.28, with IV30™ up 2.7% today. The LIVEVOL™ Pro Summary is below.

The company has traded over 13,000 options on total daily average option volume of just 4,261. 12,000 of those contracts came on one trade; a Sep 26/31 risk reversal (sell puts/buy calls) against $28.22 stock on a 39 delta. Mike Bristow, head of the brokerage for the Vtrader Group, gave me the color. The Stats Tab and Day's biggest trades snapshots are included (click either image to enlarge).

The Options Tab (click to enlarge) illustrates that the calls opening (compare OI to trade size). The puts are harder to tell at first glance. It turns out that entire 5,000 OI traded two days ago on the 21st, and they are short, so the trade today will increase that OI.

Trade Stats
Buy 6,000 Sep 31 calls for $0.30
Sell 6,000 Sep 26 puts @ $0.30
Sell 234,000 shares of FRX stock @ $28.22

The PnL chart for this trade is included (click to enlarge).

The trade makes money at Sep expo if the stock is in the $26 range or above the $33 range. Max loss is at $31 (the long strike).

The Skew Tab snap (click to enlarge) illustrates the vols by strike by month.

The skew looks pretty normal; though Sep vol is well below Nov vol. There should be an earnings release in Oct, so that makes sense. You can see this trade sells higher vol and buys lower.

Finally, the Charts Tab (12 months) is below (click to enlarge). The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20™ - blue). The yellow shaded area at the very bottom is the IV30™ vs. the HV20™ vol difference.

We can see that IV30™ is above the HV20™ and has been for the last month. Two earnings cycles ago so saw a gap down in stock price, but the last cycle a couple of days ago was pretty muted. IV60™ and HV60™ are almost equal (27.00 to 26.15 respectively). A vol sale in August seems reasonable, but this is a known takeover target in a risky industry, so my best play on this one is no trade at all unless you have conviction.

This is trade analysis, not a recommendation.

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