Correction highlights potential options play

09/24/20
  • PEN up more than 7% since Sept. 14 after 20% downturn
  • Correction halted near major technical level
  • Implied volatility decline an opportunity for option buyers?

Whenever a stock looks like a compelling trade opportunity on its own merits, it never hurts to see whether options may offer an additional edge.

For example, traders who were bullish on Penumbra (PEN) but were waiting for the medical device maker to pull back after a 28% July–August breakout rally got their wish not too long ago:

Chart 1: Penumbra (PEN), 12/19/19–9/23/20. Penumbra (PEN) price chart. Successful test?

Source: Power E*TRADE


After hitting a new all-time high of $241.81 on August 13, the stock spent the next month walking back its gains, ultimately dipping into correction territory (temporarily) on September 14.

But the chart also shows the sell-off lost its momentum when it tested the late-July breakout point—a resistance level that had turned back rallies in February, April, and May. As of yesterday, the stock had pivoted more than 7% to the upside.

Okay, while a (so far) successful test of this type of technical level would likely encourage bulls looking for the stock to make a run at its former high, there was another development yesterday that may have been especially interesting to options traders. PEN’s implied volatility (IV) had dropped significantly from last week:

Chart 2: LiveAction scan: Biggest one-week IV declines. Unusual options activity. Implied volatility down more than 30%.

Source: Power E*TRADE


Since lower IV often translates into relatively cheaper options prices, some bulls may have been looking into whether PEN calls, either alone or in a spread trade, offered a shot at more relative upside than a straight stock position. If IV had instead been higher than average, traders could have been looking at relatively expensive options fighting an uphill battle to profitability—a good reason to consider trading a stock instead of its options.

If you can buy options when they’re potentially discounted because of low IV, you’re helping give yourself an edge. And while it doesn’t guarantee success, it can sometimes help you avoid getting into trades that may be at an immediate disadvantage.

Market Mover Update: A couple of months after the summer’s electric vehicle rush dominated financial headlines (see “Power surge”), Workhorse (WKHS) has, for the time being, separated itself from the pack. The following chart compares the returns of WKHS, Nio (NIO), and Nikola (NKLA)—and Tesla (TSLA), for reference—since early June:

Chart 3: Workhorse (WKHS), Nio (NIO), Tesla (TSLA), Nikola (NKLA), 6/5/20–9/23/20. Electric vehicle makers price chart. Workhorse pulls the load.

Source: Power E*TRADE


Nikola is the only loser over this period, having struggled in the face of reports that the Justice Department was looking into allegations of fraud,1 as well as the subsequent resignation of its founder and CEO, who claims the accusations are “false and defamatory."2

But similar to PEN, some bullish traders may be waiting for WKHS—which dropped sharply Tuesday and Wednesday—to retreat to a significant technical level (perhaps the general support zone between the  July 2 high of $22.90 and the August 4 high of 19.68?) before considering an upside play.

Today’s numbers (all times ET): Jobless Claims (8:30 a.m.), New Home Sales (10 a.m.), Jerome Powell congressional testimony (10 a.m.).

Today’s earnings include: Accenture (ACN), Carnival (CUK), CarMax (KMX), Scholastic (SCHL), Costco (COST), Darden Restaurants (DRI), Trip.com (TCOM), Jabil (JBL).

 

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1 The Wall Street Journal. Justice Department Probes Electric-Truck Startup Nikola Over Claims It Misled Investors. 9/15/20.

2 The New York Times. Head of Nikola, a G.M. Electric Truck Partner, Quits Amid Fraud Claims. 9/21/20.

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