Bold play detected in lagging chip stock
05/26/17

Can anything stop the rally in chips?

The Philadelphia Semiconductor Index is already up 19 percent so far this year as orders stream in. Smartphones, PC makers, datacenters – even traditional manufacturers like autos and appliances – have been driving the trend. All told, the industry’s bean counters haven’t been this happy in the better part of a decade.1

Xilinx (NASDAQ: XLNX) has been a laggard, delivering barely half the broader sector’s gains through the start of this week. Then it got slammed lower by a Wells Fargo downgrade as analysts fretted the market was too optimistic about its growth potential.2

Options traders took the other side of that bet yesterday, apparently looking for new highs this summer. Going to work in stages during the morning, they targeted three contracts:

  • Some 3,100 July 67.50 calls were bought for $1.37 shortly after the open, followed by a second block of 1,550 more calls for $1.63. That averages out to a cost of $1.46.
  • Matching trades occurred simultaneously in the July 72.50 calls, except this time they were sold: 3,100 for $0.33 and another 1,550 changed hands for $0.44. That averages out to a credit of $0.37.
  • Ditto in the July 57.50 puts. The first slug of 3,100 contracts was sold for $0.32, and the second chunk crossed the tape at $0.34. The average premium on those was $0.33.
  • The combined cost was $1.46 - $0.37 - $0.33, or $0.76, not including commissions. 
Xilinx (XLNX) 6-month chart

Source: OptionsHouse by E*TRADE

The transaction combined two prevalent options strategies: put selling and a vertical spread. Here’s how it works:

  • Owning the 67.50 calls locks in the price where they can purchase XLNX shares.
  • Selling the 72.50s forces them to fork over the stock if it’s above that level on expiration. The good news is they collected a credit for writing the contracts. Plus, they would have already bought in $5 lower.
  • Selling the 57.50 puts was the gutsiest part of this play, because they’re on the hook to buy shares at the strike, no matter how low they may go below it. In other words, they’re putting major chips down that XLNX will hold that level.
  • The trader will collect $5 if XLNX closes at $72.50 or higher on expiration. Divided by the $0.76 cost, that’s a potential profit of 558 percent from the stock climbing just 11 percent. 
  • Breakeven is at $68.26. The position will expire worthless if XLNX remains below $67.50 on expiration. Below $57.50, they’re in a world of hurt.

XLNX rose 1.54 percent to $65.43 yesterday, and is back in a zone last seen at the tail end of the 1990s tech bubble. While most analysts have been doubters, some fans see potential for better results following strong reports the last two quarters.3

Bottom line: Semiconductors have been one of the hottest areas in the market, and traders are making a bold move on a lagging name.

 

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1. Semiconductor Industry Association: Global Semiconductor Sales in March up 18.1 Percent Year-to-Year. 5/1/17.

2. MarketWatch: Xilinx's stock rocked after 'modest' outlook prompts analyst downgrade. 5/23/17.

3. Credit Suisse: Upgrading on Structural Acceleration Leverage. 4/23/17. Benzinga: Major Keys From Xilinx's Analyst Day. 5/23/17.