AVP - Skew Opens up on Takeover Rumors

Discussion in 'Options' started by livevol_ophir, Oct 19, 2010.

  1. livevol_ophir

    livevol_ophir ET Sponsor

    AVP is trading $35.00, up 1.8 with IV30™ up8.9%. The <a href="http://www.livevol.com/">LIVEVOL™ Pro Summary</a> is <a href="http://livevol.blogspot.com/2010/10/avp.html">in the article</a>.

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    The stock and vol are up, at least in part, on a call from Jim Cramer last night: "You know what? Terrible management... But I will say this... it would shock me if that company continued to maintain its independence. Avon's too valuable. I think they either get rid of management or it gets a takeover bid. There's too much longer term value there so I will say buy, buy, buy AVP."

    Ok, let's look at what's happened and if there is anything to analyze as a possible trade.

    The company has traded 30,000 options in the first three hours on total daily average option volume of just 3,046. However, calls and puts are trading relatively equal in size. The largest trades in fact have been Nov 30 and Nov 33 put sales (best I can tell). The Stats Tab and Day's biggest trades snapshots are included (<a href="http://livevol.blogspot.com/2010/10/avp.html">in the article</a>).

    The Options Tab (<a href="http://livevol.blogspot.com/2010/10/avp.html">in the article</a>) illustrates the action. Note that vol is up across the board for all months, but most substantially in Nov and Dec. Also note that there is likely an earnings cycle in Nov.

    The Skew Tab snap (<a href="http://livevol.blogspot.com/2010/10/avp.html">in the article</a>) illustrates the vols by strike by month.

    <img src="http://www.livevolpro.com/help/images/blog/avp_skew_10-19-2010.jpg" width="600" />

    Ok, here we go. The upside skew in Nov is bent up a lot, with the Nov 50 calls quoting at around 70 vol, or ~60% higher than the ATM.

    Finally, the Charts Tab (6 months) is <a href="http://livevol.blogspot.com/2010/10/avp.html">in the article</a>. The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20™ - blue vs HV180™ - pink). The yellow shaded area at the very bottom is the IV30™ vs. the HV20™ vol difference.

    We can see the stock gapped up $1.50 (ish) on 10-12-2010 as did IV30™. The stock has moved up then sort of simmered down of late. We can see vols are:

    IV30™: 44
    HV20™: 32
    HV180™: 31

    <b>Possible Trades to Analyze</b>
    Selling puts sounds like a good idea at first blush, but more analysis shows this to be selling depressed vol relative to the upside. For example, the Nov 30 puts traded at 33 vol, while the Nov 50 puts are 70 vol. I don't like the put sale, but I like selling the vol and getting long.

    1. Do a buy-write. Buy stock, sell calls 1:1. This carries a big delta risk though depending on the calls you sell. Not in love with this idea.

    2. Call-spread. You guys know I am always tempted when I see the possibility of buying a call spread that allows selling higher vol than I purchase. A Nov 38/45 call spread for $0.60 gives huge upside for relatively small debit, BUT requires the stock to move substantially for a win. I don't love this trade either, but I don't know much about AVP. For you bulls, this might be one to look into.

    3. A calendar spread risks a takeover in the front month, but also has the benefit of potentially leaving a position with "cheap" options in the back if the front month "behaves." A Nov/Dec 38 (or whatever) call spread could be very tasty. Or, you could lose the entire bet if there's a takeover.

    4. A final idea I saw on the board was doing a call spread and selling a put to finance it. This does sell low vol in the puts, though it also makes use of the elevated vol in the calls. It's bullish, and a low debit. Just an idea... I have no strong opinion on this either, though I would caution that a stock pop on a pundit driven "rumor" may not materialize as often as a company/market driven rumor.

    This is trade analysis, not a recommendation.

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    Details, trades, prices, vols, skews, charts here:
    <a href="http://livevol.blogspot.com/2010/10/avp.html">http://livevol.blogspot.com/2010/10/avp.html</a>

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