Here's a scenario using the options. Short Jan 09 5 Put 1.90 Long Jan 09 2.5 Put 0.6 Long Jan 09 7.5 Call 1.2 Risk per 100 shares $240 vs. $463 buying the stock. So for the same money you can control almost twice the stock using the options strategy. Given that the stock has lost 90% of its value in a few months it is not unreasonable to assume that the risk here is to 0. For the trade to be worthwhile and based on the expectations voiced on this thread I would assume that people are looking for at least $15 here giving an approximate RR of 1:3. If you use the options and the stock moves to $15 you make about $1600 per $463 at risk, using the stock you stand to make about $1000 for the same risk, at 10 you are looking at a return of approx $800 vs. $540. If the stock really takes off then you do even better using the options. In addition you lose no interest using options vs. the interest lost having capital tied up in the stock and if the stock does move sharply (which I assume is what is expected given the premise for the trade) you will make some gains just being long volatility. Yes there is a risk of total loss on the options trade if the stock is below 2.5 at exp in Jan 09 but probably the trade will either have worked by then or one would be out of it. There is also the potential for the stock to do better if the move occurs close to exp and is only as high as 7.5, the stock will do better and the option position will not have done anything though this is mitigated by the fact that you havenât had money tied up in the trade all year sitting stagnant (buying power yes but the cash is earning interest). The other thing I like about this strategy is that you can easily average down if the stock falls further and your conviction doesn't wane (and why should it if the premise for the trade remains intact). Sell more of the bull put spread and buy more calls, maybe even the 5 strike if they get cheap enough. My knowledge of option strategies is rudimentary and I am sure that some of the option gurus can tear this all to shreds (and I would welcome them doing so for the educational value) but if the above assumptions hold true then options would seem to be the best bet (excuse the pun ) to profit from this trade.
Mvic, great analysis. The problem I see is a simple one - as a % of the share price, the option pricing is disproportionately very, very high. Whether you bullish or bearish on FMD, you're better off buying shares or shorting shares outright, naked or covered.
Okay, since I can't sleep, I double, triple and quadrupled-checked FMDs balance sheet. I'm now more confident that ever that this is a major and rare opportunity. Run the screen yourselves. A p/e ratio of 2.2, no debt, earnings growth of 38%, p/s ratio of 0.7, and a profit margin of 16%. 2007 numbers of 990 million in rev, 330 million in net profit, and 3.7 million in total debt. One simple catalyst of lining up a re-insurer or easing default concerns (managing defaults even IF they don't line up a re-insurer, which I think is likely) will lift this stock dramatically. The numbers are incredible. I'm all in. My next targets are SEAB (Seabright Insurance), NTRI (Nutrisystems), then PKD (Parker Drilling), ERIC (Ericsson), BA (Boeing) and PHG (Philips Electronics N.V.). I'm also studying the legal issues surrounding Viropharma (VPHM) and their Vancocin, which treats fatal hospital-acquired GI bacterial infections, which they basically have a lock on right now if all goes as it has been in the U.S. courts. Goodnight to all.
I'm in 5000@3.33 and sold 50 Jan 09 5 puts against 50 Jan 09 2.5 puts for net credit of 1.5. Thanks for the heads up on this one ByLo. I have a call in to a freind who knows someone who works in their Everret office and will report if I find out anything useful.