Alcatel-Lucent SA (ADR) (ALU) has astounded many investors this year by rallying 145% YTD. The stock has now tagged its two-year acme of $3.61. But that's just part of the story. ALU's impressive rally has earned the stock the reputation of being one of the most optionable stocks on the ISE (International Securities Exchange). ALU has racked up calls at a dizzying pace; the stock's call/put volume ratio for the last five sessions stands at an incredible 84.02.
When you widen the scope by averaging the call/put ratio for the last 50 market sessions and include data from NASDAQ OMX PHLX (PHLX) and the Chicago Board Options Exchange (CBOE), the ratio still works out to an impressive 15.50, meaning that traders have opened more than 15 ALU puts for every call traded during the past 10 weeks.
The near-the-money 3.50 strike call has been at the helm of most September as well as the soon-to-be October front-month option series. More than 4,000 September 3.50 calls and > 6,000 October 3.50 calls were added last week alone. The October 3.50 strike has now become the home to peak call open interest of almost 11,000 contracts while the September 2 strike remains the most popular front-month series with the total number of contracts in residence exceeding 20,600.
For investors who purchased ALU calls to open, they are definitely expecting the stock to move North of $3.50 through the options' lifetimes. Even if ALU remained South of the strike price through expiration date, the underlying risk is simply limited to the premium paid for the calls. For out-of-the-money calls, the stock needs to exceed $3.84 by the January options expiration. ALU is currently trading at $3.47, as investors are still digesting news that Alcatel-Lucent settled all its pending litigation and entered a licensing agreement with Wi-LAN, Inc. (WILN). The shares had surrendered 2% to close the day at $3.38 the day after the new hit Wall Street, but the effects of the announcement seem to have worn off.
Analysts are a bit wary of ALU,which has outperformed the S&P Index (SPX) by a staggering 67 percentage points during the past three-month period. Five out of nine analysts have a hold or worse rating on the equity, with a $2.93 consensus price target. The stock has a Relative Strength Index of 73, suggesting that ALU is already into overbought territory. Renowned analyst Zacks is one of the ALU bears, and has assigned the stock a PT of just $2.25.
Should investors expect a pullback?
Judging by the above analysis, it might look like a pullback is in the offing for ALU. But could the analysts be missing something? They very well could be. I remember writing a bullish ALU article about two months ago that you can read here. I was bullish then, and still remain bullish and would rather go with MKM Partners which has raised ALU's PT from $2.60 to $3.75.
Why I remain bullish on ALU
Alcatel-Lucent is a French communication equipment-maker that offers video, data and voice services to a broad range of customers. The company has 25 wholly owned subsidiaries. Although the firm's second-quarter results were lackluster, more notable being the company's negative FCF of (-$327.86 million), which was the report's main Achilles Heel. Despite the setback, the firm, nevertheless, managed to cut down on its debt and position itself for the gradual shift into LTE.
Alcatel-Lucent's networking strategy great for business
Alcatel-Lucent makes networking equipment and compared to other networking stocks such as Cisco (CSCO) and Juniper Networks (JNPR), it beats them by a mile. The current trend in the networking equipment industry is gradually shifting from manufacture of networking equipment to the higher-margin software-based technologies. As a side note, software company Microsoft (MSFT) derives 36% operating margins from selling bundled software (software sold alongside its respective hardware). Compare that to the much lower 5.74% operating margins Dell (DELL) manages to eke out of its hardware business. I know these companies exist in quite different industries but have used them here since I cannot readily get the exact figures for ALU's operating margins on its networking software, but I hope you get the point. The move into networking software is part of the company's Shift Plan that will transform it from the telecom equipment generalist it is today to an IP networking/Ultra-Broadband Access industrial specialist.
The move by ALU into ultra-high speed broadband is certainly well-timed. Currently, only about 2% of broadband providers in Europe deliver ultra-high speed broadband (30 Mbps, 100Mbps broadband) to their customers. The EU outlined in their Digital Agenda for Europe that one of their targets was to have at least half of Europe's citizens subscribe to at least 100 Mbps, and all citizens to have access to 30Mbps by 2020. The shorter-term target of the plan was to have all European citizens access basic broadband by 2013, a target it is well on track to achieving by year-end. ALU's aggressive move into ultra-high speed broadband couldn't, therefore, have come at a better time.
Alcatel-Lucent has a leg up its competition since the company has already successfully completed testing its new vectoring technology that will enable ultra-high speed broadband to be delivered over existing copper telecommunication networks. What does this mean? Simple. Broadband providers can now use the existing copper telecommunication networks in Europe to deliver ultra-high speed broadband instead of having to install expensive fiber-to-home products and fiber-optics. This can only accelerate the deployment to this platform.
Successful completion of SaskTel Project
Alcatel-Lucent recently completed testing its 400G fiber-optic data transmission technology between Regina and Saskatoon in Canada. The trial was done on a live 10G network and the results were impressive. SaskTel had earlier selected ALU as the primary infrastructure provider in its seven-year $670 million 4G Broadband Access Program.
SaskTel will rely on Alcatel-Lucent's intelligent, scalable and highly-efficient HLN (High Leverage Network) architecture to deploy a single, end-to-end and fully converged IP network for its wireline and wireless residential and business services.
The SaskTel project is probably just one of the many ultra-high speed broadband access projects that ALU will undertake in the near future as the race to 4G gains momentum.
Although Alcatel-Lucent still has got some work to do before establishing strong leadership in 4G LTE networks, it is rapidly making inroads into the sector. Its vectoring technology that makes it possible to deploy ultra-high speed broadband over existing copper telecom networks is impressive indeed, and will help companies such as ALU and broadband providers to accelerate the move into the newer platform. These developments will help the company's stock to support even higher prices than where it has currently reached. The firm has been restructuring its debt by issuing bonds. My take is that Alcatel-Lucent still has significant upside and the $3.75 MKM Partners price target for the stock is well within reach in the near term.