Molybdenum Options: Fundamentally It's Thompson Creek; Technically It's General Moly

Includes: GMO, TCPTF
by: The Deliberate Trader

Fundamentals tell us what to trade. Technicals tell us when to trade it, and even though a stock may not be the “best” in its sector, a combination of factors can direct us to the right trade at the right time.

We've compared General Moly, Inc. (GMO) and Thompson Creek Metals Company, Inc. (TC) based upon the Molybdenum resources common to both, with the caveat that the two companies are actually quite different in a number of respects. So this isn't about which is the “better” company. However, we'd like exposure to molybdenum as a trading or investing opportunity.

From its website, Thompson Creek Metals Company, Inc.,

is a growing, diversified North American mining company. Thompson Creek has two large operating molybdenum mines, a large copper-gold mine under construction, a stand-alone metals roasting facility, and a number of additional metals properties in various stages of development. All operations are located in the United States or Canada.

By contrast, General Moly, Inc.,

is a U.S.-based mineral company engaged in the exploration, development and mining of molybdenum ("moly"). The company has two world-class assets, its 80% interest in the Mt. Hope project and the Liberty Project. Both are located in central Nevada. These assets are two of the best primary molybdenum development properties in the world.

In case you didn't catch it, we think that the contrast is the fact that TC is “operating”, while GMO is in “development”. Generally, we almost always favor “operating and producing” over “exploring and developing”. After all, it's the production and sale of the assets that permit the company to turn a profit. Exploration and development typically implies the need to obtain additional financing or a potential dilution of the share values.

The fundamental facts line up for Thompson, as the company points out that it earns a profit, it has a strong balance sheet with ample cash and low debt, its assets are diverse with a copper and gold mine in the works, and it projects ever increasing demand for its molybdenum over the next decade. What's not to like?

Nothing, really. We like TC very much. It's just that at the present time, it's in a languishing sector with a worrisome technical chart picture. The four year up trend was broken in mid-May on a candlestick chart. The point and figure trend line was broken June 10th. Presently, the stock is trading just above Fibonacci support. However, with such weak technical attributes as relative weakness against the market, relative weakness against the sector and its peers, we are presently resigned to stay on the sidelines. In our view, if you own TC you should be looking to cover the position with short calls on rallies to 10.00.

On the other hand, GMO is in a more speculative category. While its prospects are bright, presently that is the state of affairs. The company is still in the permitting stage for its projects, is in the process of sharing equity for obtaining debt financing, and it doesn't anticipate bringing production on line until 2013-2014 at the earliest.

The technical picture for GMO is somewhat better than for TC. That is, while the sector is weak, GMO has not broken below its up trend. There is solid Fibonacci support intersecting the trend line at 4.00. It is outperforming its peers on a relative strength basis; and there is one factor in particular that has gotten our attention.

GMO's stock options have reasonably high implied volatility, whereas TC's option implied volatility is somewhat below average. This tends to create opportunities for trading the stock and its options while we wait for the company's solid prospects to unfold. By using covered calls and cash covered puts, we lend protection to the position in the event of a market sell off. We effectively lower our purchase entry point and position ourselves to repeat the process at lower prices if support doesn't hold. GMO is attractive in this sense because it trades options in 1.00 increments.

So this is the trade we like with GMO:

  • Buy one quarter position GMO stock at 4.25 or better;

  • Sell 1 December 4.00 put and 5.00 call for each 100 shares purchased for a combined 1.25 in premium.

This is how this may work out:

    1. GMO trades above 5.00 in mid-December and you make 2.00 on an investment of 8.25 as your stock gets called away. The annualized return is about 48%;

    2. GMO trades between 4.00 – 5.00 in mid-December, you keep your stock and pocket 1.25. This effectively lowers your entry point to 3.00 per share for the stock you continue to hold;

    3. GMO trades below 4.00 in mid-December and your stake in the shares is doubled at an effective average price of 3.50.

While we like outcome #2, we can also live with outcome #3 (as long as the shares don't simply collapse). Our plan would then be to re-evaluate the chart in conjunction with then existing option implied volatility and perhaps sell puts at lower strike prices to further reduce our average price per share and position us to accumulate more shares. There is significant Fibonacci and chart support at the 3.20 price level, so selling 3.00 puts would be a welcome idea. We consider this a high reward, reasonable risk trade in a stock that may have substantial long term potential.

We feel similarly about Thompson Creek Metals Company, and if it drifts down into the 7.50 – 8.50 range we may look to employ a similar strategy. There are many stocks and many investment choices. We find that having a plan and the patience to implement it with self-discipline is an important characteristic of successful investing.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in GMO over the next 72 hours.