A Safe Options Play For Oversold Safeway

| About: Safeway Inc. (SWY)

Safeway Inc. (NYSE:SWY) together with its subsidiaries, operates as a food and drug retailer in North America. The company was founded in 1915 and is based in Pleasanton, California. Like many companies in the market recently, Safeway has been thrown out like old produce. While the company does have several issues that I will address, I believe the recent sell off in the stock is overdone and creates a buying opportunity.

Recently, Safeway reaffirmed 2011 earnings per share guidance, and more importantly, same store sales are expected to be at least flat to possibly 1% higher. Even with the updated guidance, Safeway has dropped more than 15% in the last month. As a result of the rather steep drop in price, the option premiums have moved higher. Currently, the September 17 put options can be sold for $0.50, the 16s can be sold for $0.20. I reviewed the October contracts, but there simply is not enough volume in the back months for me.

The short interest is currently just over 10%, which is the upper end of my comfort zone. The plus side to having a sizable short interest is that they have to cover at some point. The uncomfortable part of the short interest at this level is it demonstrates a lot of "smart money" believes the price is going lower. So far the shorts have been correct, but the data is old, with a reporting date of July 29th. Shorts may be looking at this price level to cover as the returns on the trade continue to shrink as the price goes down. The shorts guided by technical analysis certainly will be, as they look at the same chart I am.

Getting exercised with a strike price of $17 gives me an average entry price of $16.50. With the current dividend, the yield would be very attractive at just above 3.5%. Even so, Safeway trades at a beta of 0.74, meaning the price is generally more stable than the overall market. This is a good combination to write puts with.

Comparing to the S&P 500 price changes, the price performances are -3.56% vs. the S&P 500 from a month ago, and year to date difference is -17.20% vs. the S&P 500 price change.

The revenue grew in the last fiscal quarter by $200 million, to $41.05 billion for 2010. A review of the bottom line shows a beat in the last five quarters.

Click to enlarge

Click to enlarge

Safeway is obviously not in favor currently, and that should be used by investors to exploit the profit potential. If people are willing to sell their shares for so little, or buy options for this much, it may be time to take the other side of the trade. I will be looking to short the $17 September put options for $0.50.

I use a proprietary blend of technical analysis, financial crowd behavior, and fundamentals in my trades. You may want to use this article as a starting point of your own research with your financial planner. Seeking Alpha, Edgar Online, Google Finance, MSN Money, CNBC, Zacks and Yahoo Finance provides most of my data.

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