In searching for stocks with insider bullishness and high potential growth, I used Fidelity's stock screener to pull up a list of stocks with insider buying and five-year projected earnings growth rates of 30% or higher. At the highest end of this screen were companies such as Ion Geophysical Corporation (NYSE:IO), and Neurocrine Biosciences (NASDAQ:NBIX) (with five-year projected growth rates of 82% and 69%, respectively) but those stocks were too expensive to hedge using a 20% decline threshold. So I focused on stocks with projected growth rates closer to 30%. The table below lists 10 stocks from the lower end of this screen, with projected growth rates ranging from 37% to 31%, along with the costs of hedging them against greater-than-20% declines over the next several months, using optimal puts.
For comparison purposes, I've also included the cost of hedging the SPDR Dow Jones Industrial Average ETF, (NYSEARCA:DIA). First, a reminder about what optimal puts are, and why I've used 20% as a decline threshold. Then, a screen capture showing the current optimal puts to hedge one of the stocks listed below, IAC/InterActiveCorp (NASDAQ:IACI).
About Optimal Puts
Optimal puts are the ones that will give you the level of protection you want at the lowest possible cost. Portfolio Armor uses an algorithm developed by a finance Ph.D. to sort through and analyze all of the available puts for your position, scanning for the optimal ones.
In this context, "threshold" refers to the maximum decline you are willing to risk in the value of your position in a security. You can enter any percentage you like for a decline threshold when scanning for optimal puts (the higher the percentage though, the greater the chance you will find optimal puts for your position). I have used 20% thresholds for each of the securities below. Essentially, 20% is a large enough threshold that it reduces the cost of hedging, but not so large that it precludes a recovery.
The Optimal Puts For IACI
Below is a screen capture showing the optimal put option contract to buy to hedge 100 shares of IACI against a greater-than-20% drop between now and April 20, 2012. A note about these optimal put options and their cost: To be conservative, Portfolio Armor calculated the cost based on the ask price of the optimal puts. In practice an investor can often purchase puts for a lower price, i.e., some price between the bid and the ask.
Why There Were No Optimal Contracts For CRZO
In some cases, the cost of protection may be greater than the loss you are looking to hedge against. That was the case with Carizo Oil & Gas Inc. (NASDAQ:CRZO). On Monday, the cost of protecting it against a greater-than-20% decline over the next several months was itself greater than 20%. Because of that, Portfolio Armor indicated that no optimal contracts were found for it.
Hedging Costs As Of Monday's Close
The hedging data in the table below is as of Monday's close, and is presented as a percentage of position value. Excluding the ETF DIA, which is listed at the bottom for comparison purposes, the stocks above it are listed in descending order of their five-year projected earnings growth rates.
|5 Yr Projected Growth rate|| |
|(NYSE:COG)||Cabot Oil & Gas||34%||9.15%*|
|(CRZO)||Carizo Oil & Gas Inc.||34%||No Optimal Contracts|
|(NYSE:AL)||Air Lease Corp.||33%||12.1%**|
*Based on optimal puts expiring in April, 2012.
**Based on optimal puts expiring in May, 2012.
***Based on optimal puts expiring in June, 2012.
Additional disclosure: I am long puts on DIA.