I have written several articles in the past few months about Research In Motion (RIMM) and one thing remains clear: Put options are overpriced. Here is a list of RIM articles I have written.
Looking at the December monthly series, I see pricing across the board in a large move downward. All things being equal, puts should trade at a slight discount to calls due to the limited earnings potential. In the case of RIMM, not only are the puts trading at a premium to the theoretical pricing I would expect, but are trading at a premium to the calls. I have not examined the numbers along with the tape to see how much arbitrating is going on, but it appears on a preliminary view, the put and call options are right on the edge, increasing my belief an opportunity is available.
Before I would jump into selling (or buying) options for time premium, I have to be comfortable holding the position in case of exercise. There is no reason to get excited to sell volatility for $0.50 only to get hit with a loss of $3 due to a stop out. If a stock is worth holding even after getting exercised, it makes for a much better investment.
RIM has been hit from all sides this year. After several product disappointments and investor frustration over management, RIM shares are trading near multi year lows. For a profitable technology company, RIM is likely to be the most discounted enterprise anywhere near its value. With a market cap of over $9 billion, and a cash treasure chest of over $1 billion, you could be forgiven for believing RIM is bleeding money. The opposite is true. RIM is relative to the stock price making lots of money. The big fear of course is the direction the company is headed. The forward PE is under 4.5 and the trailing is under 4. The yearly revenue and profit charts look pretty horrible, however. Both revenue and bottom line charts are moving from the upper right to the lower left, and taking the stock price chart with them.
While it is true RIM is facing these challenges, it is only part of the equation. Regardless of the situation, every stock has a value (removing bankruptcies of course), and our job as investors is to determine if other investors are under or over valuing any given company. The next step for option writers is to determine if other investors are under or over valuing the put and call options available to the stock at hand.
I submit to you RIM puts are overpriced relative to the risk. Given the bad news that has recently pounded investors endlessly, RIM is demonstrating what appears to be a stock in very strong hands. After bouncing off of $16 a share a few trading days ago, RIM is once again trading over $18 a share. At the same time puts are trading above the theoretical value.
This leads me to believe one or more likely both of two likely major price influencers are occurring. First, investors who are not about to sell their shares are protecting against downside moves, and secondly, retail put buyers are buying up puts looking for more downside in RIM. Both groups are bullish for the stock and more importantly to us, are creating an opportunity.
I am willing to buy RIM for $15 a share and currently the premium I can collect is about $0.30 for a December 16 $15 put option (RIM also trades weekly’s). If exercised, I would have a cost basis of about $14.70 per share and could then turn around and sell the $15 call options. As long as RIM stays above $15 at the close of December the 16, I pocket about 2% relative to my risk. I could also buy the $10 puts for $0.02 and limit my loss to $4.72 if RIM would happen to implode in the next three weeks.
RIM also appears to be a value based on recent rumors of talks with Microsoft (NASDAQ:MSFT). Flyonthewall.com posted takeover chatter today that may or may not have validity but the concept remains the same. At some point, RIM is a takeover target, and the some point appears to be drawing near. Microsoft has demonstrated a recent willingness to purchase large companies such as Skype and it would not be a stretch to imagine Microsoft wanting to add the intellectual property rights along with the operation. As long as Microsoft remains aggressive in market share competition with Google (NASDAQ:GOOG), RIM is certainly in play at or near the current valuation.
If Google decides to buy RIM, it would help seal a market dominant position for the foreseeable future. Google has bought other intellectual property from companies like Motorola (NYSE:MMI) and others. There is no reason to believe RIM investors will have to worry about the stock moving to zero anytime soon. If you looking to buy RIM anyway, take a look at selling volatility as your portfolio will likely thank you for it.
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in RIMM over the next 72 hours.
Additional disclosure: I may initiate a short position in RIMM Dec put options within the next 72 hours.