I would not advocate a "short" position in Tesla (NASDAQ:TSLA) as the company has the potential for an explosive upside - primarily because of the large short position in Tesla. Although short sellers typically do far more homework than other investors and initiate a short position for extremely solid reasons, even a temporary short-covering rally could get ugly. For less risk-averse investors who are exploring Tesla and think that it might be "out over its skis a wee bit," there are at least six risk premium drives that explain why Tesla put options look dramatically undervalued relative to the risks.
It is likely that there will be other issues that surface [if only because Tesla is a brand new company doing things that are almost impossible and it is an inherently speculative stock issue]. The reports of how Tesla Roadsters must be plugged in or they turn into "bricks" OR the charges that Tesla tries to smear whistleblowers OR the news that independent testing by the Top Gun track showed that a Tesla Roadster has a range of only 55 miles are hardly the only challenges that the company faces. In a nutshell, investing in either Tesla stock or in a Telsa automobile is much more risky than a respective investment in another automobile manufacturer.
Risk #1: Investors do not seem to be adequately factoring in an automotive OEM risk penalty for Tesla. Even near misses of any car crash affecting hundreds of people have a bigger impact on market capitalization than software crashes affecting billions. Consider for example: Toyota 2009-2010, Audi 1982-1987.
Risk #2: Tesla in 2012 is much like Ballard Power (NASDAQ:BLDP) in 2000 - naive investors have dramatically over-valued the potential consulting and engineering franchise of Tesla; this sort of asset is extremely tough to reliably, repeatedly turn into cash. It is an asset that should be valued at millions of dollars, not billions.
Risk #3: Tesla Roadsters have a major design flaw; they become "bricks" because of the parasitic load driven by poor wiring, bad connections, low-level power consumption. It's not exactly a secret but like other negative news about Tesla, it is news that is ignored and not covered by media in full swoon over EVs. As the Technical Service Bulletins reported on the Federal government's NHTSA.gov website indicate, Tesla is not yet on top of all its wiring and connection issues -- this is for a Roadster that's basically not used that much, typically a collector's car. Simple connection and wiring issues will have a huge bearing on the safety and reliability of EVs.
Risk #4: For a 2013 launch, tooling debug, buyoff and validation should much be further along for stampings, welds and assembly processes. The future promises by Tesla of above average margins are unrealistic, especially given its worse-than-expected earnings and expanding negative margins. Tesla's track record in production vehicles is questionable.
Risk #5: Any exodus of key engineers at different levels, different times at this stage of a risky launch is profoundly troubling. "Team ownership," technical passion and specific engineering expertise are far too valuable in a venture of this nature. Examples of key individuals include, Martin Eberhard, Tesla co-founder; Peter Rawlinson, vice president and chief engineer; Nick Sampson, engineer responsible for vehicle and chassis engineering.
Risk #6: The advance of Tesla stock and electric vehicles will be difficult and prolonged, more uncertain and more volatile than most people expect. The market is pricing in a rosy scenario where everything just falls into place. Implied volatility in put options is lower than the historical average for Tesla, but even those levels were far too optimistic. The volatility in similar companies throughout history has been a roller-coaster.
ALL companies have flaws. How a company deals with its flaws determines how successful it will ultimately become. Tesla has already made many valuable contributions to automotive history; time will tell whether Tesla surmounts the obstacles in front of it and becomes another company like Toyota (NYSE:TM) OR if it becomes a smaller, more focused company like Ballard OR it disappears entirely.
The risk premium in Tesla options is not sufficient given the risks faced by this company. One thing is certain -- the road ahead will be rougher than the one envisioned by many of the company's current investors; volatility [as measured by the price of Tesla options] is cheap relative to roughness of the road ahead.
The basic gist of the trading strategy that I am advocating (using puts and potentially adding long positions in stock to create synthetic calls) is that an investor should expect Tesla to advance and decline in an extremely volatile fashion in a manner similar to other risky, paradigm-shattering companies in the past. Given the risks, volatility is cheap right now.
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in TSLA over the next 72 hours.