Seagate Technology (NASDAQ:STX) is down 55% year over year:
While this now gives STX holders a wild dividend of 10%, it also drives fear into the hearts of investors grasping STX with hopes of a comeback. Buying into a stock that has a 10% yield at the outset is vastly different from watching a stock lose half its value yet pay the same dividends as before. Some are speculating that STX will even cut its dividend, halting its 13 consecutive years of dividend increases (barring a hiccup in 2009).
No matter what, the future of STX lies in whether its product becomes obsolete. For STX, the biggest threat is flash will overtake HDD. The transition is possibly already underway, as STX sales have dropped, with customers turning to alternative, flash storage methods.
The key triggers of choosing a storage medium relate to cost, speed, and storage. And much like finding the right mate, in this area it's a "choose two paradigm": "cheap," "fast," and "large." (For choosing a mate, of course, your choices are "attractive," "fun," and "sane.")
For HDD, you have large and cheap. For flash, you have fast and large. Flash is becoming increasingly cheaper, both in acquisition and in operation:
Naturally, a "best-of-all-worlds" solution will become a more popular solution. Being so, revenue from flash sales will quickly outpace that of HDD sales. This is already in progress:
STX has been hurt more by these facts than other companies with significant HDD exposure. Intel (NASDAQ:INTC), for instance, is barely down 3% Y/Y. In respect to its HDD business, STX sees itself at a crossroad: pivot or die.
Perhaps STX should bite the bullet, cut the dividend, and pivot to flash. I am not a business advisor. But I am an advisor on options, which can significantly reduce the downside risk for investors holding STX.
STX Synthetic Strangle:
Many investors have heard of a married put, which is purported to be a "risk minimizer." The problem with married puts is that they are fundamentally the same as long call options. Because options are additive and because a long position in STX is the equivalent of
- Buy STX call
- Sell STX put
…a married put is then:
- Buy STX call
- Sell STX put
- Buy STX put
The strike price of the bought put, if close enough to the stock price, essentially converts the above strategy to a call - the puts cancel. In other words, shareholders with married puts are still long on the stock, as they hold synthetic call options. But for a stock such as STX, with significant downside risk, a better strategy is a synthetic strangle:
- For every 50 shares of STX, buy 1 Jul 25 STX put.
So, for 1 lot of STX, you would buy 2 Jul 25 STX puts, essentially the same thing as a married put but with an extra put bought. This drastically changes your position's profile, and gives you a more neutral position.
By holding the stock, you gain the 10% dividend yield. But with the synthetic strangle, you also gain unlimited profit on the upside as well as the downside (essentially a short position):
Depending on where you put the strike price of the bought puts, you could be more positioned for a move in either direction. In the above option strategy, we are better positioned for an upside move. We also profit purely from volatility increases.
Thus, in total, this strategy gives us four ways to profit:
- Bull rally
- Bear rally
- Volatility rush
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