Is Dick's Susceptible To The Housing Crisis After All?

In this week's Barron's magazine, Dick's Sporting Goods, Inc. (DKS) was a featured company in the column The Striking Price.

It's possible to trade against Smith & Wesson (SWHC), Ruger (RGR) or Cabela's (CAB) by selling calls to bet their stocks won't bounce higher, or by buying puts to bet the shares will decline, but a better trade may involve Dick's Sporting Good. The broad-based retailer hasn't been associated with a spillover effect from the hunting slowdown, although its implied-volatility levels are unusually high.

The 30% difference between one-month historical and implied volatility on Dick's options indicates significant concern ahead of its Nov. 19 earnings announcement. The spread represents an extreme pricing dispersion that has happened only one other time in the past three years, and then quickly adjusted. Implied volatility, meanwhile, is also extremely high in Merrill Lynch's Retail HOLDRS Trust (RTH), which many traders view as a sector proxy.

Sveinn Palsson, Credit Suisse's derivatives strategist, graciously modeled a Dick's trade for us that costs nothing to implement and has a potential 15% return in six weeks. The risk is that Dick's stock, already up 36% this year, continues to advance.

Note: I added links to the companies' websites.

Although Stephen M. Sears, the author of the article, does not mention housing specifically, he does reference a consumer spending slowdown. My assumption is that most—certainly a substantial portion—of the consumer spending slowdown is related to housing. Higher energy prices too might be having an effect. Housing, however, is likely the larger culprit.

According to the most recent conference call transcript (courtesy of Seeking Alpha), Dick's Sporting Goods had not been adversely affected the housing fallout.

Michael Keara - Merrill Lynch

Certainly in contrast to a lot of other names.. I know you guys aim at a much different demographic and most of your core stores are located in what are probably considered not... probably not located in what are considered bad housing markets. But have you seen any signs of weakness in demand, say like in the Detroit area which is probably considered a tough housing market?

Edward W. Stack - Chairman and Chief Executive Officer

We really haven't. I mean no that... and we have talked about this before. We are going to travel in a narrower band in the economy as a whole.

Michael Keara - Merrill Lynch

Right.

Edward W. Stack - Chairman and Chief Executive Officer

And so these athletes... young athletes and high school athletes are... they are going to be playing baseball, they are going to be playing soccer, football, etc., and where we have been fortunate to be the destination of choice. We worked very hard at that and the housing market really has not impacted our business with these athletes.

I am curious to see if Dick's position remains the same when it announces its earnings on November 19. My guess is that housing will not have played a strong role because its stores are largely outside the most affected areas. The other companies are more mature in that they cover more of the U.S. than does Dick's. Thus, I am not sure that one can look at the other mentioned companies and automatically transfer the same weakness onto Dicks. That said, we are still learning the true severity of the housing weakness.

With regard to the actual options strategy outlined by Sveinn Palsson, I will look to Adam Warner over at Daily Options Report for his analysis. He usually covers the Striking Price column on Mondays.

Disclosure: I am long stock in Dick's Sporting Goods.

DKS 1-yr chart: