Wednesday's Options Report: Apple, XLF, Citi, MER, IYR, WLP, CCK

Rebecca Engmann Darst co-authored this article.

(AAPL) – Yesterday’s earnings miss and an ominous ’08 forecast is battering Apple shares, down 17.7% at $128.05 this afternoon as the market continues to work out its frustrations by slicing some of the lard from its share price. With more than 457,000 options in play in the early hours of trading, Apple is one of the most liquid option families on our platform. Today’s most actively traded contract was the April 120 put, which was heavily bought on volume of some 19,500 lots. The $9.65 premium today is 155% more expensive than it was yesterday, and reflects a slightly better than 1-in-3 chance that Apple shares will continue their decline from current levels into April. A buyer of this position needs a test of $110 before generating a profit – another 13% off current levels. Interestingly, the densest positions in Apple options according to total open interest are these defensive April puts, notably these at strikes of 135 and 125, both profoundly out-of-the-money until quite recently. Front-month activity showed fresh action in February 140 calls, which traded to buyers and sellers at nearly 2 times the open interest.

(XLF) –Financial Select Sector SPDR - A wave of bargain hunters sent financial issues tearing up the carpet today, with even the likes of Citigroup basking in a 3.5% gain (more on that below). Shares in the financial sector ETF are 2% higher at $26.57. With 385,000 options trading as of the noon hour, we observed traders looking to traffic calls 1.4 times as often as puts. Much of this appeared be profit-taking in February calls – possibly an extension of the “sell rallies” mantra - on huge volumes going through in February calls. Calls at the February 29 strike traded more than 50,000 times this morning, as traders pocketed the 44-cent premium on the position to play against the 1-in-4 chance that the XLF can pull above 29 by February’s expiration. Calls at the 27 and 28 strikes also sold heavily to the bid. Heavy traffic also appeared in June puts at strikes 24, 27 and 30, which also sold off heavily.

(C) – While call sellers found their carpe diem moment in the XLF, market ne’er-do-well Citigroup eked out a 3.4% gain to $25.23, and with more than 103,000 options trading, did manage to attract a contingent of call buyers. This occurred in the February contract at strikes of 25 and 27.50. Open interest at that lower strike has swelled in recent sessions, from 6,770 contracts just 5 days ago, increasing more than 7-fold to 52,000 positions. Implied volatility in Citigroup shares, meanwhile, has pulled back appreciably, and at 51% shows option traders actually expecting about 9% less turmoil from Citi shares than they have already weathered.

(MER) – Shares in Merrill Lynch have recovered to pre-earnings levels, currently showing a 1% gain on the session to $55.00. The relative non-event in its share price follows a steeplechase week for Merrill that saw an 8% drop on back of its outsized writedown and swift retracement on weird rumors pairing it with JPMorgan Chase in a possible takeover scenario. With more than 34,000 options trading, Merrill Lynch is one of the most active tickers on our platform this morning, with options trading 1.3 times as often to puts as to calls. A look at implied volatility shows the same gap below the historic reading that we outlined in Citigroup, with option prices currently reflecting a market expecting about 14% less volatility from the likes of Merrill than it has already shown. This lower volatility environment makes it cheaper to buy volatility outright for those who believe that Merrill Lynch still has a trick or two in store before the February option period is through. Call buying at the February 55 strike, combined with buying in the same month’s puts at strikes of 55 and 50 would support that view. The 55 straddle, for example, costs $5.90, or 10% of the current share price, and would generate profit for the buyer in the event of a break above $60.90 or below $49.10.

(IYR) – This morning’s Merrill Lynch forecast of a further 25-30% decline in U.S. house prices over the next 3 years didn’t seem to dent immediate sentiment in the iShares Dow Jones U.S. Real Estate index. This ETF, whose components include shopping mall giant Simon Property Group, commercial real estate manager Vornado Realty Trust, apartment rentals company Equity Residential, and Host Hotels and Resorts, gained 2% this morning to trade at $62.38. With nearly 25,000 active options representing roughly 1 of every 10 open positions in play, the IYR rates among the top-25 most actively traded option families on our platform. Traders appeared to seek fresh short positions in February calls at strikes 65 and 66. Given the tendency to sell puts in the same contract at strikes of 54, 58, 59 and 60, we may surmise that some of the volume may indicate strangle selling, in anticipation of rangebound near-term price action in a stock that has traded as low as $56.80 and as high as $94.97 over the past 52 weeks.

(WLP) – WellPoint Inc. – Options in WellPoint, the health care benefits provider for some 34 million Americans, are trading at nearly 4 times the average volume this afternoon. Shares are down 4.7% to $75.10, this after the company reported a 7.2% rise in Q4 net earnings, still falling short of street estimates, and downscaled its year-end revenue and subscription guidance for ’08. Interestingly, WellPoint posted its standing 52-week high of $90 barely 2 weeks ago, but is now trading just $1.66 above its 52-week low. Perhaps sensing that the company is in some sense oversold, it appears that traders are selling puts at the February 75 strike, taking advantage of the 70% increase in premiums, while calls at the 80 strike have been mostly bought for a quarter apiece. Open interest heading into this earnings announcement was largely defensive, however, with more than twice as many open put positions as calls.

(CCK) –Crown Holdings Inc – A 3.3% decline in shares of this soda-pop can maker to $20.65 (a new 52-week low) has option traders seeking quick protection from further declines, as evidenced by fresh buying in February 20 puts. This position, which at $1 is 66% more expensive than it was yesterday, generates profit for the buyer once shares dip below $19. Implied volatility at 55.3% is sharply elevated above the 37.1% historic reading, and shows traders looking for nearly 50% more turmoil from its share price than it has documented historically.