Wednesday's Options Report: SLE, T, HPQ, CROX, KFN, BRCD, ONXX, KEY, XLF

Rebecca Engmann Darst co-authored this article.

(SLE) – This morning’s news of a sharp acceleration in consumer prices in the month of January comes as no great revelation to followers of food stocks, which have been suffering under the weight of egregious grain and other commodity input prices. Evidence of this concern most recently came to light for us late last week, when we saw sharp increase in option trading volume with a skew to defensive put buying in both Dean Foods and Heinz – the latter company promptly taking the offensive in giving robust earnings guidance for 2008 (shares in both companies are down today). This time the bell tolled for Sara Lee, the maker of an eponymous line of bakery products as well as Jimmy Dean, Hilshire and Ball Park meat brands, set a fresh 52-week low to $13.09. The loss extended a 19% decline for Sara Lee shares for the year-to-date, and touched off an acceleration in option trading volume to 9.5 times the normal level. This was firmly localized in fresh put-buying at the July 12.50 strike, where traders paid 65 cents for the right to protect against continued share price erosion below the 52-week low. The position first generates profit for the buyer with a 9% drop below Sara Lee’s prior 52-week low of $13.12.

(T) – Shares in telecom giant AT&T recorded a 7% decline to $33.33 this morning following the announcement of unlimited flat-rate calling plans for its cell phone customers. The news fueled speculation that these plans will plunge AT&T into a bitter price war and encourage more consumers to replace their landline telephones with cell phone plans. Unease over the implications for AT&T’s share price resonated in the company’s option implied volatility reading, whise rose 16.5% to 36.5% overnight. In option trading, some 56,000 contracts traded in the first 2 hours of the market, with heavy profit-taking in March 32.50 puts which gained more than 200% in value overnight despite still being out of the money. Traders appeared willing to buy calls, meanwhile, at the March 37.50 strike.

(HPQ) – Last night’s 38% surge in Q4 profits at Hewlett Packard sent shares sharply higher in extended trading, and the 7.3% higher open this morning to $47.17 is consistent with the price swing predicted by the at-the-money straddle yesterday. Indeed, just hours before the release of its earnings yesterday afternoon, the March 45 straddle was selling for about $3.15 – today the same position costs $4.00 even, generating a 26% profit margin for a trader choosing to cash out today. March call prices in Hewlett-Packard doubled overnight, inciting a wave of premium selling in front-month calls and puts. Clearly, however, the post-earnings euphoria has brought out some contrarian fake-out plays, given the degree of fresh selling we observed in April 52.50 calls. Some 5,000 lots were freshly shorted at this strike, with the speculative trader accepting the 50-cent premium in anticipation of a comedown in upside momentum heading into the spring that will leave these calls unexercised. Hewlett-Packard shares have traded as high as $53.40 over the past 52 weeks.

(CROX) –Shares in Crocs, the maker of pliable, colorful novelty shoes, fell 14% to $27.53 this morning, after the company’s profit guidance for 2008 fell short of street estimates. The shortfall in projected profits preponderated in the minds of investors over Crocs’ near-doubling in Q4 revenue and international sales that more than tripled. Option traders responded by sending trading volume to more than twice the normal level. While nearly 2.4 calls are trading for every put today, the mood is hardly contrarian, as we see front-much calls selling off heavily despite sharply lower premiums. This is especially true in the case of the March 35 calls, where open interest doubled this week in anticipation of solid Q4 numbers, but where today’s volume shows a mass unwinding of positions for 55 cents apiece – down 84% from yesterday. Call selling was also noted at strikes 34 and 36. Crocs’ shares are down 24.8% for the year to date, and today’s reaction on the part of option traders to last night’s profit forecast may be the mass acknowledgement of nagging concerns that the fad footwear’s time on the hit parade may grind to a halt in 2008.

(KFN) – Earlier today it emerged that KKR Financial Holdings – better known as the holding company behind the powerful private equity firm Kohlberg Kravis Roberts – is delaying the repayment of some asset-backed commercial debt and is seeking to restructure talks with creditors on an $18 billion credit fund. The news led shares in KKR Financial Holdings 1.7% lower to $14.28 and sent implied volatility more than 54% higher to 55%. Sensing ominousness in the announcement, traders bought heavily into March 12.50 puts for 35 cents apiece in anticipation of further share declines. The activity here was enough to send overall option volume to nearly 9 times the normal level.

(BRCD) – Shares in Brocade Communications are .90% lower this morning at $7.75, having enjoyed a recent tear that began Friday when the data-systems provider reiterated its profit and earnings guidance for 2008 thanks to technical support and maintenance sales. With call-side premiums coming off slightly today on back on muted share price action, it looks like traders spotted a bargain in April 8.0 calls, which were bought heavily at 40 cents apiece. Today’s 20,000-plus volume at this strike compares with open interest of less than 2,000 heading into today, and shows the market confident of continued share price appreciation heading into April – indeed, traders already hold twice as many call positions as puts in Brocade.

(ONXX) –Shares in Onyx Pharmaceuticals fell sharply yesterday after the Q4 results missed street expectations, and the company announced the halt of late-stage clinical trials in its lung cancer drug Nexavar. Tests of the drug, which was co-deveveloped with Bayer AG, were pulled because the compound failed to improve survival rates in clinical trial patients. Further adding to the uncertainty for Onyx was its concession Tuesday that it is not yet able to offer earnings guidance for 2008 due to market uncertainty. Given the clouded outlook, we’re less surprised to see options trading at 2.6 times the normal level than to see where much of this volume is located – namely in fresh buying and selling in out-of-the-money calls at the March 35 strike, and again at the same strike in May. The 60-cent price of the March 35 call reflects a less-than-1-in-4 chance that Onyx can recover past the $35 by March 20. Interestingly, open interest in Onyx Pharmaceuticals shows twice as many bearish put positions open as calls, making today’s positioning especially intriguing.

(KEY) - An analyst downgrade of regional bank KeyCorp, which provides consumer and corporate banking services and credit to customers in the Midwest United States, sent shares 3.6% lower this morning to $22.83. The downgrade, which came out of RBC Capital Markets, indicated that KeyCorp’s exposure to commercial real estate mortgage loans would leave the company vulnerable to further write-downs throughout 2008. KeyCorp’s share price has already been through the proverbial wringer – a fact apparent in its near-71% historic volatility reading – and the current share price, which is valued at 10 times its earnings, is just a 9% premium on its 52-week low. The largely bearish outlook among option investors is unfolding in what may be reverse collar activity – that’s a short put, long call – involving the March 20 put for 50 cents and 27.50 call for 15 cents. A trader in this case would be using the combination to hedge against an underlying short position in KeyCorp stock. Fresh selling continued into the April contract at the 25 call strike, where it looks as though the trader is comfortable accepting a 65-cent premium in the confidence that KeyCorp shares aren’t going to recover to the $25 mark over the next 2 months.

(XLF) – Financial Select Sector SPDR – Shares in the financial sector ETF are .71% higher at $26.60, and the 145,000-plus option trading by 11:30 indicate nearly twice as many puts trading as calls. Interestingly, much of this appears tied up in heavy buying in March 24 puts, which are valued at 44 cents today. A buyer of this position is looking for a 2% drop below the XLF’s incumbent 52-week low to generate profitability. While the market currently sees a less than 1-in-5 chance of this happening, the buyer may be paying more attention to the as-yet-fruitless quest to bail out bond insurers amid news that activist investor William Ackman “called the companies’ bluff” – as CNBC put it today – by leaking data showing that the bond insurers face north of $12 billion in potential writedowns due to CDO exposure.