Tuesday's Options Report: PSS, LM, MLM, CSCO, YHOO, BID, EP, KB

Collective Brands (PSS) - Shares in the Topeka-based parent of Payless ShoeSource tanked 16% to $10.32, a new 52-week low, after losing a $305 million federal court ruling that found the discount shoe franchise violated copyrighted designs owned by Adidas Group (ADDYY.PK). While Collective Brands has vowed to pursue all avenues of appeal, implied volatility in its options rose more than 20% to 81.7%, suggesting particular vulnerability for its shares over the next month. The volume we observed early on in June 17.50 calls seems likely to be the closing purchase of existing short positions, as the value of these contracts has dwindled to practically naught. Elsewhere, option traders were all about 7.50 puts in the September and December contracts, where these positions were bought heavily. A 5,000-lot position in the January contract in 10 puts and 17.50 calls may be a strangle or collar to protect an underlying share position. Overall its options are trading at some 9 times the normal level.

Legg Mason (LM) – Option traders took cold comfort in Legg Mason’s first-ever quarterly loss since its IPO, on news that the company was compelled to funnel $255 million into money-market funds heavily exposed to subprime-related debt. With shares already down 5.4% to $59.36, the 39.6% implied volatility reading on all Legg Mason options shows a continued elevation above the 34.8% historic reading. With options trading at 3.4 times the normal level, we’re seeing a brisk two-way traffic in June 65 calls, but heavy buying in deep-out-of-the-money January 40 puts at $1.50 apiece – traders buying freshly into this position despite the fact that option traders currently ascribe barely a 1% chance of the position landing profitably.

Martin Marietta Materials (MLM) – In a reprise of the increasingly familiar refrain of high implied volatility – even post-earnings release – we find options in Martin Marietta, the country’s second-largest U.S. supplier of construction aggregates such as crushed stone, sand and gravel. The company has, predictably, been a collateral casualty of the homebuilding doldrums, and its 37% drop in Q1 earnings was attributed to the continued slowdown in groundbreaking. Despite the report, shares read 1.5% higher at $113.73 heading into the noon hour. Our scanners picked up a 7-fold increase in option trading volume occurring as implied volatility remains virtually unchanged from pre-report levels – the present 41% reading shows an 18% elevation above the historic reading. This translates into higher premiums as the cost for locking in prices on a stock with potential for greater-than-usual volatility increases. Two spots on the option calendar showed an unusual level of volume today, first the May 105 puts, and again at the June 110 calls, which traded to the middle of the market at $8.70.

We’re not sure if this is long positioning in anticipation of Martin Marietta shares continuing to shrug off the construction slowdown and build upon May price levels above $110 – although the price of the position itself would require a test of the $120 level not seen since January - or traders selling those calls (an eminently risky strategy) to take advantage of unusually high premiums given the implied volatility reading. It should be noted that option traders hold twice as many call positions as puts in Martin Marietta.

Cisco (CSCO) - After-the-bell numbers from the maker of networking hardware will be painstakingly sifted through for clues to the tech sector outlook. With shares down 1.3% at $25.93, Cisco’s front-month options have pared back price move expectations since Friday. Where the closest-to-the-money strikes were predicting as much as a 9% up-or-down move as of Friday, today’s options show only about a 6% likely move, and early market action showed many traders crowding into May 26 calls for 85 cents apiece (a 22% discount from yesterday’s levels) while relatively more puts at the May 25 strike sold. Put spreads may have been deployed at strikes 24 and 26 owing to comparable volumes at those strikes.

Yahoo (YHOO) – Today’s 5.3% gain for Yahoo shares to $25.83 seems hardly the plaudit for its tenacious refusal to succumb to Microsoft’s buyout overtures that the company’s management is keen to depict. The company has entered a new phase of the corporate potboiler, in which speculation has turned to whether activist hedge-fund shareholders may vote out the entire Yahoo board, file suit for the company’s failure to observe its fiduciary responsibility to investors, or even demand the head of Jerry Yang. All these factors contributed to sending implied volatility another 10% higher to the 60% mark this morning. While 3 times as many calls are trading as puts this morning, we note that most of the traffic is in May calls at strikes 25-30, all strikes with massive existing open interest, where volume has been two-way all the way.

Sotheby's (BID) – The market has, if not relished, then at least found it irresistibly easy to knock on shares of Sotheby’s in recent months. Given a worldwide crisis in credit markets, languishing real estate prices, fears of recession, and genuine concern about the willingness of the well-heeled to shell out for big ticket items, it stands to reason that shares in the venerable auction house would be left to face the firing range with other ultra-specialized, cyclical companies as the rest of the market ducked for cover. Shares have barely come off a cataclysmic decline last autumn and now at $27.55 they’re trading 1% below yesterday’s close and just $4 above the low of last fall. But some option traders may be ready to take a chance on Sotheby’s, which not only reports earnings on Friday, but this week will drop the hammer on its much-vaunted sale in New York of Impressionist and Modern Art pieces. This may explain the near-13-fold increase our scanner detected in Sotheby’s options as implied volatility shows traders pricing in a third more risk over the next 30 days than is already apparent in Sotheby’s chart. With calls outmoving puts by 5 to 1, many traders feel the risk at last is worth running to the upside on Sotheby’s – at least as evidenced by the keen buying interest we observed in May 30 calls, bought today for around 70 cents apiece. Breakeven on this position would imply a test of the $31 level last seen in Sotheby’s in March.

Kookmin Bank (KB) – American depositary receipts in South Korea’s largest bank, Kookmin Bank, extended Asian session declines with a 4% slide to $66.50. The bank was hit by a pair of ratings downgrades by the likes of UBS and Morgan Stanley following a 47% decline in reported Q1 net income. Our “hot by option volume” scanner detected an unusual pickup in trading volume. While the 4,662 lots trading actively today are modest in absolute terms, today’s volume must be considered in light of the fact that there were just 4,766 open option options in Kookmin Bank heading into today. It looks today as though some traders are striking a contrarian pose on the downgrades using short put spreads in the June contract to express a bullish view. If this is so, the traders are buying June 60 puts at $1.10 against the sale of 65 puts for $2.00, taking a $0.90 credit on the transaction that yields maximum profit for the buyer if the spread between the premiums narrows as Kookmin’s share price rises and both contracts expire worthless.

El Paso Corp. (EP) – Option activity in El Paso Corp., the owner of the country’s largest network of natural gas pipelines, continued at a frenzied clip today as shares tacked on a 2% gain to $18.16. Yesterday the company announced the discovery of oil on an offshore field near the coast of Brazil, and with earnings due out on Thursday to boot, the market has kept El Paso’s share price buoyed near the 52-week high as a result. With calls outmoving puts by 13 to 1 today it may be safely said that consensus favors further upside, and the 21% elevation in implied volatility above the historic reading suggests plenty of steam to move. Heavy buying on volume of more than 22,000 lots was noted today in June 19 calls at 55-60 cents apiece. Open interest at this strike numbered no more than 784 contracts prior to today.

Rebecca Engmann Darst contributed to this report.