A sound options trading idea always begins with a sound analyses of the underlying security or stock. Whether you like or dislike a particular stock you can devise many fun ways of constructing an options trade. Weight Watchers International (NYSE:WTW) is one particular stock that always appears on my radar screen especially in the weeks prior to its Earnings Release Date. During this time the implied options volatility (IV) rises or even spikes, lifting premiums on WTW options . The trader in me typically, has me screening such options for a short-term trade. However, WTW has recently attracted the investor in me. Even as an investor I like to deploy options; I would simply use a different options strategy.
I like Weight Watchers from the long side for the following reasons: Shares currently trade at 11.5 times forward earnings, the stock pays a 1.3% yield, shares are off 30% from March levels, and more importantly, obesity of Americans will keep Weight Watchers International busy going forward.
More than one third of adult Americans are obese and more than two thirds are overweight. And there has been a wave, so to speak, on the general awareness of the issue, whether it be raising taxes on sugary drinks or posting the amount of calories per serving at respective eateries. I feel that the only solution to losing weight is good old-fashioned discipline of moderating food intake and exercise. Weight Watchers operates on this premise-moderation of food consumption supported by attendance of group meetings and tracking food intake with a food point system. A simple concept I can understand and be able to explain. Having said that I am positive on the outlook for the stock.
As an investor, I normally prefer to just outright purchase the stock. However, sometimes in lieu of buying the stock I would also consider shorting puts especially if the puts are priced dear which is what happens to WTW options just prior to an earnings release date. The earnings are scheduled to be released anytime from November 5 to November 9. As such, the WTW Options Chain currently reflects an increased options implied volatility for all options encompassing the earnings date. The October Options, for example, are trading at a cheaper implied volatility, as the October Options would expire prior to the Earnings Release Date.
Lets look at a couple of put candidates to consider shorting. I chose the 50 Strike; it is approximately 11% out-of-the money as the stock closed at 55.00. (Prices used in this example are based on the close of Monday, September 17th)
|Expiration Month||50 Put Strike||Implied Option Vol%|
The January 50 Puts and April 50 Puts are clearly trading at a higher Implied Volatility as that of October Options, albeit, a small percentage increase. However, as we approach the Earnings Release Date the spread between these option volatilities should continue to widen.
Now the choice is to decide which put to sell the January 50 Put or the April 50 Put. The January Puts have 122 days of life versus the April 50 put which has 213 days of life. Although $5 is certainly more than $3.30, an investor would have to wait almost twice as many days for the same strike put option to expire.
Assuming we decide to sell the January 50 put instead of purchasing stock we might want to consider doing analysis between the two strategies to consider for our final analysis. The following table depicts an investor's profits and loss in buying the stock versus shorting the January 50 Put. (Stock was purchased at $55 to simplify the example.)
(P & L)*
(P & L)
|% vs. %**|
|($2000)||($1170)||(36%) vs. (23%)|
|40||($1500)||($670)||(27%) vs. (13%)|
|45||($1000)||($170)||(18%) vs. (3%)|
|46.70||($830)||breakeven||(15%) vs. 0%|
|50||($500)||$330||(9%) vs. 6.6%|
|55||breakeven||$330||0% vs. 6.6%|
|60||$500||$330||9% vs. 6.6%|
|65||$1000||$330||18% vs. 6.6%|
|70||$1500||$330||27% vs. 6.6%|
|75||$2000||$330||40% vs. 6.6%|
* Dividend Ex-Date September 26 and December 28. Long Stock position entitles the holder to .175 depending on purchase prior to Ex-Date.
** The yield on a short put is calculated by the amount of premium collected divided by the margin held for the purchase of stock determined by the strike price. ($3.30/$5000) = 6.6%. To annualize the yield multiply by days to expiration of short put divided by 365 or (122/365).
Considering the analysis above, I personally like being short the put because I like the fact that stock can virtually do nothing and I will still make a profit. In fact, the stock can be down up to 11% and I can still make money. I feel pretty good about the stock not being down 10% especially after the bullish case I made for Weight Watchers International earlier in the article. Of course, the drawback is that I would not participate on an up move greater than 6.6%.
Please keep in mind that being short a put has virtually the same characteristics as that of being long stock: So you must therefore be prepared to purchase the stock at the strike price of which you sold the put. It is easy for an investor to state that he/she would gladly buy stock at 50 when it is currently trading at 55; however, if the stock were trading 50 the investor may not be so brave.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.