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DARK HORSE HEDGE - What I Like About You, VECO

|Includes:Veeco Instruments Inc. (VECO)

DARK HORSE HEDGE - What I Like About You, VECO

By Scott Brown at Sabrient, and Ilene, at Phil’s Stock World

Dancing Scotsmen waving money
What I like about you, you really know how to dance
When you go up, down, jump around,
think about true romance, yeah

That's what I like about you
What I like about you, you keep me warm at night
Never wanna' let you go, know you make me feel alright, yeah

Veeco Instruments Inc. (Veeco) (VECO) designs, manufactures, markets and services enabling solutions for customers in the high brightness light emitting diode (HB LED), solar, data storage, scientific research, semiconductor and industrial markets. In its LED and Solar segment, Veeco designs and manufactures metal organic chemical vapor deposition systems that are used to make HB LEDs or solar cells made of III-V compound semiconductors. In its Data Storage segment, Veeco designs and manufactures equipment used in the production of thin film magnetic heads that read and write data on hard disk drives. In its Metrology segment, the Company designs and manufactures atomic force microscopes, scanning probe microscopes, stylus profilers and fast three-dimensional (3D) optical microscopes... (Sabrient's Ratings Report)

Sabrient rates VECO a Strong Buy for its superior value and growth profiles, which indicates a stock that should outperform the market.  

Read Sabrient's full report here.

We liked a lot about VECO when we added it to the Dark Horse Hedge virtual portfolio at $31.93 on August 25, 2010. Using Phil Davis's Buy/Write strategy, we bought half a position in the stock and sold October $32 calls and puts against it (1 put and 1 call per 100 shares of stock).  

With option expirations on Friday, October 15, it's time to decide if we "never wanna let you go," for now, or if we want to close the trade and take profits.  

VECO closed at $36.51 yesteday. We could keep the $6.20 option premium and let VECO get called away for $32. But why do that when there is so much to like about VECO?  We learned Friday that Bruce Kovner's Hedge Fund has been buying VECO shares too:

Due to portfolio activity on September 28th, 2010, Caxton Associates has disclosed a 5.3% ownership stake in VECO with 2,168,800 shares. This is a brand new position for the hedge fund as they did not own it as of June 3oth. Kovner of course has graced the pages of Forbes' billionaire list due to his success as a hedge fund manager. (See http://seekingalpha.com/article/229118-bruce-kovner-s-hedge-fund-starts-new-veeco-instruments-stake?source=yahoo)  

And on Tuesday, October 5 Daniel Amir, Lazard Capital Analyst wrote: 

[recent checks from China] “suggest that tool orders continue to accelerate.” He adds that “not a month goes by without new players popping up in China that order LED tools.” He says the situation at some point could overheat in terms tool orders, but that for the near-term, the strong demand is good news for Veeco, which he says has about 60% of the market for LED manufacturing tools in China. (See http://blogs.barrons.com/techtraderdaily/2010/10/05/veeco-seeing-strong-led-tool-orders-in-china-lazard-says/?mod=yahoobarrons)

Monday, October 25, 2010 the quarterly financials for VECO will be released. VECO is trading at a P/E of 8 on a $4.18/share estimate for 2010 and $4.67/share for 2011.  

We believe VECO is undervalued and we're optimistic about it's future performance. Therefore, Dark Horse Hedge will hold its VECO shares, while repeating the Buy/Write Strategy used when entering the position in August.

DHH is already long VECO (half our normal position size). We will continue to hold our shares while BUYING back the calls and puts we sold in August.  

The Oct $32 puts we sold for $3.20 on August 25 will expire worthless on Friday if VECO stays above $32 this week, and the Oct $32 calls we sold for $3.00 closed at $4.40 yesterday.  Therefore, we can close both sides of our option positions on Monday for approximately $4.50 which puts $1.70 in our pockets:  ($3.20 (put) + $3.00 (call) - $.10 (put repurchase) - $4.40 (call repurchase) = $1.70) .

After buying back the options we sold, we will SELL one VECO Jan $32 2011 Put (approximately $3.40) and SELL one VECO Jan $32 2011 Call (approximately $6.60) for each 100 shares of VECO held.  The net effect of "rolling" these options is to lower our cost basis (see below).  Rolling to the January 21, 2011 $32 Call for approximately $6.60 and the Jan $32 Put for approximately $3.40 gives us an additional $10 in premium. The same scenarios from our October VECO options apply to our new positions, except that our expiration date has moved out to January 21, 2011.

Lastly, we entered the VECO trade in August using Phil Davis's Buy/Write Strategy which gave us a 15-20% discount on our VECO shares. In less than two months, we lowered our cost basis from $31.93 to $20.33.  We can continue rolling this trade forward earning 15-20% per quarter if the stock performs as we anticipate.

Cost Basis:
$31.93      Original purchase on 8/25
-$3.20       Oct $32 put premium
-$3.00       Oct $32 call premium
+$.10       Close Oct $32 put
+$4.40     Close Oct $32 call
-$6.60       Jan $32 call premium
-$3.40       Jan $32 put premium
----------
$20.33 cost basis on VECO

Roll the options positions in VECO on Monday, October 11, 2010.

  • Buy to Close VECO Oct $32 put at the market (approximately $.10)
  • Buy to Close VECO Oct $32 call at the market (approximately $4.40)
  • Sell VECO Jan $32 2011 put at the market (approximately $3.40)
  • Sell VECO Jan $32 2011 call at the market (approximately $6.60)

Note to Newcomers:

Phil's Buy/Write strategy can be initiated by buying half of your desired VECO position and then for each 100 shares of VECO, SELL one Jan $36 2011 put and SELL one Jan $36 2011 call on Monday:

  • Buy 1/2 position in VECO Long at open Monday (approximately $36.50)
  • Sell 1 Jan. $36 Call per 100 shares of VECO (approximately $4.40)
  • Sell 1 Jan.$ 36 Put per 100 shares of VECO (approximately $5.20)

The options being sold have higher strike prices reflecting the higher current price of the stock. 



Disclosure: none
Stocks: VECO