Stocks That Trade Like Binary Options: Speculative Plays Under $10

by: C.S. Jefferson

While media will tilt their camera lenses toward retail shopping on Black Friday to kick off the beginning of the Christmas holiday and the deep seasonal price tag discounts, you might actually witness better bargains in this stock market that will have lasting benefits long after the gift wrapping finds itself crumpled in the trash can and the discarded remnants of decorated evergreen trees litter the yard.

It was recently reported that nearly 20% of the S&P 500 was comprised of stocks trading below $10.00 per share. That is incredible to think how far and how fast this market has declined in a matter of months. It’s no big secret at this point that the market has been oversold and we continue to be in the process of formulating a bottom. There is tremendous value in the markets across all sectors as long as you don’t believe we are headed into financial Armageddon, in which case, no one profits up or down from a disastrous doomsday scenario.

But stocks that are trading at cheap valuations are there for a reason, make no mistake, a combination of forced liquidations, margin calls, panic selling and prospects of bankruptcy are all part and parcel to the catalysts that drove some marquis company names to incredibly opportunistic levels. When you sift through the carnage left in Wall Street’s wake, there are incredible bargains to be discovered but cheap doesn’t necessarily mean undervalued.

Some stocks may trade slightly above or below the $10.00 marker after I write this article, which should not necessarily be a disqualification. But, to be fair, this wasn’t intended to be a slick marketing sales pitch, even though securities that begin to trade as if they were penny stocks entices many people’s interest.

Let me first state that no speculative position should constitute any more than 1-5% of your entire portfolio. These are speculative recommendations by definition and should not be thought of as core holdings or investments. It would be unconscionable for me to suggest that any of these stocks are to be substituted or considered as investments even though some, in my opinion, don’t deserve to trade at the bargain basement levels they’ve fallen to and reached amid widespread panic.

Please, do not over extend yourself on risky positions like these, especially with margin leverage. I am very reluctant to recommend plays like these because people have to know this is playing with fire and no one wants to get burned.

If you have less than $100,000 in your personal portfolio, buying 100 shares under $1,000 won’t make or break you. Expect and fully anticipate it can go to zero, but snatching a quick 100-200% return, or even a 10xbagger down the road is not out of the realm of possibility. But if the temptation of high returns undercuts risk discipline, then you’re asking for it if you exceed a position of more than $1,000, or more than 1-5% of a total portfolio allocation per each individual stock.

In fact, you can combine several positions with a medley of mix and match to increase the odds in your favor, but still not allowing one singular position to exceed the rule at 1-5% of your portfolio. If you do play multiple speculative positions, the cumulative total of all your bets must never exceed 15% of your entire portfolio allocation which should always remain structurally diversified and well balanced.

The interesting thing is that many of these positions can almost be thought of as “binary” in nature, that is they are either going to rise with substantial gains, or they are going to fall rapidly approaching zero and priced for bankruptcy. It truly reflects an all or nothing risk profile with only two possible outcomes. From a trader’s perspective, defining the risk as binary increases your ability to project clarity when so many of the events surrounding us remain obscure.

Unlike equity options that have expiration dates and require the speculator not only to be right on directional movement but, more importantly, able to gauge the timing known as Theta by utilizing front month, back month or LEAP positions, buying these shares outright removes the element of time decay.

Due to such a high implied volatility, it really isn’t cheaper to buy speculative upside call options on any of these positions when you can buy the shares outright for less than $10.00. Calls and puts are way overpriced and it’s one of the few times when stocks actually offer a comparable upside potential that usually only options can provide. If anything, I would prefer to be a seller rather than a buyer of options against these speculative underlying shares by implementation of a buy-write strategy.

For those poker enthusiasts out there, think of playing a sector or basket of stocks like going for a flush comprised of 5 cards of the same suit when you mix and match an assortment of cheap shares. You can have absolute junk with low denominated individual cards in your hand, unable to make a decent pair or straight. But when you play a flush you don’t need premium high cards or best of breed in sequence to bet a winning hand, right? At these price levels, all it takes is one company to rise out of the ashes and you are looking at a 10xbagger to offset other losses in the speculative portion of your portfolio allocation.

The Speculator’s Shopping List:

Do you feel like gambling? Las Vegas Sands (NYSE:LVS) and MGM Grand (NYSE:MGM) should entice you as a speculative gamble. Both stocks, along with the casino sector as a whole, have been obliterated with recessionary worries but, last I checked, Vegas was still standing and will remain as a destination spot for the world.

Of course, history has recorded the hubris of Mankind before when colossal monuments such as the Great Pyramids were once swallowed by the sands of time. Until then, I think there is still a lot of gambling and decadent behavior to be pursued under the bright lights of the strip, accompanied by Elvis impersonators and drive-thru, impromptu shotgun weddings.

LVS actually offers substantially larger exposure to Macao with the development of the Cotai Strip. Despite recent suspensions of construction, you can extrapolate that some portion of the $600 billion dollar stimulus package by China will be apportioned to continue development in such a globally visible region. I highly doubt that China would allow decaying landmarks and symbolic eyesores of unfinished construction projects to continue much longer, if for nothing else, pride alone.

Solar, as I’ve mentioned in previous articles, should be part of a portfolio during the Obama led Democratic administration. I hope Democrats are serious about implementation of alternative energy and this time, I actually believe them. While other prominent companies such as First Solar (NASDAQ:FSLR), SunPower (SPWRA) and, my favorite, Energy Conversion (NASDAQ:ENER) are always worth a look, they don’t qualify–at least not yet–as stocks that trade under $10.00. However, if ENER ever falls below ten dollars for reasons not related to fundamental or structural change, consider it a gift.

Suntech Power (NYSE:STP) trading around $6.00 is flat out cheap and LDK Solar (NYSE:LDK) would be worth a look as second best. The rest of the high flying solar companies such as Evergreen (ESLR), Yingli Green Energy Holdings (NYSE:YGE), China Sun (NASDAQ:CSUN), Renesola (NYSE:SOL), Canadian Solar (NASDAQ:CSIQ), Solarfun (SOLF) and Trina Solar (NYSE:TSL) are less favorable to me, but look attractive at these price levels.

What interests me most about some of these companies like LDK and STP, is that they have a relatively small float of shares out there and haven’t incurred significant share dilution which truly maximizes the upside potential. Let’s not forget to mention, most important of all, they actually make a profit.

Compare and contrast this to some of the financials such as Citigroup (NYSE:C), AIG, Fannie Mae (FNM), or Freddie Mac (FRE) that look cheap by dollar amount, but remain heavily diluted due to government orchestrated bailouts and preferred share restructuring. The same is true with General Motors (NYSE:GM) and Ford (NYSE:F) which look cheap by share price, but shareholders can have their equity completely wiped out by massive share dilution with impending bailouts around the corner. Perhaps, F is the better play out of the automotive sector at $1 per share, but there seem to be better lottery tickets out there right now.

Solar was heavily traded by hedge funds as a commodity pairs trade or substitute for direct exposure against rising and falling crude oil prices. Now that the solar sector has been decimated, it has potentially been dislocated from being dependent on rising crude prices if the impetus to legislate energy independence is carried through to fruition.

Technology stocks such as Nvidia (NASDAQ:NVDA), Sandisk (SNDK), AMD (NASDAQ:AMD), Rackable Systems (OTCPK:RACK) are all at levels that look attractive. It’s also very possible that Intel (NASDAQ:INTC), Akamai (NASDAQ:AKAM) and Cisco (NASDAQ:CSCO) may fall below $10.00 which would make them even more compelling going forward.

Yahoo (YHOO) looks like a losing proposition because it is so hated on Wall Street, but it still manages to produce more overall eyeballs than Google (NASDAQ:GOOG) by being the most visited and trafficked website in the world, even though its ability to monetize and expand search business has fallen dramatically. At some point, its value will be realized by someone, if not Microsoft (NASDAQ:MSFT). If you go beyond the headlines, there are substantial internet properties that can be piecemealed out as individual prizes that Yahoo has failed to fully integrate, or translate into the bottom line such as its webhosting services, Alibaba, Flickr and others not directly mentioned.

Video game stocks are also very compelling and tend to be more recessionary proof than most bread box retail consumer led stocks. Activision Blizzard (NASDAQ:ATVI) and Take Two (NASDAQ:TTWO) are very interesting at their price points. ATVI has now become very competitive to Electronic Arts (ERTS) with multi-platform franchises and continues to dominate the PC MMOG market. THQ (THQI) is really more of a less relevant producer of entertainment, but consistently does well with licensing mediocre games based on popular movie, television and other media titles. Midway Games (MWY) is really trading in the toilet, but has some interesting legacy and franchise titles.

Etrade (NASDAQ:ETFC) was hammered with mortgage risk exposure, but has worked out much of its direct liability and continues to increase volumes of transaction fees from new and active accounts. Of all the discount brokerages benefiting from increased volatility and transaction fees, one has to wonder how long this company can trade here without being swallowed by someone else?

Smith and Wesson (SWHC) has actually made capable directional changes by producing a competitive polymer framed firearm that is being adapted by some very high profile law enforcement agencies. While the Glock firearm still dominates in this particular market, the MP models are ambidextrous and demonstrate a commitment by SWHC to reclaim a portion of their once highly regarded stature.

While there are many more bargains around the $10 range out there, I realized my list was getting longer than I anticipated. I may at some point follow up with this article and add more to the shopping list, especially if some other quality companies fall within the boundaries.

I did want to close with three stocks under $10 in what I feel is one of the best sectors to invest in any diversified structured portfolio. Alcoa (NYSE:AA), Aluminum Corp. of China (NYSE:ACH) and Titanium Metals (TIE) are extremely cheap and, honestly, undervalued. These are three stocks that don’t deserve to be trading like speculative positions, but have been decimated along with the entire commodity sector.

While inflationary risk is completely off the table in the near-term, at some point on the back end there will be consequences to all the cash infusions and liquidity being pumped into the global system. This would be an ancillary benefit to the commodity sector as industrialized nations are handcuffed from being able to raise interest rates to protect against inflationary currency pressure.

However, even more important, is the fact that it has become increasingly clear that real job growth will have to come from our own government initiated infrastructure plan. China’s recent stimulus package of $600 billion dollars seems to be the model for industrialized nations to follow when the void of private capital fails to deliver results, by injecting investment that promotes real job growth. Despite the recapitalization of banks to shore up balance sheet risk, it has failed to translate into tangible results for most average Americans.

The Democratic led incoming administration is already signaling a comparable stimulus package directed at infrastructure that subsidizes local municipal programs. This would have a real world stimulus to fund jobs and contractor work that actually enables people to pay mortgages and stabilize the housing market. Although I don’t think it’s reasonable to assume the entire real estate bubble can be easily reinflated like before, it is viable that regional areas anchored around major government subsidized programs will provide an upside to local economies.

Have a Happy Thanksgiving holiday to everyone and hopefully this market will turn around with a sustainable and imminent economic recovery.

Disclosure: Author holds speculative long positions in ENER, STP, LDK, MGM, LVS, ATVI, TTWO, ETFC, SWHC.