Option Traders: Mixed Outlook for Key Semiconductor Earnings

by: Joe Kunkle

This week will prove to be an important week for the Semiconductors (NYSEARCA:SMH), a group that has shown leadership through much of the rally. This week we will see earnings from a few key names including ASML Holding (NASDAQ:ASML), Xilinx (NASDAQ:XLNX), Altera (NASDAQ:ALTR), Intel (NASDAQ:INTC), Linear Tech (NASDAQ:LLTC), Fairchild Semi (FCS), Advanced Micro (NASDAQ:AMD), and Cypress Semi (NASDAQ:CY).

It could prove to be a challenge beating investor expectations this quarter after many of the firms raised guidance back in early September (SkyWorks (NASDAQ:SWKS), Texas Instruments (NYSE:TXN), MicroChip (NASDAQ:MCHP), Xilinx, and Altera), and with shares trading at 52 week highs for many of the semiconductors, we could see profit taking post-earnings.

The options market is making mixed bets on the major players in the group, which I will discuss below, but first a look at the Semiconductor ETF (SMH). One trader sold a 2,500 contract straddle at the January 2010 $25 strike as well, expecting a range trade and looking for an IV drop post earnings season. The shorter term outlook was a bit more bullish in the Semiconductor ETF as 10,000 October $27 puts were sold, and October $27 calls saw some large blocks bought offer side. Recently there has been increasing put activity in the SMH ahead of this week. However, a near term target of $28 looks possible on the charts, a prior support area, just over 5% higher from current levels. We could begin to see some M&A deals surface to help the group move higher near term.

Now, for some of the individual names:

Altera saw bearish bets as 3,030 November $22.50 puts traded against OI of 58, mostly offer side buying. Shares broke to highs on the recent move yesterday, but there is bearish divergence on the overbought chart. Altera will report earnings today after the close. Altera is trading 22X earnings, 5.2X sales, and 28.8X cash flow, so is relatively overvalued in its peer group.

Bearish activity also resided in Xilinx, Linear Tech (LLTC), Atheros, Intersil (NASDAQ:ISIL), and Omnivision (NASDAQ:OVTI) yesterday. Broadcom (BRCM) had a few large trades that all had bearish outlooks, including a buyer of 2,000 October $31 puts and active October $30 call selling.

Texas Instruments was on the other side of the spectrum where more than 10,000 November $23 calls traded, mostly buyers. Skyworks, Lam Research (NASDAQ:LRCX) and Applied Materials (NASDAQ:AMAT) were the focus of large bullish short term call buying in large size last Friday.

As you can see, traders are focusing in on the individual names, so I expect that we see a mixed bag of earnings, and also expect that lofty expectations will not be met by many of the companies. Of the names mentioned, Skyworks is my favorite fundamental pick, while Applied Materials and Linear Tech have the most bullish charts.

Of the names not mentioned, Maxim Integrated (NASDAQ:MXIM), Cree Inc. (NASDAQ:CREE), and Tessera (TSRA) are semiconductors I would look at long positions. UltraTech (NASDAQ:UTEK) and Entegris (NASDAQ:ENTG) are two speculative names worth a look.

Disclosure: I own Linear calls, Broadcom puts