Options trades: Naked puts on RIG, TEF & more
This week I continued to reduce risk and take profits in some existing naked put option positions while remaining ready to sell naked put options on new opportunities as they presented themselves. Thanks to continued market volatility and weakness, I’m beginning to see – for the first time in quite a while – some tempting put option selling opportunities in some of my long-time favorite watchlist buy candidate stocks.
While my limit orders to sell put options on some of these stocks haven’t triggered (yet), they were getting close during Friday’s sell-off. But I did end up selling some naked put options on an oil driller being pounded over its role in the Gulf of Mexico oil spill (see below for details).
Closed/Adjusted positions:
Harsco Corp. [[HSC]] – On 6/2/10 I bought to close the July 25-strike put options I sold against HSC on 2/4/10 for a 4-month net return of about 0.8%.*
Telefonica [[TEF]] – On 6/3/10 I rolled out and down the September 65-strike put options I sold against TEF on 3/22/10 by buying them back (at a loss) and selling some December 60-strike put options for an overall net credit, thus lowering my risk in the position and reducing my net cost basis (to a little under $59) if ultimately put the stock.
New positions:
Transocean LTD. [[RIG]] – On 6/2/10 I sold some November 30-strike put options against RIG in my IRA as the stock continued to plunge on investor fears over potential fallout from the ongoing oil spill in the Gulf of Mexico:
Based in Switzerland, Transocean is the world’s largest offshore drilling contractor, and specializes in deepwater and other demanding offshore drilling environments. Currently it has a fleet of 139 mobile offshore drilling units operating in major oil-producing regions including Africa, Asia, Brazil, Canada, India, the North Sea, and, of course, the Gulf of Mexico.
Clearly the one overriding factor affecting RIG’s current stock price is the Deepwater Horizon accident and resulting – and still ongoing at this time – oil spill in the Gulf of Mexico. Not only will the company potentially be liable for related costs – over $1 billion by some estimates and potentially much more if the company is found to be negligent – it faces other related earnings risks including an extended drilling moratorium in the Gulf and reputational damage within the industry.
This is all in addition to the company’s usual earnings risks, which include everyday operating risk associated with its drilling activities and its exposure to lower oil and gas prices. That said, RIG is a leader in its industry and its fleet is, according to the company, one of the most modern and versatile in the world. And RIG shares, which were not particularly overvalued when they were trading in the low to mid $90s earlier this year, have now lost almost $15 billion in market cap – representing a lot of risk being taken out of the stock price.
Currently trading at about $50, shares of RIG are clearly in a sharp short- and intermediate-term downtrend. Though currently oversold, they do seem likely to trade lower in the coming days/weeks, perhaps revisiting their 2009 lows in the low $40s or lower. At the same time, this could set the stage for an intermediate- or longer-term bottom being formed.
Fundamentally, assuming just about everything short of an absolute worst-case scenario, shares of RIG appear undervalued here. Using the most conservative (reduced) earnings and growth estimates, current fair value estimates start at about $80 to $90 – quite a ways above the current price.
While the valuation case for RIG here (or lower) is compelling, I also look for companies that pay dividends. In this case, Transocean earlier this year proposed – and shareholders recently approved – a dividend payout for the first time since 2002, for $3.00 per share, which would clearly translate into a significant yield at current or lower levels. (Some politicians and activists are expressing outrage at this, but – as is often the case – they’re off base. The dividend was proposed in February, well before the Deepwater Horizon incident. However I’m sure this won’t stop Michael Moore from producing one of his “documentaries” on the subject. 
)
I initially sold some August 40-strike put options against RIG on 6/1 but thought better of it and rolled them out and down to the November 30-strike puts the next day for a net credit. Both put options were trading at an implied volatility of about 90%, reflecting the extreme price action in the underlying stock. My net cost basis if ultimately put the stock will be less than $28.50.
* As always, the return on sales of cash secured put options was based on the premium received from the sale of the options (minus commissions) against the unmargined capital set aside to pay for their possible assignment (i.e., my being put the shares of the stock).
