Salesforce.com Inc. (
) has suffered this week, with the stock declining sharply in the
wake of a
titled "Shades of the Dot-Com Bubble." According to the article,
the company's growth prospects are "not good enough to justify its
sky-high share price." The negativity has sparked a wave of put
volume in the options pits, with more than 7,800 of these typically
bearish contracts changing hands today - more than triple CRM's
average daily put volume.
Tucked away within today's heavy put activity is a rather
interesting spread trade on the security. Specifically, 750
February 125 puts crossed at 11:37 a.m. on the NYSE for the ask
price of $6.30, or $630 per contract. Meanwhile, the 500 February
135 puts changed hands at the same time on the NYSE for the bid
price of $12.50, or $1,250 per contract. Given this data, it would
appear that we are looking at a short ratio put spread, more
commonly known as a
, on Salesforce.com.
The Anatomy of a Salesforce.com Short Ratio Put
Getting down to business, the trade breaks down like this: The
trader paid $472,500 for 750 February 125 puts -- ($6.30 * 100) *
750 = $472,500. Meanwhile, the trader received a credit of $625,000
for selling 500 February 135 puts -- ($12.50 * 100) * 500 =
$625,000. As a result, the trader has pocketed a total premium of
$152,500 -- $625,000 - $472,500 = $152,500. The breakdown for this
credit spread is listed below:
There are several possible paths to profit for this position.
The simplest route involves CRM closing above $135 per share on
Feb. 18, when these options expire. In this situation, the trader
need not lift a finger, as all of the options involved expire
worthless, allowing him to retain the entire premium received upon
entering the trade.
The second path involves the erosion of time premium or the
decline of implied volatility, both of which would make the
February 135 puts less expensive to repurchase. The trader has a
slight edge in this situation, as implied volatility has been bid
higher on CRM recently. At the time of the trades, implieds for the
February 135 puts rested at 41.69%, while implied volatility came
in at 45.77% for the February 125 puts. CRM's historical volatility
came in at 36.63% as of yesterday's close, hinting that both
options are expensive when compared to prior readings. Should
implieds decline sharply enough, the trader could potentially buy
back the contracts for less than the initial selling price, thus
pocketing the difference.
The third outcome involves a sharp decline in CRM shares, which
could occur if the selling pressure in the wake of the
article gains momentum. The reason that the trader can profit from
a sharp decline in the shares stems from the fact that he purchased
1.5 times as many February 125 puts as sold February 135 puts. As
such, the position will begin to gain ground on the portion of
those purchased February 125 puts not offset by the sold 135 puts
as CRM moves lower. Below is a chart for a rough visual
representation of the trade's profit/loss scenario:
The winter 2011 issue of
magazine is now available here.
All Rights Reserved. Unauthorized reproduction of any SIR publication is strictly prohibited.