Update: Herbalife Volatility and Einhorn Squeaks

by Enis October 2, 2012 12:38 pm • Commentary

Update, Oct 2nd, 2012, 12:35 PM EDT:

In yesterday’s CotD post (copied below), I highlighted the rise of implied volatility in Herbalife heading into the Value Investing Congress, as traders focused on Einhorn potentially revealing a short position in the name.  Einhorn spoke today, highlighting Chipotle, CMG, as his short idea for this year (after highlighting GMCR last year).  HLF rallied on that news, as the potential “Einhorn overhang” could be dismissed for now.

Here’s what happened to HLF volatility in the past 24 hours:



You can see the drop in 30-day implied volatility today.  Even though HLF stock is up about 7% since my post yesterday, owning call options as a directional bet would not have been very profitable trade, especially given the one-day event risk involved.

For reference, the Oct 50 straddle (Oct 18th expiry) yesterday was worth around $4.75 around noon.  The Oct 50 straddle is priced around $3.75 today (-$1).  The Nov 50 straddle was priced at $7.85.  The Nov straddle is priced at $7.00 today (-$0.85).  Most potential calendar trades that sold the front and bought a farther dated option likely would have made money, but nothing substantial as the entire term structure adjusted lower.




Chart of the Day, Oct 1st, 2012, 12:16 PM EDT:


To get a feel for the verbal power of a well-known hedge fund manager like David Einhorn, look at the 1 year chart of Herbalife stock:



Over the course of 3 trading days in the beginning of May, HLF traded from 70 to 45 on historic volume.  Mr. Einhorn had asked some basic questions about the company’s business model and commissions structure on the earnings conference call, and traders immediately concluded that Einhorn might be short the stock.  Interestingly enough, ever since that conference call, there has been a vehement debate as to whether Einhorn is in fact short HLF, or was simply gathering information on the conference call.

My first impression, having done very little research about the company’s fundamentals and overall story, is that traders and investors clearly think Einhorn’s concerns might have a sound fundamental basis.  Or else the stock would have recovered a good portion of those May losses by now.  It has been 5 months since that conference call.

I bring up HLF today because the Value Investing Congress is this week, and Einhorn is one of the speakers slated to present.  He presented GMCR as a short idea last year, and the stock is down 70% since that October 2011 presentation.  With all of the speculation surrounding HLF, today’s chart focuses on how implied volatility has behaved in HLF since that May swoon.  Here is Livevol’s 30 day implied vol vs. 30 day realized vol chart over the past 6 months, overlaid with the stock chart on top:



The implied volatility (red line) has clearly rallied over the past 2 weeks, as investors prepare for a potential presentation by Einhorn.  Unfortunately, HLF options are illiquid and quite wide in bid/offer terms, so I stayed away from executing a trade.  If markets were tighter, I would have likely executed a Nov / Jan calendar of some sort, to take advantage of the very steeply downward sloping term structure as traders anticipate potential comments this week, or on the next earnings conference call in one month.  November implied volatility trades almost 10 points above Jan13, which attributes more weight to potential volatility in HLF in the next month and a half than seems warranted to me.