Name That Trade – $GPRO: We Can Be Heroes

by Enis September 30, 2014 11:13 am • Commentary

We’ve gotten a lot of questions about GPRO in the past 2 days as the stock has squeezed higher in incredible fashion. GPRO is now a $11.5 billion market company trading at over 100x P/E (and at over a 20x P/E if it grows to meet very optimistic 2019 assumptions), and has nearly quadrupled since its late June IPO.

I mentioned the options activity from yesterday in this morning’s post:

GPRO has doubled since August 28th, or essentially in the past month.  The stock has more than tripled since its late June IPO.  Borrow has dried up, and even the Oct18th forward is trading around $86, meaning if you use options (buy put, sell call) to short, you are starting out about 6% in the hole on GPRO with less than 3 weeks to expiration (implying an annual borrow cost of over 100%).  Options traded over 3x the average 1 month volume, with the weekly 90 calls and the Oct18th 90 calls the most active lines.  30 day implied volatility in GPRO jumped to 87.

It’s evident from the price action and the options pricing that a major short squeeze has been part of the factor in driving GPRO shares higher in September.  GPRO short interest was at 41% of the float on the most recent reading, and the stock’s borrow cost of over 100% on an annual basis is another sign of the difficulty shorts are having in finding available stock.

However, it’s also worth noting that GPRO’s huge average daily volume (about 10 million shares per day) is already 50% of the total float in GPRO, which is a sign of significant speculative interest as well.  In other words, with half of the float changing hands each day, GPRO’s price action is being dominated by short-term traders rather than long-term investors, which tends to exacerbate a stock’s volatility.  After all, those short-term traders only care about stock price, and couldn’t care less about the company’s fundamentals since they don’t plan to hold for long.

Nonetheless, the high cost of borrow is an issue for anyone looking to play for a correction in GPRO shares.  First off, it’s difficult to find any stock to borrow to short from your broker.  If you want to use options, one look at the stock’s options screen in Jan15 illustrates the implicit borrow cost in the price of the options:

Bloomberg options monitor for GPRO
Bloomberg options monitor for GPRO

I took this snapshot when the stock was trading $95.30 this morning.  However, if you wanted to buy the Jan15 95 put and sell the Jan15 95 call, which would be a synthetic short forward position in GPRO at $95, it would cost you about $17.75 (buy put for $27, sell call at $9.25).  That means your break-even on GPRO in Jan15 would be $95 – $17.75 = $77.25. That’s quite a high bar for a 3.5 month short position, and is a reflection of the extremely high borrow cost for the shares.  Or else, the options market maker would be happy to buy the forward and short the stock and collect the difference.

Many of the questions we’ve received have been asking about options structures as an alternative to shorting GPRO.

NOTE:  We do not plan any positions in GPRO, and the high borrow cost and wide bid/ask makes it difficult to find good options alternatives.

However, here are two trade alternatives for those who are still interested in shorting the stock but want to use options.  Given the previously outlined problems of the high borrow cost affecting options prices, the risk/reward on these trades is much worse than a normal short-biased options position.  As a result, we have NO interest in trading GPRO options ourselves, but are simply offering up the alternatives due to the recent requests. We also don’t like the entry here on the short side and think that 100 in the stock makes alot more sense. These are priced with stock here so at 100 would be much different prices:

1.  With GPRO trading $92, sell the Oct18th 100 call at $2.25 to buy the Oct18th 90/75 put spread for $5.85, for a total debit of $3.60

This is a short-term, 2.5 week trade, so there is a risk of losing all of your premium if GPRO closes between $90 and $100.  The bigger risk, however, is if GPRO continues to squeeze higher above $100, at which point you are exposed to 1 for 1 losses with the stock.  On the downside, your max gain is $11.40 if GPRO closes at $75 or below on Oct18th expiration.  Again, possibly better than simply shorting the stock here, but not a good risk/reward trade on its own.

2.  With GPRO trading $92, buy the Nov/Jan15 60 put calendar for $4.00.  

This trade gives you more time, out to Jan15, but the strike is the $60 put strike since higher strikes have both a higher cost and are at higher risk of GPRO blowing through the short Nov put strike, in which case the trade might end up a loser (though that’s unlikely unless GPRO moves below $45 by expiration).  The positive aspect of this trade is that your risk is limited to your initial premium of $4.00.  The ideal situation is that GPRO declines to $60 by November expiration, but even then, it’s unlikely that the Jan15 60 put will be worth more than $10, so your potential reward is also limited between now and November expiration.  This trade only makes sense for someone who thinks GPRO could decline below $50 by Jan15 expiration, but is unlikely to do so before November expiration.