Name That Trade – $GILD’s Turf War

by Dan November 24, 2014 3:33 pm • Commentary

On October 31st GILD shares were trading at new all time highs, gaining 57% on the year, or about $80 billion in market cap.  Since those highs the stock has sold off almost 15%, and is now flirting with key near term support at $100:

GILD ytd chart from Bloomberg
GILD ytd chart from Bloomberg

As for the next level of real support, you have to look down to $90 which also corresponds with the stock’s rising 200 day moving average (yellow line), just below the October lows.

So why the recent weakness? GILD is currently the leader in Hepatitis C drugs and there is competition coming from Abbvie (ABBV) in late December which could put considerable pressure on pricing and provide risk to 2015 sales for GILD.  In an August 20th research note Bernstein analyst Geoffrey Porges summarized:

One of the near-term bear arguments is the expected approval of a competitive all-oral HCV regimen from AbbVie, and the potential for aggressive pricing tactics by AbbVie, which could erode either Gilead’s price or share of the ballooning HCV treatment market. The prospects for such competitive pricing are being actively encouraged by payors, who have been vocal about the explosion in treatment costs for HCV based on the price of Sovaldi.

However, we believe the risk of a price war hurting GILD’s HCV revenue in the next 1-2 years is overblown. In today’s note, we draw on our discussions with industry advisers and participants to summarize our key conclusions about the risk of such an outcome. To summarize, we find that 1) there are limited tools at payors’ disposal to restrict access to Gilead’s regimen even after the availability of AbbVie’s regimen, 2) a price war is not in the interest of AbbVie and inconsistent with AbbVie’s recent statements (and Gilead’s), and 3) Gilead has counter strategies to mitigate the impact of any potential price war by AbbVie on a payor-by-payor basis.

As for catalysts there is the very slight potential that the FDA delays ABBV’s drug in December which would cause a huge spike in GILD shares back towards the prior highs.  Prior to that on December 3rd, an executive will be speaking at Piper Jaffray’s Healthcare conference and then speaking in early January at JPM’s annual healthcare conference.

As for options prices, they remain elevated at a time where many large cap biotech/pharma vols have come in hard. GILD’s 30 day at the money implied vol is about 31%, well above the multi year lows made in August at about 22%:

GILD 1yr chart of 30 day at the money IV from Bloomberg
GILD 1yr chart of 30 day at the money IV from Bloomberg

If I were inclined to play GILD from the long side with the thought that any positive near term news about ABBV’s HCV drug is in the share price of GILD and thought that the valuation is cheap at 10x 2015 earnings that are supposed to grow at 26% on sales growth of 18%, then I would consider one of two of the following trades to play for a snap-back to the prior highs, depending upon conviction and risk appetite:

1) Mild Conviction, Playing for Move back above to $110 by January expiration.

GILD ($100.30) Buy Jan 90  / 110 Risk Reversal for .20

-Sell to open 1 Jan 90 Put at 1.45

-Buy to open 1 Jan 110 Call for 1.65

Break-Even on Jan Expiration:

-Profits: above $110.20 profits unlimited

-Losses: between $90 and 110 lose .20 premium, worst case scenario, stock below $90 lose one for one, down 10%

Rationale:   The most likely outcome is that you lose the .20  in premium that you paid for the bullish risk reversal. The structure has about a 45 delta, (about 22 on the puts and about 22 on the calls, so the options market saying that there is about a 22% chance that the puts and the calls will be in the money on Jan expiration).  On a mark to market basis this trade will lose value as the stock moves towards put strike you are short, and the have gains as gets closer to long call strike. However, any spike to new highs means participation similar to stock above $110.


2) High Conviction of New Highs by February expiration

GILD ($100.30) Buy the Feb 90 – 110/130 Call Spread Risk Reversal for Even Money

-Sell to open 1 Feb 90 put at 2.60

-Buy to open 1 Feb 110 call for 3.15

-Sell to open 1 Feb 130 call at .55

Break-Even on February Expiration:

Profits: between 110 and 130 make up to 20, max gain of 20 above 130

Losses: mark to market losses closer to put strike and gains closer to long call strike, losses below $90

Rationale:  With this structure you are essentially giving yourself 3 months to have a bullish thesis play out which should incorporate numerous catalysts including Q4 earnings that should come in early February.  This structure offers a potential 20% gain, up 10%, in exchange for potential losses that start down 10% from here.


Both these trades look to play for the possibility of a rally back to or above recent highs while establishing a range below and slightly above where you’re likely to lose nothing or very small.