Name That Trade – $TRN: Not Falling in Love with this One

by Dan February 18, 2015 10:17 am • Commentary

Trinity Industries (TRN), the manufacturer of railcars and highway guardrails (to name a few of their sexy products) has traded in lock-step with oil stocks over the last year (TRN in white and the XLE, Energy Select etf in orange):

TRN vs XLE over the last year from Bloomberg
TRN vs XLE over the last year from Bloomberg

TRN was a beneficiary of the improving U.S. economy over the last couple years with all of their revenue exposure in North America, with more than 95% in the U.S. and most of its exposure in their rail group.

Regardless of TRN’s correlation to oil stocks its chart could be at an inflection point in front of tonight’s Q4 results. The two year chart below shows the stock’s 50% peak from its all time highs in September just above $50, to its recent trough just below $25 in early January. The stock is now hovering an important technical level at $30, a breakout level early last year, and then a breakdown level from December:

[caption id="attachment_51042" align="aligncenter" width="600"]TRN 2yr chart from Bloomberg TRN 2yr chart from Bloomberg[/caption]

Options prices in TRN got a boost last year from negative headlines relating to Guardrail system failures and related lawsuits (read here). These headlines caused extreme volatility in the stock unrelated to the energy collapse:

[caption id="attachment_51044" align="aligncenter" width="600"]TRN 1yr chart of 30 day at the  money Implied Vol from Bloomberg TRN 1yr chart of 30 day at the money Implied Vol from Bloomberg[/caption]

While implied vol is well off of the highs made in October when the stock was in the throes of an epic decline, short dated IV at 45% is still amazingly high for an industrial stock with a $4.5 billion market cap  Despite all that, market makers are implying about a 6.5% two day earnings move*, vs the 4 qtr avg of about 5.6%.

* with the stock at $30.20, the Feb 20th 30 straddle (the 30 call and the 30 put) is offered at about $2, if you bought that you would need a move above $32 or below $28 by Friday’s close to make money.

Higher vol that’s not high enough can happen in a formerly boring stock like this. Otu of habit the vol keeps getting lowered back towards historical levels even in a chart that’s gone gone completely mental.

Given the stock’s 24% bounce from the January lows, the 40% decline from the September highs, and the 13% short interest, the stock looks poised to move on any bit of unexpected news on tonight’s call. I have no fundamental view on the company, but gun to my head I would play for movement, no matter the direction. Long premium, non-directional vol plays are not for everyone, and are generally lower probability trades than short premium into events. For instance, if you paid $2 for the TRN Feb 30 straddle, and the stock did not move your entire premium would be at risk this week. Losing the entire premium is a fairly low probability event as you’d need a $30 pin, but significant overnight losses are possible. On the flip side, doubling your money on an outsized move of 2x the expected is also low probability. Employing this sort of strategy on a regular basis without actively scalping the stock as it moves up and down is not smart. However, identifying cheap implied with quality screening could occasionally unearth a cheap straddle with decent chances at overnight profitability