Options Action Recap – $MCD Yield or Protection

by Dan May 3, 2015 6:55 pm • Commentary

On Thursday (below) I previewed what should be a fairly eventful upcoming week for McDonald’s (MCD) as their new CEO will outline their “turnaround plan” on Monday, and then on Friday the company will report April sales. The options market is pricing serious movement, about 4% in either direction which could present an opportunity for long holders to add yield over a short period of time.

On Friday’s Options Action on CNBC I detailed how a long holder could add 2% (yield or protection) in the next 5 trading days if MCD was between $100 and $95 (stock reference $97.80), watch here:

So here is the yield overlay idea against 100 shares of MCD at $97.80:

Sell the May 8th weekly 95 / 100 Strangle at $2

-Sell 1 May 8th 95 put at .90

-Sell 1 May 8th 100 call at 1.10

Break-Even on May 8th weekly expiration:

Upside: gains of stock up to $100, stock called away at 100 but really at 102, up about 4% adding 2% yield in 1 week.  This strategy would be disappointing if the stock were to gain materially above $102, but that is a fairly low probability event.

Downside: losses of the stock below $97.80, but the $2 in premium will serve as a buffer to the downside until $95.80.  Losses below $95.80, and

Worst case: put 100 shares of stock at 95, suffer losses below, and also have losses from the 100 shares that you own, less the $2 in premium received.

Payout diagram from CNBC
Payout diagram from CNBC

Rationale: Options prices appear to be ridiculously high for these two events presenting a potentially unique short term opportunity to add yield to an existing holding. If the stock were to close Friday below $100 and above $97.80 you would add $2 in yield in a week, while creating a $2 buffer from $97.80 to $95.80 on the downside.  This trade makes a lot of sense if you were inclined to add to your long stock position on a pull back.



Original Post April 30th, 2015:Name That Trade – $MCD Playland

In late January McDonald’s (MCD) announced a CEO change as the stock was within a couple percent of the 52 week lows.  The stock has since rallied almost 10% and has been consolidating just above a key technical level:

MCD 1yr chart from Bloomberg

Next week the company has two events that could move the stock, first on May 4th, the company’s plan to turnaround what has been a fairly epic expected decline in sales of about 10% this year from its peak in 2013, and then on Friday May 8th April sales.

Option traders are expecting movement, with the stock at $97.15 the May 8th (next Friday) 97 straddle (the call and the put) is offered at about $4.80, if bought that you would need a move above $101.80, or below $92.20 to make money by next Friday’s close, or about 5%.  A quick look at the a two year chart of 30 day at the money implied volatility shows just how elevated short dated options prices are:

MCD 2yr chart of 30 day at the money implied vol from Bloomberg

I suspect the new CEO will not lay an egg on the turnaround plan, at least mapping the framework for change. This delivery will be imperative to his success, while I would expect monthly sales to continue to stink as it will likely take at least months if not quarters of implementing menu changes to see meaningful change in direction.  It is my view that aside from having very bad food, MCD has a massive PR problem at time where competition has never been better, they are on the wrong side of a massive secular shift in quick serve dining.

While I sold my Shake Shack long position yesterday (here) I still am very much in the camp that MCD should consider my suggestion from February (read and watch here) and buy SHAK, put its founder Danny Meyer on the Board and help fix their existing menu, while building out what would be a higher end brand in SHAK to better compete with the competition like Five Guys, Smash Burger etc. Competition that does not appear to be abating anytime soon.  It’s a bit pie in the sky, but think of it as a sort of Aqui-hire like Apple’s purchase of Beats, niche brand, killer management team and tons of potential synergies for a few billion.  I’ll revisit SHAK on a pullback, but the short term gains were too much to ignore.

Back to MCD, I suspect short term long premium directional trades will be hard to make money into and out of next week’s events.

But selling next week options against existing long stock positions could be a great way to add yield.  For instance with stock $97.25, you could sell the May 8th 100 calls at $1.30, giving a call-away level of $101.30, up about 4.2%. if the stock is below $100, then you take in the $1.30, adding 1.33% yield in 6 trading days, while adding a 1.33% buffer to the downside. Not Bad.  You would not do this if you were long and you thought there was a decent chance the company dazzles on their turnaround and beat low expectations for April sales.

For those who think the stock could have legs latter in the year, selling next week calls to finance the purchase of longer dated calls make sense. The call calendar I would consider is selling the May 100 calls at 1.45 and buying the July 100 calls for 2.45. That’s a fairly dollar cheap calendar for 2 months and has the added bonus of selling 33 vol in May and buying 22 vol in July. The stock would have to move a lot in order to get too roughed up on that trade and set’s up great for a breakout over the summer.