Twitter is a pretty useful tool for traders/investors who are interested in popping out of their own thought bubble throughout the day. An hour ago I saw this tweet from Deidra Bosa (one of my fav tech reporter for CNBC) and I respond with something that is in my wheelhouse:
HI D… the options market is implying about a $30 move in either direction between now and Friday’s close or nearly 15%, or about $8 billion in market cap.
— Dan Nathan (@RiskReversal) June 1, 2020
Followed by a smart question by a follower and a great answer by a successful private tech investor Jeff Richards from GGV Capital:
— Jeff Richards (@jrichlive) June 1, 2020
Which motivated me to ping a friend who is also a VC out west who was not an investor in ZM while private but actually bought the stock personally right after its IPO. He and I have had a few discussions on the company’s valuation which is getting hard and harder to justify, but also it’s massive opportunity in a post-pandemic world. One thing is for certain, no one knows which direction the next $50- $100 points in the stock will be, but a takeover at a $57 billion market cap is out of the questions, and the price action feels like a mania. For those like my friend who wants to remain long for more than just 2020, I point you to a thread from April 12tth from famed tech VC Bill Gurley from Benchmark capital on ZM when it was $125 (here) who at the time stated he was not long, but wishes he was.
My friend’s position has grown to be a very outsized position in his public portfolio in size, and like any good risk manager, he is now considering hedging a portion of his position into tomorrow’s earnings as he feels expectations are getting very high. I read a research note earlier where Wall Street consensus is calling for $200 million in Q1 sales, but some analysts on the sell-side think the number can be closer to $300 million while some of the buy-side think it could be much higher. This sets up poorly for those expecting a large pop after the results as all parties involved in evaluation the shares appear to be tripping over each other to one-up the other.
And the chart of the stock is truly astounding, making a series of higher lows and higher highs, up 200% on the year. The only thing worth noting is that the last two times this year the stock spiked to new highs it had a quick 34% sell-off in March-April and then a 27% sell-off from late-April to early May:
As I said in the tweet, the options market is implying about a $30 move in either direction by Friday’s close. To figure that out I take the at the money straddle (the call premium + the put premium) in the weekly expiration and divide by the stock price.
There is something fairly interesting going on in ZM options, there is skew towards the calls rather than the puts, meaning that the calls are more in demand, and back to my friend looking to hedge a portion of his long position that gives him a slight edge if he is looking to buy puts or put spreads, but definitely if he is looking to finance puts by selling a call, a trade structure none as a collar.
For instance, vs 100 shares of ZM long at $203, you could Buy the June 5th weekly 230 – 180 collar for a 40 cents credit
-Sell to open 1 June 5th weekly 230 call at $5.60
-Buy to open 1 June 5th weekly 180 put for $5.20
Break-even on June 5th close:
Profits of the stock up to $230. At or above 230 100 shares of stock would be called-away per 1 contract short. If the stock is at or above $230 on Friday you could always cover the short 230 call to keep the long position intact.
Losses of the stock down to $180 (where the stock closed on Friday) but protected below.
Rationale: collars make sense for long holders who are more worried above extreme near-term volatility to the downside over extreme upside, usually into an event like earnings. Despite the short call strike being further away than the long put strike the options market is currently pricing in about a 27% probability that the June 5th 230 call will be in the money on Friday’s close and about a 24% chance that the long June 5th 180 put strike will be in the money on Friday’s close.
But in this case, for a small credit, you get to trade $27 of potential downside for only 23 of potential downside. Slight edge, but when trading options you should take what-even you can get.