Large call purchases were made in Interpublic Group and Taiwan Semiconductor yesterday as investors used a strategy that counts on volatile stock prices.
optionMONSTER's Heat Seeker monitoring system detected the purchase of 30,339 October 7.50 calls on IPG for $0.35. The trade was matched by the short sale of more than 700,000 shares at $5.68 about three minutes later. Volume was more than 40 times open interest in the strike.
This "delta neutral" strategy will profit from sharp moves in the advertising company's shares. If it rallies, the calls will appreciate more quickly than the stock, more than offsetting losses on the short position. Inversely, if IPG drops, the calls will lose value more slowly than profits are earned from the short position.
The trade uses concept of delta, which measures how much an option moves relative to the underlying share price. A delta of 1, for example, indicates an exact dollar-for-dollar relationship. (See our Education section)
If IPG appreciates, the delta on the October 7.50 calls will rise because the calls become more linked to the share price the closer they are to being in the money. Inversely, if the stock falls, delta will decline and the option's price will be less sensitive to the share price. Under that situation, the investor stands to lose less on his or her ownership of the calls than they make from being short the stock.
Once established, the position must be closely watched to maintain delta-neutrality. If the shares rise, the investor will sell the profitable calls. If IPG drops, the stock will be purchased to cover the short position. The strategy can turn a profit on either rising or falling prices, and stands to lose money if the shares don't move at all.
As a junk-rated advertising firm, IPG has the potential to move, and doubled from its March lows before pulling back last month. One potential catalyst could be the resolution of General Motor's bankruptcy proceedings because the automaker owes IPG $50 million. GM is expected to emerge from bankruptcy before expiration.
A similar delta-neutral strategy was used on TSM as an investor bought 6,000 October 10 calls and sold short approximately 222,000 shares. The trade pushed options volume in the name to about five times average, with calls outnumbering puts by more than 40 to 1. The chipmaker fell 3.59 percent to $9.12 and is down about 9 percent in the past month.
(Chart courtesy of tradeMONSTER)