Trading the biotech sector can be a tricky business, especially when an FDA decision hangs in the balance. Such is the case with Human Genome Sciences HGSI, which is awaiting a ruling on the lupus drug Benlysta by the end of the year.
Some analysts expect the stock to shuffle along sideways until this decision is made, at which point a dramatic price swing could follow. Option traders today may be hoping for a positive resolution as they traded a bull call spread on Friday morning.
In late-morning activity, blocks of 4,900 contracts changed hands on both the December 26 and December 32 calls. Both calls had modest open interest heading into the session, so it's reasonable to assume the volume traded to open.
With the shares trading around $25.60, the 26-strike call traded for the ask price of $4.30 per contract and the 32-strike call traded near the bid price at $1.35 apiece. The net debit for this spread was $2.95 each, or total net premium of $1.4 million.
This is a fairly aggressive bullish trade, as breakeven at expiration is $28.95, a 13% increase from current levels. For profit to max out at $3.05 (the difference in strikes less the premium paid), the stock would have to overtake the short strike (32) by December 17. The maximum loss is the $2.95 premium paid, occurring at expiration if the shares are trading below the 26 strike.
The investor in question may be expecting HGSI to get a positive FDA ruling by December options expiration and wants to execute a bullish trade in anticipation. But because of this impending ruling, implied volatility is elevated; 30-day implied volatility is at 125% versus 30-day historical of 28%! As a result, long options are pricey. By using a call spread and selling the higher-strike 32 call, this investor mitigates some of the high implied volatility and offsets some of the cost of the 26 call and creates a bullish trade where reward is limited but so is risk.
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