Teva Pharmaceuticals TEVA hasn't had the greatest week as far as analyst opinion is concerned. Research analysts at Deutsche Bank reduced their 12-month price target on the stock to $64 from $66 on Wednesday, albeit keeping a “buy” rating on the shares.
Elsewhere, Morgan Stanley lowered its earnings estimates on TEVA through 2012. The firm expects 2011 earnings of $5.05 – down from earlier projections of $5.29 – and 2012 earnings of $5.78, from its previous estimate of $6.04 per share.
In terms of price action, TEVA has been virtually flat over the past six months and is down 1% year-to-date, including a sharp drop last week after failing to match analysts' earnings expectations for the fourth quarter of 2010 or the 2011 fiscal year.
For investors who are bearish on TEVA (or bullish but nervous), we've detailed two option plays as strategic alternatives to shorting or buying the stock outright. These are for educational purposes only and do not constitute buy/hold/sell recommendations.
All prices below are from Friday midday, when TEVA was trading at $51.38, down 21 cents.
Bearish Option Strategy: “Broken Wing” Put Butterfly
TEVA bears who may be even more pessimistic after the estimate cut could consider a put butterfly. By buying one March 45 put, selling two March 47.50 puts, and buying one March 52.50 put, the investor outlays an overall net debit of $1.69. Note that this butterfly spread is of the “broken wing” variety, as the distance between the various strikes is not equal.
The maximum potential profit for this strategy is $3.31, or the difference between the higher-strike long put strike and the short strike, or 5, less the net debit paid. Maximum profit occurs only if TEVA is trading right at the short strike (47.50) when the options expire.
The sole breakeven for this strategy is $50.81, or the higher-strike long put less the premium paid. Anywhere below this breakeven, the spread will be profitable. The most this strategy can lose is the $1.69 premium paid. The maximum loss occurs if TEVA is trading above $52.50 when the options expire.
To the downside, below $47.50, gains begin to depreciate until the 45 strike, at which point they flat-line at $0.81. This is the difference between the two lower put strikes minus the premium paid.
The profit/loss chart below illustrates how this trade will look at expiration. A virtual trading account helps investors visualize this trade at different times in its life span (adjusting for changes in stock price and volatility if desired).
Bullish Option Strategy: Stock-Replacement Strategy
Investors who are cautiously optimistic toward TEVA shares could consider a “stock replacement” strategy, which is essentially buying a long call in lieu of buying the shares outright. (Remember that option players do not collect any dividend payouts that stock buyers may be entitled to). The March 50 call, in-the-money by $1.38, is currently priced for $2.30. The total price for one contract is $230 compared to $5,138 required to buy 100 shares (remember one long call contract provides the right to buy 100 share of the underlying at the strike price).
At expiration, if TEVA is trading above the breakeven price of $52.30 (strike plus premium), gains are theoretically unlimited to the upside. Between breakeven and the 50 strike, the investor will take back at least some of the premium paid.
The most the position can lose, however, is 100% of the premium paid – $2.30. This compares to the long stock purchase, which has unlimited downside to zero.
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The above information is provided by OptionsHouse, LLC (“OptionsHouse”) for informational and educational purposes only and is not intended as trading or investment advice or a recommendation that any particular security, transaction, or investment strategy is suitable for any specific person. You are solely responsible for your investment decisions. Commentary and opinions expressed are those of the author/speaker and not necessarily of OptionsHouse. Neither OptionsHouse nor any of its employees, officers, shareholders or affiliated companies guarantee the accuracy of or endorse the views or opinions of guest speakers or commentators. Projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature and are not guarantees of future results. Any examples used that discuss trading profits or losses may not take into account trading commissions or fees.
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