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Can Williams-Sonoma Stay Range-Bound Through Earnings?

Traders sell WSM strangles in hopes of sideways price action


Not a typical name on the most-active-options list, Williams-Sonoma (NYSE:WSM) saw some notable activity in the front-month series Thursday. Investors were selling large blocks of calls and puts as a strategic way to play expected sideways momentum in the shares.

Average daily option volume in WSM is around 1,200 contracts for the past week. By midday Thursday, 21,000 options had already traded hands on the specialty retailer. That’s nearly 18 times average daily volume for the week. Volume was roughly split between calls and puts, with 10,000 trading on the call front and 11,000 trading on the put side.

The lion’s share of this volume traded as part of one two-legged trade involving 10,000 March 41 calls and 10,000 March 36 puts. The calls traded at the bid price of 35 cents and the puts changed hands at the bid price of 25 cents. Trading off the bid is a good indication that the contracts were sold. Furthermore, given the practically nonexistent open interest at both strikes, it is evident that the trades were on the opening side.

WSM traded 1.9% higher on the day to approach the $40 level, which has sporadically acted as technical resistance throughout the past six months. Although the shares have been trending higher since late January (along support from their 10-day moving average), today’s option traders don’t think much upside is possible during the next couple of weeks.

Today’s option trade — a combination of out-of-the-money sold calls and out-of-the-money sold puts — is likely a short strangle that was sold for a net credit of 60 cents per strangle (or $600,000 overall). This strategy will profit if WSM is trading between the breakeven levels of $35.40 (the put strike less the premium collected) and $41.60 (the call strike plus this premium).

Profit/Loss of Williams-Sonoma (WSM) Short Strangle
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The most the short strangle can earn is 100% of the credit collected, or 60 cents ($60 per contract). Maximum profit is realized if WSM is trading between the 36 and 41 strikes when the option expires. Maximum losses — and this is why short strangles are not for beginners — are unlimited if the underlying stock begins to rally, and stopped only by the zero level if the stock declines.

One point of note about this strangle trade is that it was executed ahead of the company’s earnings report. Wednesday evening, WSM officials confirmed plans to announce fourth-quarter and fiscal year 2011 financial results before the open on March 8 (next Thursday). Typically speaking, a stock becomes more volatile in the days ahead of earnings. One large-scale options trader, however, expects the opposite.

As of this writing, Beth Gaston Moon did not hold a position in any of the aforementioned securities.

Article printed from InvestorPlace Media,

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