For the past year or so, Valeant Pharmaceuticals Intl Inc (VRX) has not lacked for headlines. It has fallen 90% from its highs and it’s down 70% in 2016 alone. Now VRX stock trades for under $30 … That’s $230 per share lower than the 2015 high of $260. Is its next stop penny stock-ville?
Click to Enlarge Fundamentally, VRX has legitimate sources of income. The headlines triggered a series of panic sells as the fears conjured up scenarios of going to zero.
Left alone, Valeant should be able to attenuate the issues at hand especially after the elections.
Technically, the range of VRX stock has tightened up and is coiled for a potential explosion. The direction of the move is somewhat of a coin flip. But given that it has fallen so far, I see more potential upside than downside.
Bulls have defended a bounce three times of late in an effort to push Valeant shares to higher highs. But first VRX will next need to break the descending trend line of lower highs, which should invite buyers soon thereafter.
I am a fundamental trader, so I will not bet the proverbial farm on a long Valeant trade. Instead, I will revert to the options markets and spend a few bucks on a bullish strategy. I usually favor selling premium to generate income, but not for a headline-laden stock like VRX. I will stick to a simple long call spread strategy with time on the clock.
I am not delusional about VRX returning to glory, so I want my strikes relatively close to the current level. I would hate to guess the correct direction, yet fail to profit due to missing on the amplitude of the move.
Trade #1 — The Long Bet: Buy VRX Jan $32.50/$35 debit call spread. This is a bullish trade for which I pay 71 cents per contract. This is my maximum loss. Ideally, I need Valeant stock to rise through both strikes by mid-January. If so, I stand to triple my money at risk. Premiums may be tricky with January contracts, but a sizable move in VRX should yield a chance for a double.
Trade #2 — The Optional Hedge: Normally, I sell puts to finance the calls. For fear of headlines, however, I currently have no faith in a floor in VRX stock under which I can sell risk. If Valeant’s price moves against the first trade, I will then evaluate the stability of the VRX stock price and consider deploying a second trade. I could try to recoup the lost premium by selling a credit put spread, but only if VRX shows established ranges. The trade metrics would need to be set if, or when, such a scenario unfolds.
It is important to note that equity markets in general are stressed and under threat of a correction. I would not expect stock in Valeant Pharmaceuticals to rise if markets are falling. So this trade fits well in a bearish-biased portfolio.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @racernic. and stocktwits @racernic.
