Twice-bitten options traders wary of Cisco
By Angela Moon
Options investors scrambled to rebuild bullish trades on Cisco Systems Inc (CSCO.O) a day after botching their bets on the post-earnings move in the shares for a second straight quarter.
Coming into the report, the options market was looking for modest volatility. But traders were blindsided when the tech bellwether's dismal outlook sent its shares plunging 16.2 percent, the worst one-day loss in 16 years.
Investors were bullish on Cisco because the tech sector has been a top performer during earnings reporting periods. They believed CEO John Chambers would be more optimistic about tech sector spending, not expecting a repeat of three months ago, when Cisco shares slumped 10 percent after lackluster earnings.
"Cisco is saying that this is a one-quarter thing, but who knows? Options traders are definitely going to be a lot more cautious from now on, probably all the way through next earnings," said Ryan Detrick, senior technical strategist at Schaeffer's Investment Research in Cincinnati, Ohio.
Options investors are likely to take a different approach just before earnings reports in coming quarters, but that did not stop them from making more bullish bets late Thursday due to Cisco's lower price.
"It looks like investors are scooping up cheap calls at deep out-of-the-money strikes, which could result in significant profits in the event that CSCO's shares reverse course before the end of the year," wrote Caitlin Duffy, equity options analyst at Interactive Brokers.
Options expiring in November, December and January 2011 were among the more sought-after contracts, Duffy said.
Headed into Wednesday's announcement, the options market was betting on a move of about 5 percent in the shares, with some prominent strategists, including Goldman Sachs, advising investors to sell volatility on expectations the shares would stay range-bound.
Joseph Cusick, analyst at online brokerage optionsXpress in Chicago, said the unexpectedly large drop will trigger more traders to make bets on the percentage move rather than a directional move on the stock in coming quarters.
"Instead of just buying calls because you are bullish or puts because you are bearish, more traders are going to use strategies like wider spreads and buying out-of-the-money calls and puts, to prepare for a more violent move rather than betting on a move up or down."
Bullish options investors had bet the stock could rise to about $24-$25 after earnings. The most active options on Thursday were the Nov $20 puts and Nov $21 calls that expire next week.
Options volume on Cisco was about 10 times the average norm just 2 hours into trading, according to Fred Ruffy, options strategist at WhatsTrading.com, as traders scooped up bearish options that expire next week.
The stock's slump sent the Nasdaq index .IXIC down more than 1 percent on Thursday.
Options activity in Powershares QQQ Trust Series 1 fund (QQQQ.O), an exchange-traded fund that tracks the Nasdaq 100 index, was also affected by the sharp decline in Cisco shares, with put buying activity dominating the morning trade. But traders said the impact would be short-lived.
"It may not impact the complete technology sector ... it is much more of a Cisco-specific story," said Kenneth Polcari, trader with ICAP Corporates on the NYSE floor.
The heaviest activity on the Nasdaq ETF were the $53 weekly put options that expire on Friday. The ETF was down 1.1 percent at $53.12.
(Reporting by Angela Moon; Editing by Diane Craft and Dan Grebler)
Credit: Reuters
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