Cypress Options Present Opportunity
January 5, 2009 by Timothy Zimmer
Filed under Market News
Cypress Bioscience, Inc. [[CYPB]] has been a strong performer in recent weeks, moving up over 20 percent during the past four weeks. The biotechnology firm’s newest drug candidate in Phase III trials, milnacipran, is set to receive FDA approval during the first quarter of 2009. Given the data from the third positive Phase III trial, many analysts and investors are confident in an FDA approval of the drug. Many investors expect this to be a transformational event for the drug company as it will become almost immediately profitable based on royalties from partner Forest Labs [[FRX]].
The key FDA decision has also created another opportunity in the firm’s call options. Traders looking to profit from a FDA approval without taking on the risk of stock ownership are flocking to buy call options. As a result, call options on Cypress Bioscience’s stock are trading at a sharp premium given the current stock price. Investors confident in an approval may want to consider writing a covered call in order to maximize their upside over the next quarter when the decision is expected to be made.
Cypress Biosciences stock is now trading $7.48 per share while the $7.50 January 2009 call options are trading at $1.10 per contract. This means that investors can purchase 100 shares of stock for $748, write call options for $110, and make an immediate 14.7% return on their money instantly! The downside is that the investor would be forced to sell their shares if the stock rose above $7.50 when the FDA decision is made.
Investors looking to increase their returns using this strategy may want to consider using long-term options called LEAPS as a stock substitute. Currently, the January 2010 $5.00 LEAPS calls are trading for $3.30 per contract. This means that instead of spending $748 to buy 100 shares, investors can purchase the long-term rights for just $330. Once the same January 2009 calls are written, this jumps the return on investment to 33% compared to just 14.7% using the underlying stock.
See “A Better Covered Call Alternative” for more information on this strategy or check out our Covered Call Calculator software for a way to quickly find opportunities like this one.
Roger on Mon, 12th Jan 2009 12:44 am
Great covered call but the other alternative involving LEAPS could result in a loss if the 7.50 call is exercised by the buyer. Am I overlooking something?