Hedge Your Bets on Target with LEAPS

Target Corporation (NYSE: TGT) may be hurting from lower retail sales, but at least one investor has found value in the stock. Pershing Square’s Bill Ackman believes that the real estate under Target’s stores could be worth much more than its current market capitalization. As a result, the activist investor proposed spinning off the land into an REIT that would lease it back to unlock value.

The problem with the plan is that it is seen by Target as being risky in today’s environment. The new REIT may have a great renter and properties collateralized by hundreds of millions of dollars in buildings, but the retailer that is left over may be left in a weaker position. As a result, Pershing Square opted to wait until after the holiday season was over before resuming discussions.

The season is now over and investors are left with a predicament. The retail sector is expected to have one of the worst holiday seasons ever, which has pushed down shares of all retailers. However, Pershing Square’s analysis has clearly shown substantial value in Target’s real estates. So, how can investors get exposure to Target while reducing the risk of further declines in retailers?

The answer is simple: Hedge your bets using broad industry indexes! The Retail HOLDRs (NYSE: RTH) exchange traded fund is considered to be the best retail industry index. Investors looking to hedge against a decline over the long run may want to purchase LEAPS puts to hedge out their retail exposure. Currently, the $70 January 2011 LEAPS puts are trading for just $14.90 per contract. This means that investors can purchase roughly 100 contracts to offset every 200 shares of Target.

The resulting position is one that is hedged against a decline in the retail sector. As a result, investors can only make money when Target outperforms the retail sector as a whole and lose money when Target underperforms the retail sector as a whole. Since Target’s real estate is undervalued, this outperformance will occur when the value is unlocked over the next two years.

See “Using LEAPS as a Hedge” for more information on this strategy or take a look at our Tools & Products for more ways to make money!

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