Undiscovered Gem: Option Traders Turn on to Metalico

              

Although its name is dangerously close to that of a rock band that I find particularly offensive on the ears, Metalico (MEA) has nothing to do with big-haired musicians from the Eighties. However, the company does have a little something to do with metal, making it the latest in a string of Undiscovered Gems that have a foot in the high-flying commodities sector.

A Little Background

As companies go, Metalico (MEA: sentiment, chart, options) is a relative youngster. MEA was founded in 1997, according to Yahoo!Finance, and is based out of New Jersey. The firm engages in ferrous and non-ferrous scrap metal recycling and lead-based products fabrication activities in the United States.

With a market cap of just $470 million, MEA also stands out as a small company with room for growth. To that end, MEA recently completed its acquisition of Snyder Group, a multi-yard scrap metal recycling operation, for $69 million in cash and $7 million in common stock.

Outpacing the Broad Market

During the past 52 weeks, MEA collected a gain of 106.7%, compared to a loss of 6% for the S&P 500 Index (SPX). The equity continues to outperform the broad-market barometer, and boasts a 20-day relative-strength reading of 126%. In other words, MEA has outperformed the SPX by 26 percentage points during the past 20 trading days. The recently strong price action continues MEA's long-term trend of besting the SPX, which has been in place since late 2006.

MEA shares started on their current uptrend back in October 2006. Since then, the equity has created a string of higher highs and higher lows, capitalizing on support from their 10-week and 40-week moving averages to do so. After breaking through resistance from the 13 level, MEA is now looking to conquer the 14 region.

The "Undiscovered" Part

Despite MEA's undeniably strong price action, many investors and analysts have yet to jump on the shares. For starters, option players have barely had a chance to weigh in on the shares, since they became optionable just a few days ago. The equity's Schaeffer's put/call open interest ratio (SOIR) checks in at 2.0, indicating that there are 2 times more puts than calls among near-term options.

Before we get overly excited about this apparently mega-bearish reading, though, we should note that MEA's total, near-term open interest consists of 3 contracts: 2 puts, and 1 call. Looking out at longer-term options, there's a bit more activity happening in the October series. Here, the 12.50 call hosts peak open interest of 3,120 contracts. Meanwhile, there are 275 contracts open on the October 15 call, and this out-of-the-money strike has traded volume of 2,096 contracts so far today. Most of this volume should translate to new open interest tomorrow.

As MEA options continue to grow in popularity, it could be a boon for the shares as buyers find an alternative route to bet on the equity's uptrend. However, it's likely that these contracts will continue to be relatively illiquid for some time to come. Since a lack of liquidity can make it difficult for traders to enter and exit a trade at their desired levels, it might be best to shy away from these thinly traded options for now.

Elsewhere, there's room for the company to draw more bullish attention from analysts. Zacks reports that MEA has just 2 ratings from brokerage firms, both of which are "strong buys." Considering the stock's fundamental and technical strength, these bullish endorsements seem well-deserved. In fact, following the company's strong first-quarter earnings report, Morgan Joseph stepped up to reiterate its optimistic stance on MEA. Any new initiations or positive comments could draw new buyers to the table and support further gains in the stock.

Finally, MEA could gain from a running of the bears. During the most recent reporting period, short interest on MEA ramped up by nearly 40%, and now accounts for about 9% of the equity's total available float. At MEA's average daily trading volume, it would take about a week's worth of trading days for all these bearish bets to be repurchased. As the stock looms near all-time highs, some of these short sellers might be forced into covering their losing bets to limit losses. A surge in short-covering activity is yet another factor that could benefit this under-the-radar security.

Do you have a stock that you would like to see featured as an "Undiscovered Gem?" If so, feel free to email me and I'll do my best to cover the stock in a timely manner. Also, to read more of our analysis on the market's biggest stories, please visit our Schaeffer's Daily Market Blog section throughout the trading day.