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Merck Option Traders Bet On Additional Downside

Puts were flying off the shelves in MRK's options pits on Tuesday

by 1/9/2013 10:15 AM
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Put players were out in full force on Merck & Co., Inc. (NYSE:MRK - 42.31) Tuesday. Roughly 17,000 contracts crossed the tape, more than double the average daily volume for put options. Bearish speculators turned their attention to MRK's back-month series of options, and scooped up more than 4,900 contracts collectively at MRK's February 41 and 42 puts. The majority at each strike went off at the ask price, implied volatility rose, and open interest jumped overnight -- pointing to the initiation of new positions.

By buying to open the out-of-the-money February 41 put for a volume-weighted average price (VWAP) of $0.44, traders will begin to profit with each step below $40.56 (the strike price minus the VWAP) MRK takes through the close on Feb. 15 -- when the options expire. Meanwhile, the near-the-money February 42 puts will become profitable once the stock breaches the $41.30 mark (strike less VWAP of $0.70). These breakeven levels are a respective 4.1% and 2.4% drop from current levels.

From a wider sentiment standpoint, it seems short-term skeptics have already been setting up camp in MRK's options pits. The stock's Schaeffer's put/call open interest ratio (SOIR) of 1.54 reveals that put open interest outpaces call open interest among options expiring in three months or less. Plus, this ratio ranks in the 96th percentile of its annual range, suggesting near-term traders have been more put-heavy just 4% of the time within the last year.

Technically, MRK has added around 10% on a year-over-year basis. However, the stock hit a rough patch in the final months of 2012, and has backpedaled nearly 12% since tapping a three-year high of $48 on Oct. 18. The equity is currently churning in a tight trading range between its 20-day moving average overhead and its 200-day moving average below.

At last check, the stock was lingering 0.3% above breakeven to trade at $42.31. Should MRK fail to retreat beneath the aforementioned breakeven levels by February expiration (a time frame that encompasses the pharmaceutical concern's fourth-quarter earnings report), the most Tuesday's put buyers have risked is the initial premium paid.


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