Time to Short This Blue Chip?

Caterpillar tends to lag in the November-to-April period, relative to May through October

Karee Venema
Nov 9, 2017 at 10:12 AM
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Caterpillar Inc. (NYSE:CAT) has been running up the charts over the past 10 months -- up 47% year-to-date, and one of the best Dow stocks so far in 2017. However, this upside momentum could soon stall out, if history is any guide. And with short-term options attractively priced at the moment, it may be a good time to buy puts on -- or short -- CAT stock.

Taking a closer look at Caterpillar's technical backdrop, The shares shot to a record high of $140.44 on Oct. 24 after the company's impressive earnings report. More recently, CAT was seen at $136.02 -- down 0.9% in early trading. Considering the equity's 14-day Relative Strength Index (RSI) closed last night at 77, deep into overbought territory, a short-term pullback may have been in the cards.

Echoing expectations a near-term slowdown is the fact that CAT is among the top S&P 500 Index (SPX) stocks to underperform in the six-month November-to-April period versus the May-through-October stretch. Per data from Schaeffer's Senior Quantitative Analyst Rocky White, Caterpillar has averaged a May-to-October return of negative 0.17% since 2010, compared to a much wider loss of 4.88% from November through April.

Given the stock's long-term uptrend, sentiment among options traders is overwhelmingly bullish -- and could create tailwinds for CAT on an unwind situation. At the International Securities Exchange (ISE), Chicago Board Options Exchange (CBOE), and NASDAQ OMX PHLX (PHLX), speculative players have bought to open 17,179 calls in the last two weeks, compared to 13,537 puts. The resultant call/put* volume ratio of 1.27 ranks higher than 94% of all comparable readings taken in the past year, meaning calls have been bought to open over puts at a quicker-than-usual clip.

Regardless of whether it's puts or calls, though, it's a prime time to buy premium on short-term CAT options. While the stock's Schaeffer's Volatility Index (SVI) of 18% ranks below 95% of all similar readings taken in the past year -- implying low volatility expectations are being priced into near-term contracts -- Caterpillar's Schaeffer's Volatility Scorecard (SVS) is perched at a lofty 89. In other words, the equity has made outsized moves over the past year, relative to what the options market has expected.

*This sentence originally described the ratio as "put/call." We regret the error.


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