Options Heat Up as 2 Airline Stocks Get Iced

Evercore ISI handed out price-target cuts for United Continental Holdings Inc (NYSE:UAL) and Southwest Airlines Co (NYSE:LUV)

by Kirra Fedyszyn

Published on Jun 13, 2016 at 3:49 PM

Airline stocks are taking it on the chin today, after brokerage firm Evercore ISI cut its outlook on numerous stocks across the sector, saying, "There is no evidence (yet) of improved pricing for U.S. airlines, in our view." Among those feeling the heat are United Continental Holdings Inc (NYSE:UAL) and Southwest Airlines Co (NYSE:LUV) -- which are both attracting unusual options action as their shares suffer.

UAL is down 3.8% at $44.35, after Evercore ISI cut its price target on the stock to $60 from $70. Since hitting a year-to-date high of $61.41 on March 21, the shares have given up nearly 28%. What's more, heading into today's trading, UAL had underperformed the broader S&P 500 Index (SPX) by about 24 percentage points over the past three months.

Nevertheless, sentiment toward the stock has been mostly upbeat. For starters, short interest accounts for less than 5% of UAL's available float. Meanwhile, more than half of the 11 analysts providing coverage maintain a "strong buy" recommendation, without a single "sell" to be found.

Options traders have been optimistic, too, buying to open three UAL calls for each put over the past 10 weeks at the International Securities Exchange (ISE), Chicago Board Options Exchange (CBOE), and NASDAQ OMX PHLX (PHLX). Plus, the resulting call/put volume ratio of 3.12 ranks higher than 80% of the past year's readings.

Today, however, UAL puts are trading at twice their expected intraday rate, nearly keeping pace with calls. It looks as though buy-to-open action could be occurring at the stock's June 43 and July 41 puts, as well as the weekly 6/24 42-strike put, as an unusual batch of option bears bet on a continued slide. Still, the most active option by far is the July 45 call, where it appears that traders are purchasing new positions, betting on United Continental Holdings Inc to rally above $45 over the next five weeks.

Meanwhile, Evercore ISI lowered its price target on LUV to $47 from $50, sinking the shares 2.8% to $42.41 -- just south of their year-to-date breakeven mark. Still, LUV is ahead 24% year-over-year, and has been enjoying support from its 320-day moving average in recent months. Two-thirds of analysts currently rate the stock a "strong buy," while short interest fell 12.5% during the most recent two-week reporting period -- and now represents just 1.5% of the stock's total float.

Short-term options traders, meanwhile, are more put-heavy than usual toward the security. LUV's Schaeffer's put/call open interest ratio (SOIR) has spiked to 0.74 -- its highest level since mid-February. And while this reading shows calls still outnumber puts on an absolute basis among options expiring in three months or less, it also sits in the 94th percentile of its annual range.

Today, both calls and puts are changing hands at a slightly accelerated clip. Taking the top two spots are LUV's June 42 and 43 calls, and it looks like buy-to-open action may be happening at both of these strikes. If so, buyers are expecting Southwest Airlines Co to rally back the above strike prices by the close this Friday, when front-month options expire.

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