/shutterstock_2196540615.jpg)
Today there is unusual activity in Nvidia Inc (NVDA) put options ahead of the 10-for-1 stock split which goes into effect after June 7. This highlights the fact that trading puts and calls will be easier to do for most investors.
The net result of this unusual activity is that NVDA is up about 3% today to $1,199.44 in midday trading on June 5. Moreover, in the last month and a half since April 22 when NVDA stock at $764 it has risen 56.8%. In addition, since May 22, when the company released its fiscal Q1 results, and announced the stock split, NVDA is up 26.2% from $949.50 per share.
Stock Split Effects
NVDA stock will split on a 10-for-1 basis after the close of trading this Friday, June 7. That means the stock price will start trading on Monday, June 10, at a price 90% below the close (i.e., 1/10 of the prior price).
This also means that the option strike prices will adjust commensurately. As a result, it may be easier to buy and sell puts and calls. This is because each contract represents 100 shares.
Typically the high volatility in NVDA stock meant that options premiums had high absolute dollar values. So a put premium of $12.20 now will adjust to $1.22. That means that instead of paying $1,220 for one contract, the cost will now be $122. That will encourage more trading in puts and calls.
Moreover, short sellers of puts and calls don't have to have as much capital. For example, a put strike price of $1,185 would require a new short seller starting on Monday to only have to secure with their brokerage firm $1,185 per contract shorted, instead of $118,500. The same applies to covered calls.
As a result, it makes shorting out-of-the-money puts and calls easier to do. It also allows investors to exercise puts and calls by having to secure less money.
Now wonder then today, there is highly unusual activity in NVDA puts (and some calls).
Unusual Put Option Activity
The Barchart Unusual Stock Options Activity Report today shows that there are 4 put tranches and 1 call option with highly unusual trading activity in NVDA.
The chart above shows that each of these strike prices is out-of-the-money (OTM). The puts have strike prices that are below today's price and the one call has a price above today's price. Note that every one of these tranches also has a June 7 closing expiration date.
The unusual activity can be seen in that the number of contracts is as much as 83x the outstanding contracts before today.
Here is what I think is going on. Traders are likely taking advantage of the high options premiums by shorting them. For example, the first tranche, shows that the bid premium is $14.10 for an OTM $1,190 strike price expiring on Friday. That provides the short seller with an immediate premium yield of 1.18% (i.e., $14.10/$1,190).
The same is true for the others. The $1,185 put tranche has a $12.20 premium on the bid side. That provides an immediate 1.03% yield to the short seller. The $1,180 put tranche provides a short seller an immediate yield of 0.885% (i.e., $10.45/$1,180).
Remember these are yields that are good for just 2 days. So, annualized they are very high.
The call option tranche provides a short seller (probably a covered call seller) with an immediate yield of $1.81/$1,199.18, or 0.15%. However, the strike price is $1,275 or 6.3% over today's price. That provides a high potential return even if the stock rises to that level.
Why NVDA Stock Could Still Rise
I discussed why NVDA stock still looks cheap in my prior two Barchart articles. I discussed in my May 29 Barchart article that NVDA stock could be worth as much as $149 post-split.
The reason has to do with the company's powerful free cash flow (FCF). I explained this in the May 24 article: “Nvidia's Massive FCF Margins Could Make it Worth 45% More at $150 P/Sh Post Split.”
I used a 53.5% free cash flow (FCF) margin on a next 12-month (NTM) revenue forecast of $137.69 billion. That results in an NTM FCF estimate of $73.66 billion. Next, a 2.00% FCF yield metric produces a forecast $3,683 billion market cap (i.e., $73.66b/0.02).
This is still 24.9% over today's $2.95 market cap. In other words, NVDA stock could be worth $149.78 (i.e., 1.249 x $119.92) post-split. However, keep in mind that this could take at least a year to occur.
Moreover, as analysts' revenue forecasts rise going forward, and assuming its FCF margins hold up, the price target could rise.
The bottom line is that NVDA stock still looks cheap here and options traders are trying to take advantage of the upcoming 10-for-1 stock split.
On the date of publication, Mark R. Hake, CFA did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
