Facebook: Option Plays For Bulls And Bears

Published on: May 30 2012 by John Critchley

The Facebook (FB) IPO has been a disaster and there is much blame to go around. Facebook shares are currently trading at $27.05, more than 40% below the intra-day high hit during the IPO debut. The most hyped IPO in history actually turned out to be one of the worst for the investors. The main culprits have been Morgan Stanley (MS), NASDAQ and overzealous retail investors.

1) Morgan Stanley : The lead underwriters must bear some culpability for the IPO mispricing. Less than a week before the IPO, the size and price of the IPO increased. Incredibly, Facebook’s revenue forecasts were lowered during the road-show and Morgan appears to have failed to properly disclose these negative revisions. Reports are circulating that only large clients received this material information.

2) NASDAQ : The technical glitches on the first day of trading were really inexcusable. There was the delay in start of trading and a more egregious delay in customer confirmations. Surely, some of the highly paid executives must have had some inclination of the enormous demand for Facebook shares. Everyone else knew. Why weren’t better safeguards put in place?

3) Investors: Unfortunately, Facebook retail investors have garnered little sympathy in many quarters. Hype is not a reason to own a stock and many retail traders were sucked into the pre- IPO frenzy without doing their due diligence. Visions of Google (GOOG) and its post IPO stratospheric rise must have been dancing in their heads.

Emerging from all this carnage are two camps on the ability of Facebook to effectively monetize their huge customer base. We present two option plays, one bullish and one bearish. Which camp are you in? Pick your poison

A Bearish Options Play

In a comparison to the AOL/Time Warner merger that marked the beginning of the end dot com era, many believe the hysteria and wildly overvalued Facebook IPO will be looked back upon as the bubble bursting event for social media stocks.

Are you in the bearish camp towards Facebook? If so, consider long bear puts spreads instead of straight put buys. Why? The out-of- the money puts are trading at a significant implied volatility premium to the at-the-money-puts. Let’s use this to our advantage.

Let’s look at a bearish options play:

The implied volatility in the June regular options appears to be quite reasonable at the 63-65% level considering the dramatic selloff in the underlying. The range in the underlying in less than two weeks of trading is $45.00-$27.86, an astonishing 40%.

To find a decent implied volatility option play, let’s go out to the June ’16 2012 options, which present some quite compelling short term option


Trade idea -

The play: To take advantage of elevated downside implied volatility skew and to benefit from any continuing downward pressure in Facebook over the next month.

a) Buy June ’16 2012 27-24 put spread for $ .95. Receiving about 8.6% in Implied Volatility skew (buying 61.6 IV vs. selling 70.2 IV)

To finance this spread:

Let’s sell the June’16 2012 30 calls @ .40 This is approximately a 58.20% Implied Volatility.

Net debit: $.55

Risk: You will be Short the stock over $30, a 9.2 % upward move in Facebook over the next month.

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