Today’s tickers: DRI, JAVA, GS, BK, SLM & C

DRI – Darden Restaurants, Inc. – Shares of the casual dining restaurant company have surged 17% to $35.00. The operator of such restaurant chains as Red Lobster, Olive Garden, and LongHorn Steakhouse has performed better than most in the restaurant industry even in this dismal environment. DRI reported better-than-expected third quarter results and has revised its outlook for the remainder of the year as they tighten cost controls and look for profits of $2.75 in 2010 up from the 2009 estimate of $2.55. While market analysts are spewing bullish sentiment on Darden, option traders were seen flipping to the put-side of the menu. At the April 30 strike price 1,400 puts were picked up for 1.00 each. Perhaps the bearish purchase was initiated because investors do not see the good news lasting through to next month. The puts are also a better value given that call premiums have rapidly plumped with the rise in share price. Option implied volatility has spiked today from 55% to the current value at 63%.

JAVA – Sun Microsystems - When investors are armed with some kind of price sensitive information, one might conclude that it’s once way traffic. However, the trading pattern for options on much-talked about Sun Microsystems immediately after the bell was incredible. The WSJ suggested in an article earlier today that IBM was in discussions to buy Sun in order to increase its Internet presence. While the Journal noted that no deal might even occur, it did offer a $6.5 billion price tag, which values Sun at more than double Tuesday’s closing price of $4.97. So investors lucky enough to own the stock can perhaps sit back and watch its shares gravitate towards a deal price of $10.00 per share. When option traders get their paws on this kind of information, suddenly the landscape changes. Hence one trader rushed to sell 30 call options expiring in April with a 10.0 strike for a penny, while just five seconds later one bullish investor scrambled to secure buying rights for a 75 cent premium. As the morning wore on the fierce debate raged on as to first, whether a deal will be done and second, what the price will be. Those 10 strike calls are rapidly changing hands at around 30 cents per contract with an equal number of nay sayers fighting the bulls. Option traders are generally a savvy lot and are quick to buy calls that could surge in price if underlying prices rise. They are quick to sell options that they expect will expire worthless, which makes anything above a deal price worthless. April 4.0 and July 5.0 strike puts are generally on offer this morning as investors expect that even if Sun doesn’t get taken in by IBM, its prospects are brighter and that some other suitor might come sniffing around. The April 8.0 strike calls were the single most popular destination for option traders where 7,000 contracts changed hands within the first 45 minutes of trading. Option implied volatility rose today to 88% as prices heat up.

GS – General Mills Inc. – Worthy of a company reporting earnings today, options implied volatility slipped to reflect the typical sigh of relief post earnings. EPS at 85 cents per share fell short of the 88 cent expectation while the company cited higher input costs and a strong dollar for the weakness. Despite offering a marginally better outlook for the year, that fell short of Wall Street’s estimate and so shares slipped 9% to $48.86. However, option traders appeared a little more forgiving and scooped up 2,800 April call options at the 50 strike for around 1.30 each, where premiums are down drastically from 4.20 yesterday. There appeared to be a greater willingness to write put options expiring next month at the 45 strike for a premium of 70 cents. Anyone selling puts would retain the full premium unless by expiration shares had lost a further 10% to $44.30. One thing working against the bulls who like staple companies such as General Mills is evidence that retrenching consumers are prone to ditch brand names in favor of discounted food products offered under generic labels. Shares today breached an existing 52 week low.

BK – Bank of New York Mellon Corp – Shares have rallied 4.5% to $25.65 amid reports that BK management is unlikely to reduce its 96 cent annual dividend. BK has tended to outperform the struggling financial sector. A bellwether for financials, the XLF (Financial Select Sector SPDR) ETF, has experienced a 64% drop as compared to BK’s 43% decline in share price over the past year. A couple of noteworthy trades were enacted by one highly particular investor. While the volumes traded to the middle of the market we believe this option trader has initiated near-term bullish plays in the March and April contracts. At the March 25 strike price 9,462 at-the-money calls appear to have been purchased for 55 cents each while puts at the April 22.5 strike price saw 9,462 sold for a premium of 1.65 apiece. This investor receives a credit on the trade of 1.10 and looks to be crossing his fingers that shares will remain above $25 by Friday. This investor will be able to exercise his call options on Friday if shares can remain at or above $25 in order to get long of the stock. We believe that this investor has accepted the 1.10 premium for bearing the risk that shares now fall below the strike price in March, leaving him short of 9,462 puts in the April contract. However, if shares continue to rally this investor will not need to worry about the out-of-the-money puts, and he will bank the 1.10 premium at expiration.

SLM – SLM Corporation – Shares of the provider of student loans, more commonly known as Sallie Mae, have slipped slightly by less than 1% to stand at $4.45. At the March 5.0 strike price investors shed more than 12,000 call options for a premium of 5 cents per contract. The delta on the out-of-the-money strike yields a 1-in-4 chance that the calls will land in-the-money by Friday. Thus, investors who are bearish on SLM are likely banking 5 cents today rather than wait for the options to expire worthless in two days. Option implied volatility has come off over the past week from 175% to the current value at 149%.

C – Citigroup Inc. – Shares are being squeezed once again today and the company has a valuation some 23% higher today with shares stretching above $3.00. Intrigue continues in the June 5.0 strike options where arbitrageurs are using conversion plays that typically land a credit to take advantage of the squeeze. The volume in that line has more than 150,000 contracts trading both sides today with puts bought and calls sold when investors can position long of the stock. Earlier in the week rumors did the rounds that the authorities might be on the hunt for hard-to-borrow stock certificates in select financial names. This in itself has created a surge at AIG and Citigroup as desperate short-sellers try to cover their positions. The conversion trade could be established earlier in the week for a credit of 20 cents, but given the near-panic buying in the stock has shifted to a 1.10 cost to traders.

Andrew Wilkinson

Senior Market Analyst

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