

Amazon's Phone Worth a Call—and a Put

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But if Amazon doesn't come through as rumored with a mobile phone with a 3-D display, the stock could sink faster than critics can point to the online retailer's elusive profits.

These facts are not lost on Goldman Sachs' derivatives strategists. They are advising their clients to use a trading strategy that pays off if Amazon's stock rises or falls. (Goldman also added Amazon to its "conviction list" of stocks Wednesday.)

Various measures of Amazon's options prices suggest the stock could move $14.15, up or down, on the product news. While that would be a big stock move, Amazon's implied volatility is muted.

Goldman says Amazon's options that expire in one month have an implied volatility of 28%, 13 percentage points below one-month realized volatility. This suggests the options market is pricing Amazon's stock without a fear or greed premium.

With Amazon's stock at $332.41, Goldman Sachs' strategists advised clients to buy June $330 puts and calls that cost $14.15. The recommended trade is an example of a "straddle" strategy that investors use when they think a stock will make a move but are uncertain of the direction. To determine the stock's expected move, investors use the price of the straddle to calculate the options-market's expectations for that move.

The major drawback to straddles is the associated stock must move more than the price of the straddle. If Amazon's stock moves less than the cost of Goldman's trade, the money spent on the puts and calls is lost.

This is why many investors usually prefer simply to buy a bullish call or bearish put to express a single directional view. This preference is reflected in Amazon's overall footprint in the options market.

The most widely held Amazon options are those that increase in value if the $329.74 stock crosses $400 by October to January. Amazon's 52-week high of $408.06 was set January 22.

The shares were down 1.6% Thursday morning, however, after news that the company would add a streaming music service to its Amazon Prime package, an announcement that apparently underwhelmed the stock's fans.

Comments: steve.sears@barrons.com

