Here's your chance to 'strangle' Twitter

Options trading starts Friday for the social media company, giving investors a chance to make inexpensive bets on the stock's future.

By MSN Money Partner Nov 15, 2013 1:15PM

Credit: © Kacper Pempel/Reuters
Caption: People holding mobile phones are silhouetted against a backdrop on which the Twitter logo is projectedBy Doris Frankel, Reuters


CHICAGO -- Traders itching to "strangle" or "straddle" the newly launched shares of Twitter (TWTR) will finally get their chance on Friday when trading in the social media company's options launches on U.S. exchanges.


Just over a week after the stock's initial public offering and debut on the New York Stock Exchange, options market makers will begin pricing and trading contracts to buy or sell Twitter shares at various prices in the future.


Options are an increasingly popular way to make inexpensive bets on the direction a stock may take or to hedge existing positions in the shares. The market is rife with strategies bearing colorful names such as "strangles" and "straddles," which are bets on volatility, or even "iron condors," which wager that a stock will remain in a tight range.


Given the high level of publicity surrounding the IPO last week, Twitter's options are expected to be popular. But because of the stock's limited trading history, market makers will be challenged to price its puts and calls in the early going after the market opens at 9:30 EST.


"The trading of Twitter puts and calls will be tricky at first," said Brian Overby, senior options analyst at online brokerage firm TradeKing based in Fort Lauderdale, Florida.


The gap between bid and ask prices on the contracts, known as the spread, is expected to be wide at first, Overby said.


That could contribute to choppy trading in the first several days.


The behavior of the stock, and by extension the option prices, will likely be very unpredictable, said Brent Archer, senior options analyst at options research firm InvestorsObserver.com, in Charlottesville, Virginia. "If we look back to Facebook (FB) that stock took about three weeks before it settled down into a defined range."


Volume should be robust, but some traders expect turnover to be below Facebook Inc.'s launch, given the micro-messaging company has a smaller number of shares and market value.


More than 365,000 contracts changed hands in Facebook's option debut on May 29, 2012, a record for the first day of option trading on a stock, according to Trade Alert. Trade Alert president Henry Schwartz expects Twitter, based on its stock volume, to trade 150,000 to 200,000 contracts on Friday.


Twitter, with a market capitalization of roughly $24 billion, is roughly a fifth the size of Facebook, valued at close to $120 billion. Twitter's IPO raised just $1.8 billion, compared with Facebook's massive, $16 billion offering.


Twitter has a smaller float compared with Facebook, and its market capitalization is lower, so it will most likely have less participation from the options market compared with Facebook just because the market will not be the same, said Steve Place, a founder of options analytics firm investingwithoptions.com.


What's more, the early weakness following Facebook's disastrous initial public offering in May 2012 brought out options participants ready to make bearish bets on the stock.


"Option players were willing to pay up for Facebook puts compared to calls because its shares were hard to borrow, and we may see the same situation in Twitter," Overby said.


Traders will sometimes use options on a stock to express a short bias when shares are difficult to borrow.


A major uncertainty in the early stages of Twitter options trading will be the determination of their implied volatility, a key component of an option's price. That measures the perceived risk for future stock movement and will allow participants to compare the risk in Twitter shares relative to social media peers and other stocks.


Place expects Twitter to trade with a higher volatility compared with Facebook or more mature social media stocks such as LinkedIn (LNKD). 


"A comparison of past social media stocks leads me to believe that Twitter options will open up with an implied volatility of around 60 to 70 percent," Place said.


Facebook options made their debut in May 2012 with an implied volatility near 60 percent and LinkedIn's were above 70 percent when its options trading launched in May 2011, according to Reuters data.


The hardest job for market makers with IPO option contracts is getting the implied volatility number right for each expiration available, Overby said. "This is because there's very little historical stock price data to go on."


Since Twitter went public on Nov. 7, the shares have ranged from $39.40 to $50.00. They closed at $44.69 on Thursday.


Some expect Twitter option premiums to be very high at first. "I would focus on selling premium, which we anticipate to be elevated due to the unpredictability," Archer said.


More from Reuters

1Comment
Nov 15, 2013 3:53PM
avatar
what is twitter? bull crap just like facebook get out side and have some fun
Report
Please help us to maintain a healthy and vibrant community by reporting any illegal or inappropriate behavior. If you believe a message violates theCode of Conductplease use this form to notify the moderators. They will investigate your report and take appropriate action. If necessary, they report all illegal activity to the proper authorities.
Categories
100 character limit
Are you sure you want to delete this comment?

DATA PROVIDERS

Copyright © 2014 Microsoft. All rights reserved.

Fundamental company data and historical chart data provided by Morningstar Inc. Real-time index quotes and delayed quotes supplied by Morningstar Inc. Quotes delayed by up to 15 minutes, except where indicated otherwise. Fund summary, fund performance and dividend data provided by Morningstar Inc. Analyst recommendations provided by Zacks Investment Research. StockScouter data provided by Verus Analytics. IPO data provided by Hoover's Inc. Index membership data provided by Morningstar Inc.

STOCK SCOUTER

StockScouter rates stocks from 1 to 10, with 10 being the best, using a system of advanced mathematics to determine a stock's expected risk and return. Ratings are displayed on a bell curve, meaning there will be fewer ratings of 1 and 10 and far more of 4 through 7.

114
114 rated 1
278
278 rated 2
474
474 rated 3
641
641 rated 4
639
639 rated 5
663
663 rated 6
640
640 rated 7
499
499 rated 8
284
284 rated 9
122
122 rated 10
12345678910

Top Picks

SYMBOLNAMERATING
COPCONOCOPHILLIPS9
TAT&T Inc9
VZVERIZON COMMUNICATIONS9
KOGKODIAK OIL & GAS Corp9
CVXCHEVRON CORPORATION8
More

VIDEO ON MSN MONEY

ABOUT

Top Stocks provides analysis about the most noteworthy stocks in the market each day, combining some of the best content from around the MSN Money site and the rest of the Web.

Contributors include professional investors and journalists affiliated with MSN Money.

Follow us on Twitter @topstocksmsn.