Block Stock’s Unusual Options Activity Offers Something for Both Bulls and Bears

Investors did not like what they heard from new Federal Reserve Chair Kevin Warsh on Wednesday. As a result, the S&P 500 lost 1.21%, the Dow was off 0.98%, and the Nasdaq Composite lost 1.34%.

The key near-term comment from Warsh was that the Fed was holding interest rates steady. That’s not what tanked the markets. Rather, it was Warsh’s comments about how the Fed will communicate its future monetary policy guidance. 

“‘Both in what he said and really chose not to say showed to the market and to the Fed watching community that the way the Fed is going to communicate moving forward is going to change appreciably,’ said Joseph Purtell, a portfolio manager at Neuberger Berman,” The Globe and Mail reported Purtell’s comments.

Less transparency means more surprises around future rate cuts and hikes, which will likely lead to greater market volatility. Strap in and hold on for the ride. 

In yesterday’s options trading, Block (XYZ) had average volume on the day. However, the fintech’s five unusually active options, all expiring in 15 days or less, offer several possible multi-leg trades for bulls and bears that won’t break the bank. 

Block’s 5 Unusually Active Options

As you can see from above, the calls outnumber the puts 4 to 1, with all but the July 2 $81 call expiring a week from Friday. I rarely discuss short-duration options of less than 30 days, but given I’ve always thought Block has a good business with Cash App and Square, it’s time to think near-term for a change of pace.

While the five options didn’t have massive volume yesterday, they still accounted for 22% of Block’s total of 25,000. Of the 18 trades of 100 contracts or more, five involved the five unusually active options from above. 

Of the five trades of 100 or more, these two calls stand out. Given identical timestamps, this is a near-term, bullish directional bet by an institutional or professional trader. It is one of three possible multi-leg trades from yesterday’s unusual options activity.  

The Bull Call Spread

First up are the June 26 $78 and $82 calls from above.  

The Bull Call Spread is a bullish bet in which you expect the share price to rise. In this case, you’re buying the $78 call long and selling the $82 call short for a premium to offset the cost of the $78 long call.

Based on the numbers in the introduction, which were from yesterday’s trades at 10:04 a.m., the net debit was $0.61 [$0.87 - $0.26]. As I write this on Thursday morning, the net debit is six cents lower at $0.55. 

More importantly, the maximum profit of $3.45 is significantly higher than the maximum loss of $0.55. The institution or pro is spending 16 cents for a potential $1 profit in slightly more than a week. While the odds are low that they’ll achieve maximum profit, the $78.55 breakeven is already looking good as it’s up nearly 3% today. 

The annualized return based on the maximum profit is 28,619.2% [627.27% maximum profit * 365 / 8]. It’s a Hail Mary for sure, but a good one nonetheless.  

The Short Strangle

Next up are the June 26 $78 call and June 26 $71 put. 

The Short Strangle is neither bullish nor bearish, but neutral directionally speaking. It is a bet that Block’s volatility will decrease and its share price will trade within a specific range. In this scenario, the strategy involves selling the $78 call and the $71 put for a net credit of $1.31.

The net credit is also the maximum profit. If the share price at expiration next Friday is between $69.69 and $79.31, you pocket the $131 [$1.31 net credit * 100]. With an expected move, up or down, of just 4.68%, the likelihood of being between the two breakevens is slightly over 50%.

It’s important to note that the maximum loss is unlimited. Let’s say Elon Musk decides to use some of his many billions to buy Block at a 50% premium, and the announcement happens a week from today. That puts the purchase price at $110. Assuming it shoots up close to that, your loss would be approximately $30.69 [$110 share price - $79.31 breakeven]. 

The odds of this happening are slim, but definitely not zero.  

The Call Ratio Spread

The final strategy involves the June 26 $78 and $83 calls. 

The Call Ratio Spread involves buying one call, in this case the $78 strike price, and selling 2 $83 calls for premium. This strategy is used when one believes the share price will move sideways or trend slightly higher over the next eight days. It’s not something you want to do if you think the shares are ready to jump much higher, like the investor in the bull call spread earlier.  

So, in this situation, the net debit is $0.54 [$0.74 ask price for $78 call - 2 * $0.10 bid price for $83 call]. Using the 2 short calls effectively reduces the cost of the long call by nearly a third. Your downside risk is limited to the $0.54 net debit. That’s the good news. 

The bad news is that the potential upside risk is unlimited. Should the share price jump to $110, based on my theoretical Elon Musk buyout from the short strangle strategy earlier, your loss would be $2,254 [($110 share price - 1 long $78 call - $0.74 ask price) - ($110 share price - 2 * short $83 calls - 2 * $0.10 bid price) * 100].  

As I said previously, the likelihood of Block’s share price getting anywhere near $110, or even $83 for that matter, in eight days, is also unlikely. 

The maximum profit of $446 [$83 strike price - $78 strike price - $0.54 net debit * 100] would be if the share price is right at $83 at expiration. That’s an 825.9% return, or 37,682% annualized. 

I think it’s safe to say this particular strategy is for advanced options investors only.