An Outrageously Bold Bet on Revlon (REV) Has Traders Thinking

• Cosmetics and personal care giant Revlon has recently been the recipient of bullish call options trading.
• After filing for bankruptcy, REV stock has swung higher as the meme-trade phenomenon kicked in.
• Although it’s a very risky trade, it’s not without some supporting fundamentals.

While many publicly traded companies enjoyed the speculative fervor that surprisingly bolstered several industries, one sector that felt little love is cosmetics and beauty care. With people sheltering in place and benefitting from telecommuting privileges, there was little reason to put excessive effort into looking good. As a result, cosmetics giant Revlon (REV) faded badly.

Prior to the pandemic, REV stock traded firmly in double-digit territory, even during its occasional corrections. Since the COVID-19 crisis got underway, however, it’s been a struggle for Revlon shares to stay above $10 territory. Further, on a year-to-date basis, REV has hemorrhaged nearly 52%, a sign of both industry struggles and desperately fierce competition.

Unfortunately, the cosmetics manufacturer couldn’t arrest the severe decline. Along with the challenges that the pandemic imposed, Revlon failed to keep pace with shifting preferences, a challenge stemming back to the 1990s. As well, it lost ground to both blue-chip rivals like Procter & Gamble (PG) and new cosmetics lines from Kylie Jenner and other celebrities.

Finally, last month on June 16, the Associated Press reported that Revlon filed for Chapter 11 bankruptcy protection. It would have seemed to be the end of REV stock except for one small detail: the meme traders came in.

Over the trailing month since the close of the July 13 session, REV stock is up nearly 202%. Further, bullish developments in the derivatives market seemingly bodes well for Revlon.

REV Stock is the Subject of Unusual Options Activity

While not a surefire gauge, it’s always good practice to monitor unusual options activity to determine the magnitude of sentiment for particular securities. For REV stock, two entries stood out. First, traders bought up $4 call options with an expiration date of July 15, 2022, which obviously expires shortly. Second, the bulls dove into $2.50 calls with an expiration date of Aug. 19, 2022.

For the nearer-expiration call, the bid-ask spread as represented by the midpoint price ($1.70) is 11.8%. For the further-out expiration call, the spread against the midpoint price ($3.20) is nearly 6.3%. Primarily, the width of spreads aligns with the liquidity of the underlying trade. Narrower spreads are more liquid than wider spreads, indicative of greater interest among bulls and bears to participate.

As well, this metric also provides clues about the confidence that market makers have in facilitating certain transactions. While wider spreads provide more profitability for market makers, unnecessary width makes them uncompetitive. However, that extra width is necessary for financial protection if the underlying security is volatile and difficult to predictably place.

Interestingly, the further-out expiration call features a reasonably tight spread, indicating some measure of confidence. Therefore, it’s not completely irrational to wager on REV stock.

Return to Normal

Although the cosmetics sector is not really appropriate for risk-averse investors, some fundamental dynamics might shift favorably for REV stock; namely, the return to normal.

In the COVID-19 paradigm, the incentive to look presentable diminished considerably, with meetings now occurring via teleconferencing platforms. Further, one can always choose to participate through voice channels as opposed to audio and video. Again, such factors reduced the necessity for presentability.

Moreover, it’s not that much of a stretch to assume that people cared less about their personal appearance during the new normal. Primarily, the American Psychological Association reported that 42% of U.S. adults reported undesired weight gain since the start of the pandemic. Further, the average gain was 29 pounds. Under this context, it’s no surprise that REV stock plummeted.

However, the capacity to live on as digital hermits may be coming to an end soon. Specifically, management teams across the country may start axing work-from-home privileges. True, workers will invariably put up fierce resistance. But in an environment where recession fears are rising, the likelihood that employees – who invariably have fewer financial resources than well-off corporations – will capitulate first is high.

Therefore, more people will essentially be forced into the public sphere, which then benefits REV stock and the underlying cosmetics business.

Not the Easiest Bullish Narrative

Still, one note of caution is necessary. Even though the backdrop for the personal care sector may be on the verge of improving, that doesn’t necessarily mean that REV stock will automatically rise higher. Overall, Barchart.com reports that the average assessment about Revlon (using various analytical tools) is a “sell,” which isn’t surprising.

However, on a positive note, last month, the sentiment for REV stock was 100% negative. Gradually, this magnitude of negativity has dipped to 40%. Therefore, Revlon has a chance to swing higher in the near term. Just exercise extreme caution if you’re thinking about engaging this trade.

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