High Hopes Hang on Ex-High Flyer

10/26/2012 7:00 am EST

Focus: OPTIONS

Andrea Kramer

Associate Editor, Schaeffer's Investment Research, Inc.

Even though CSCO has been pounded along with the rest of the tech sector during an anemic earnings season, it seems that option traders are still keeping the faith, writes Andrea Kramer of Schaeffer’s Investment Research.

The shares of Cisco Systems, Inc. (CSCO) have given up nearly 9% so far in October, thanks to escalating concerns about IT spending. In fact, the stock is on pace to end the week south of its 10-week and 20-week moving averages for the first time since early August. Nevertheless, it looks like some options traders are gambling on limited downside for the tech titan in the short term.

During the course of Wednesday's session—in which CSCO paced the blue-chip decline—roughly 68,000 puts changed hands, more than doubling the stock's average daily put volume. Most popular was the out-of-the-money November 17 put, which saw close to 22,500 contracts cross the tape. The majority of the puts traded at the bid price, and put open interest at the front-month strike soared overnight, pointing to sell-to-open activity.

By writing the puts to open, the sellers are expecting CSCO to remain north of $17 through the next few weeks. In this best-case scenario, the puts will expire worthless, allowing the investors to pocket the initial premium received from the sale. However, should CSCO breach the strike within the options' lifetime, the put sellers could be on the hook to buy the shares at a premium to what they'd go for on the Street.

From a sentiment standpoint, CSCO is no stranger to neutral-to-bullish betting. On the International Securities Exchange (ISE), Chicago Board Options Exchange (CBOE), and NASDAQ OMX PHLX (PHLX), the stock sports a 10-day call/put volume ratio of 3.37, indicating that traders have bought to open more than three CSCO calls for every put during the past two weeks. Plus, this ratio ranks in the 65th percentile of its annual range, indicating a healthier-than-usual appetite for long calls of late.

In the same vein, the equity's Schaeffer's put/call open interest ratio (SOIR) stands at 0.54, indicating that calls nearly double puts among options with a shelf-life of three months or less. In fact, this ratio ranks in the 17th percentile of its annual range, implying that near-term options players are more optimistically aligned than usual right now.

Meanwhile, even the analyst community harbors high hopes for CSCO. The stock currently boasts 17 "strong buys" and two "buy" endorsements, compared to 13 lukewarm "holds" and not a single sell. Furthermore, the average 12-month price target on the equity rests at $21.82—in territory CSCO hasn't explored since early 2011.

As alluded to earlier, the shares of CSCO have struggled on the charts lately, underperforming the broader S&P 500 Index (SPX) by nearly 10 percentage points during the past 40 sessions. The stock surrendered 3.5% in Tuesday's session alone, swooning in sympathy with sector peer Juniper Networks, Inc. (JNPR). Despite reporting stronger-than-expected earnings and enjoying a few bullish brokerage nods, JNPR tumbled 9% on its chief executive's warning of additional demand challenges on the horizon.

CSCO is slated to unveil its own quarterly report on Tuesday, Nov. 13.

By Andrea Kramer of Schaeffer’s Investment Research

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