Options: Put-Buying in Energy Names

NEW YORK (TheStreet.com) --

By Jud Pyle, CFA, chief investment strategist for the Options News Network

Shares of commodity names Walter Energy(WLT Quote) and Massey Energy(MEE Quote) dropped substantially despite the positive GDP report, and some investors are looking for even more downside throughout the next couple months.

Massey saw significant put activity in the Oct. 24 series during afternoon trading yesterday, the bulk of which happened on the buy side (meaning more we saw more buyers than sellers). More than 15,500 of these options changed hands vs. open interest of just 316 contracts. This morning, open interest has climbed to 15,300 contracts, indicating that these puts were bought to open. These puts climbed 30 cents on the day.

The delta of the Oct. 24 puts was 23, which means the puts should move 23 cents for every dollar move in the stock. MEE shares closed down 90 cents Thursday night, and the puts should have moved 20 cents. But the presence of buyers pushed these puts up 30 cents on the day. The Oct. 24 puts had a volume-weighted average price (VWAP) of approximately $1.25, so bearish investors looking for more downside need MEE shares to expire below $22.75 to make money.

Take a look at Walter for another example of bearish put-buying. More than 7,500 Oct. 40 puts traded vs. open interest of 50 contracts. Open interest of these puts is currently 7,500 contracts. These puts closed up 43 cents on the day with the stock down $2.35. The Oct. 40 puts had a delta of 10, meaning the puts should move 10 cents for every dollar move in the underlying.

We should have seen the puts move roughly 23 cents but they closed up 43 cents, suggesting buyers pushed up the price of these options. The Oct. 40 puts had a VWAP of approximately 85 cents. Investors need WLT shares to expire below $39.15 to make money on this put purchase.

Walter and Massey shares dropped 4% in yesterday's commodities selloff. Investors should not interpret heavy put-buying in these names as a reason to empty their stash of Walter and Massey shares. Both stocks have seen a nice run throughout the last few weeks, but it looks like some investors believe these names are overbought and expect further downside throughout the next couple months.

On the other hand, the investors could be hedging long positions in Walter and Massey and buying up puts for downside protection.

written by Jud Pyle in Chicago. Pyle is the chief investment strategist for Options News Network (www.ONN.tv) and the portfolio manager of TheStreet.com Options Alerts. Click here for a free trial for Options Alerts. Mr. Pyle writes regularly about options investing for TheStreet.com.