Dynavax Options Trade for Heplisav FDA Approval Decision

NEW YORK ( TheStreet) -- Dynavax ( DVAX) has an FDA approval decision date of Feb. 24 for its hepatitis B vaccine Heplisav. Last November, Dynavax shares were cut in half due to a mixed vote from an FDA advisory panel. I wrote about this panel and paired it with an interesting option trade.

Since then, Dynavax shares have climbed to $3, a 40% increase, yet still trade under last year's highs in the $5 range. If FDA approves Heplisav, I expect the shares to trade at least above $4. To trade the FDA approval from a bullish perspective, a potentially profitable options trade using is to do the following:

Buy 10 MAR 2.50 strike Calls at $1.00 = $1,000 Debit

This opening trade is fairly straight forward as we are simply buying in-the-money Calls. The total risk at this point is the amount paid for the Calls, or in the example, $1,000. I chose the Calls over buying the shares outright simply due to risk management. If the company receives a Complete Response Letter (i.e. the FDA does not approve Heplisav), I expect the shares to drop below $1.50. (Dynavax has about 75 cents per share in cash. Buying the shares could represent more risk as the downside of owning 1,000 shares at $3.00 could expose me to at least $500 in additional losses compared to the losses on the Calls, which is capped at the amount of the debit, or $1,000.

This trade includes a lot of optionality, or ways to adjust the original position due to changes in the share price. If the shares run up into Feb. 24 decision date, I maintain the option to sell the Calls at a profit. An alternative, risk-reducing trade that maintains some upside under this scenario would be to do the following:

Assume a pre-FDA decision run up in Dynavax to $3.75 per share -- not overly aggressive as the shares recently traded as high as $3.50.

(Still holding) 10 MAR 2.50 Calls at $1.00 = $1,000
Sell 20 MAR 5 strike Calls at $0.50 = $(1,000)
Buy 10 MAR 6 strike Calls at $0.30 = $300
(Adjusted P&L) = $300 Debit

Here's the Risk P&L Diagram for this trade:

With this adjustment, total risk in the position is decreased from $1,000 to $300. Despite this reduction in risk, we still maintain upside in the position. Maximum profit is $2,200 if the shares trade to $5 by expiration. If they trade at any point above $6, maximum profit is $1,200. If DVAX receives a Conplete Response Letter and the shares crash to below $1.50, we only lose $300.

Pelz has no position in Dynavax.

To learn more about using options to trade biotech catalysts, check out Tony Pelz's book, The Biotech Trader Handbook.