Alibaba Group Holding stock has fallen 10% from its recent record high as investors ditched it and shares of other Chinese companies amid an intensifying trade dispute. But options investors don’t seem to be fazed by the recent slump.
Weighing the final impact of any trade retaliatory measures is challenging. Tariffs can be specific and hard to predict or so wide-ranging as to disturb even swaths of the market like small-cap stocks that have remained isolated.
The uncertainty has meant the market has fluctuated between ignoring trade fights and appearing to rise and fall in line with headlines on tariffs. Even with the prospect of intensifying trade conflicts on Monday, the Shanghai Composite recorded its biggest one-day point gain since February, while the Dow Jones Industrial Average finished its best day in about a month.
On Wednesday, that quickly turned as stocks around the world sank, following President Donald Trump’s promise to slap an additional 10% tariff on $200 billion in Chinese goods spanning tech gear to furniture and handbags.
Amid the volatility, the Shanghai Composite entered bear-market territory—down by roughly 20% since January’s high—and major U.S. indexes remain unsettled.
Some say that it’s time to position for a rebound in the American depositary receipts of Chinese companies like Alibaba (ticker: BABA) or internet play Sina (SINA), which have slid over the past month, as earnings approach.
Despite the recent swoon, some options traders appear bullish on Alibaba, which is poised to report earnings in August.
An options measure called “skew,” which gauges how expensive it is to protect against stock declines, is near a year-long low for Alibaba shares, Trade Alert data as of Thursday show. That indicates that traders may not be rushing to shield their stock positions, and girding for a steeper fall in Alibaba. A ratio of bearish put options versus bullish call options is also below average, according to Trade Alert. Put options confer the right to sell stock at a designated date and price, known as a “strike.” Call option contracts give investors the right to buy shares at such a strike price.
Analysts are forecasting earnings per share for Alibaba to jump to $1.30 in its first quarter, up 11% from the same period the prior year, FactSet data show. They’re also girding for sales to jump.
Investors could tap so-called bullish call spreads on Alibaba shares to position for a rebound, says Jim Strugger, a derivatives strategist at MKM Partners. This would entail purchasing a call option tied to Alibaba stock hitting $200, about 5% above where it is now, while simultaneously selling one tied to the e-commerce giant breaching $220. The two-part trade, which would cost $365 to execute, would pay off when the shares rose above the $200 mark.
At that point, investors could buy 100 shares of Alibaba at $200 for $20,000 and sell them at the current trading level, pocketing the profit or holding them for the long term.
Investors also often buy options contracts and sell them before expiration to cash in on their appreciated value rather than exercising them and buying the underlying shares.
If the investor is right about the direction of Alibaba stock and it goes up, the options would start to rise in value. Rather than exercising the options at expiration, the investor could opt to sell the options in the market instead.
Investors could also tap call options on Sina that expire in August. It would cost $215 for the right to purchase 100 shares of the company if they rose 6.5%, to $90, by then. The stock has slid 10.25% over the past month.
If the stock doesn’t cross $90, the entire investment is lost. If they rise above that, investors could purchase the shares at $90, the strike price, and sell them at their current trading level, pocketing the profit—or hold on to them for the long term.
Sina is expected to report in August.
Gunjan Banerji covers options for The Wall Street Journal.