There’s little doubt that BlackBerry Ltd. is in palliative care. Management has set up a committee and hired two advisory firms to seek “strategic alternatives,” including the possible sale of the company. There’s also a sense of urgency, with all signs pointing to a November timeline for the endgame in this tragic story.
And a specific timeline with an uncertain outcome is fodder for options traders. This fact is not lost on the market, with BlackBerry options trading at 60%-plus implied volatilities. (That implied volatility is in the top quartile of all Canadian options.)
For some perspective, think about volatility in terms of an implied trading range for the underlying security. For example, consider BlackBerry December at-the-money options. At the time of writing, the BlackBerry December 11 calls were trading at $1.60; the December 11 puts, at $1.40. The combined cost of simultaneously buying the December 11 calls and puts (a.k.a. a straddle) for a total cost of $3 a share represents the range of possible outcomes.
The December straddle is a pure play on volatility because there is no directional bias. The long call profits in a rising market; the put makes money when the underlying security declines. For the long straddle to generate an overall profit, the underlying security must move up or down by an amount greater than the $3 per share cost.
Keeping with that theme, the straddle’s $3 per share cost represents the option market’s best guess regarding the implied trading range – in this example, between $8 (the $11 strike price minus the $3 premium = $8) and $14 (the $11 strike price plus the $3 premium = $14) per share.
The range of possibilities – the “strategic alternatives” – include a cash infusion by a large institutional investor (OMERS and the Canada Pension Plan have been cited as possibilities) to shore up BlackBerry’s cash position or, more likely, an outright sale of the company to a competitor, which would attempt to transition BlackBerry users to the new owner’s smartphone products.
The latter strategic alternative will be a challenge, as the number of potential suitors is dropping as fast as BlackBerry’s market share. Microsoft Corp. was long considered a likely suitor for the acquisition/transition model, but with Microsoft’s recent US$7.7-billion purchase of Nokia Corp. that possibility now seems unlikely. Huawei Technologies Co. Ltd., a large China-based technology company, is an outside possibility; Hewlett-Packard Co. and Dell Inc. are long shots.
There also is a third, equally plausible outcome in which BlackBerry cannot find a strategic alternative. Although BlackBerry management would put on a brave face, the market would see through that and pummel the firm’s stock price. In that scenario, the floor would be zero.
What we have then is a November timeline with three, equally plausible outcomes: two strategic alternatives that would favour BlackBerry (a cash infusion by an institutional investor or an outright purchase by a competitor) and one that would result in a sharp interim sell-off followed by a downward trajectory toward zero.
Unfortunately, a failed attempt to implement one of the two strategic alternatives would be the best outcome for the straddle buyer. In that scenario, volatility would increase or, at a minimum, stay the same. The sharp sell-off would cause BlackBerry shares to trade below the downside target, as defined by the implied trading range.
Should BlackBerry orchestrate a strategic alternative, volatility would implode and the straddle’s value would decline. A cash infusion would prolong the inevitable beyond the December expiration; a successful bid to buy the company would set an upside target that removes the uncertainty and, by extension, the volatility.
Only if the purchase price was struck above $14 a share (considered to be very unlikely) would the straddle be profitable.
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