Trump's Tough Rhetoric Sparks a Double-Digit Yield Prospect in Arlo (ARLO) Short Calls

President-elect Donald J. Trump is no stranger to disseminating a tough law-and-order message. Indeed, the blistering run of publicly traded private prisons CoreCivic (CXW) and Geo Group (GEO) is a testament to the market’s anticipation of a radical new paradigm shift in American politics. But within this ecosystem are winners and losers and Arlo Technologies (ARLO) might fall under the latter category.

To be clear, I’m not casting aspersions on the cloud infrastructure and smart home experience provider. As Barchart contributor StockStory pointed out recently, management disclosed better-than-expected revenue during the company’s third quarter, with sales popping 5.9% year-over-year to $137.7 million. That’s the good news. Unfortunately, revenue guidance of $121 million fell well shy of expectations to the tune of 12.9% below analysts’ estimates.

As a result, ARLO stock has been all over the map. Heading into the earnings disclosure, shares were trading conspicuously above $12, which over the past year has both represented a support line as well as a resistance barrier. Following the Q3 report, ARLO dropped to a low of $10 before clawing its way higher to $11.92.

Subsequently, the violent seesawing of the equity raises serious questions for investors. While the recovery performance from $10 was impressive, ARLO stock is again struggling near $12. What’s more, Trump’s incoming administration poses fundamental risks to the underlying business. With an implied crackdown on crime, neighborhoods may become organically safer, thus mitigating the need for Arlo’s security solutions.

Unusual Options Activity Adds Wrinkle to ARLO Stock

On Friday, ARLO stock represented one of the top highlights in Barchart’s screener for unusual stock options volume. Specifically, the equity saw 14,009 contracts being traded against an open interest reading of 14,957 contracts. Notably, Friday’s volume stood at 844.64% above the trailing one-month average metric. Few other securities saw as much change against their 30-day averages.

Not shockingly, call volume clocked in at a miserly 622 contracts while put volume spiked to 13,387 contracts. This pairing gave us a put/call ratio of 21.52. Based on options flow data — which exclusively tracks big block transactions likely placed by institutional investors — investors can arguably read the ratio intuitively.

Net trade sentiment sat at $-81,800, with total trading volume for bearish trades slipping to $-94,600. On the other end, the volume of bullish trades hit only $12,800. Therefore, sentiment on Friday skewed heavily bearish in the options market, despite the massive upswing in the open market. This dynamic could possibly be suggesting a decline in value.

If so, investors may want to consider leveraging unusual demand for certain call options as part of a net bearish strategy. In particular, volume for the $12 ARLO call expiring Nov. 15 jumped to 276 contracts (against open interest of 285 contracts). You could potentially sell this call and simultaneously buy the next highest strike call ($13) for an interesting bear call spread.

Effectively, you’ll take the gross credit stemming from shorting the $12 call while subtracting out the debit paid for the long call. In case the position moves against us, the risk would be limited to the $13 strike. As of Friday’s closing data, the yield for this 12/13 bear call spread would be 11.11%. This comes out to risking $90 for the chance of keeping $10 of credit (income).

That doesn’t sound particularly impressive until you consider the very short timeframe. Should ARLO stock stay below $12 by this coming Friday, you could collect a double-digit yield.

Higher-Risk Plays Are Available

With a risk-reward ratio of 9-to-1, it’s obvious that you don’t want to be taking too many losses of this nature. One bad trade could undo several good ones so strong conviction and money management are a must. However, if you’re willing to expand the risk of failure in exchange for a much greater reward, there is another idea to consider.

The 11/13 bear call spread will likely be immediately attractive thanks to its massive 66.67% yield. Further, the breakeven price stands at $11.80, just a hair more than 1% from Friday’s close of $11.92. Even better, you’re only putting $120 at risk for the chance of keeping $80 of income.

However, to keep the maximum reward, ARLO stock must slip to $11 at the highest. That’s almost 8% down from Friday: it’s possible given what we’ve seen from the post-Q3 implosion but it’s also not likely.  Barchart estimates that the lowest price threshold for the Nov. 15 expiration date is $11.40.

Still, at $11.40, the 11/13 bear call spread should facilitate a profit of 40 cents or a yield of 33.33%. Again, if you’re convinced that ARLO stock may fade noticeably from here, the higher-risk trade could be more enticing.

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On the date of publication, Josh Enomoto did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.