3 Unusually Active Options to Play America’s Most Undervalued Stocks

Morningstar published its list of the top 10 undervalued stocks to buy for October on Sept. 30. These companies are selected from its list of the Best Companies to Own. By definition, these companies have “predictable cash flows and are run by management teams that have a history of making smart capital-allocation decisions,” states Morningstar. 

At least five names on its list of 10 undervalued stocks to buy are companies I generally like and whose stocks I’ve recommended over the years.

The 10 names, in descending order from lowest price-to-fair-value (P/FV) to highest, are Estee Lauder (EL), Yum China Holdings (YUMC), Zimmer Biomet (ZBH), Rentokil Initial (RTO), Pfizer (PFE), Polaris (PII), Nike (NKE), Roche Holdings (RHHBY), Anheuser-Busch InBev (BUD), and British American Tobacco (BTI). 

In Wednesday’s options trading, three stocks had unusual options activity that stood out because they had options with Vol/OI ratios of 1.24 or greater and expirations of seven days or longer.  

Here is one option from each of the three names and why I like them.

Estee Lauder

Estee Lauderonly had one unusually active option Wednesday, but it was a doozie, with a Vol/OI ratio of 32.85, making it the 13th highest ratio on the day. 

Estee Lauder was at the top of Morningstar’s list with a P/FV of just 0.57. The beauty company, whose brands include Estee Lauder and Clinique, has not had an easy time since the end of the pandemic. Its stock is down 74% since Dec. 31, 2021. 

Morningstar believes its premium brands will benefit from consumers' move to higher-priced, quality products. Still, it has faced headwinds in recent quarters due to these consumers trading down to cut spending. 

It has a fair value on the stock of $176, 81% higher than where it’s currently trading. 

If you sell the Oct. 18 $91 put for income, your annualized return would be 21%, assuming the share price doesn’t fall into the money in the next 16 days. If you have to buy the shares, $91 will appear very cheap in 18-24 months. 

Nike

Nikedid the inevitable on Sept. 19, announcing that CEO John Donahoe would be stepping down from the top job, replaced by long-time Nike employee Elliott Hill, who is tasked with stepping back into the “Just Do It” culture and reigniting the global footwear and apparel juggernaut. 

In July, I wrote about Nike and its unusual options activity.

“One thing that would help Nike’s share price would be for CEO John Donahoe to step down from the top job. He’s not been good for Nike’s share price although not everything that’s happened since he moved from director to CEO in January 2020 is his doing,” I wrote on July 25. 

I also said the company would rebound, albeit not quickly enough for significant shareholder and founder Phil Knight. 

As it always does, Nike had a boatload of unusually active options yesterday. None of them blew me away. However, I see $80 as a bit of a floor price for now as earnings are in—they were terrible—and they don’t report again until Q2 2025 in December. That’s 80-90 days from now. 

Of all the unusually active options, I like selling the Nov. 1 $80 put. 

Based on the $0.87 bid price from yesterday's close, it has an annualized return of 12%. Its Vol/OI ratio wasn’t huge at 1.46 but was out of the money by 3.7%. Almost any announcement by Hill in the next 30 days is bound to be positive in tone, if not in message, which means it’s improbable that its shares will move dramatically lower by Nov. 1. 

In the worst-case scenario, you have to buy the shares at $80 (net price $79.20) and wait for the former Nike star to work his magic. 

Nike has been in this position many times in its lengthy history. It always finds a way out of the hole it’s dug for itself.    

Yum China Holdings

Yum China Holdingshas a fair value estimate of $76 and a P/FV of 0.60. Between the pandemic and a slowdown in Chinese consumer spending, its stock’s been pounded mercilessly in recent years, hitting a 52-week low of $28.50 in early August. However, it’s up 79% in less than two months due to positive investor sentiment about the Chinese government’s stimulus measures introduced to move the country’s economy.

In January, I suggested that investors buy now, arguing that all indications from company management were that its business was nearly back to pre-pandemic results. Between store openings and share repurchases, the company did what it could to add value to profit once the Chinese consumer was unshackled.

Just yesterday, Citigroup upgraded YUMC to Strong Buy, and Macquarie upgraded it to two places, from Underperform to Outperform. More will come. 

Yum China had three unusually active options yesterday. All three were out of the money. 

I could see its shares returning to the mid-$60s, where it traded in March 2023. 

With its stock up more than 50% in the past month, one has to question whether it has any gas left in the tank. At least for now, anyway. However, its latest run—is impressive, so it’s not impossible to think it will reach $60 by mid-November. 

The ask price for the Nov. 15 $60 call is $2.10, a reasonable 3.5% down payment. The delta of 0.28871 means you can double your money if the stock rises $7.27 (14%) before it expires in 45 days. 

Also, selling the Oct. 18 $45 put for potential income looks like a sure win.      

 

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On the date of publication, Will Ashworth 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.