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Options on Stocks Above $100 Are Cheap, Goldman Sachs Says

Investors looking to trade options on companies about to report quarterly results should consider shares priced above $100, such as Netflix Inc. (NFLX) and Priceline.com Inc. (PCLN), because the contracts tend to be underpriced, Goldman Sachs Group Inc. said.

Strangles, or purchasing calls and puts to bet on more volatility, produced 8.4 percent returns before transaction costs during the past 15 years for the high-priced stocks, Goldman strategists led by John Marshall said in a report today. That compares with 1.5 percent gains for a broader group of equities, the note said.

“High-dollar options appear to have been systematically underpriced,” the strategists wrote. “Buying strangles on companies with share prices over $100 ahead of earnings saw positive returns in 11 of 15 years and five of the past eight quarters.”

The Goldman Sachs strategists studied the performance of stocks and options following about 30,000 quarterly reports. Transaction costs are also lower, with bid-ask spreads 25 percent tighter on high-priced options compared with the average for all equities, they said. There are 44 companies in the Standard & Poor’s 500 Index with share prices at $100 or more, according to data compiled by Bloomberg.

The New York-based strategists recommended using a strategy similar to a strangle, known as a straddle, on some companies reporting this earnings season. A straddle buyer purchases a call and put with the same strike price and expiration date, while strangle buying involves purchasing a call option with a strike price higher than the current stock price and a put with a strike that is lower. Both strategies profit as volatility increases.

The strategists specifically recommended buying Chipotle Mexican Grill Inc. (CMG) August $330 straddles, Priceline.com Inc. August $515 straddles, Polo Ralph Lauren Corp. (RL) August $135 straddles and EOG Resources Inc. (EOG) August $100 straddles. On July 14, they had suggested purchasing Netflix Inc. August $300 straddles.

To contact the reporters on this story: Joanna Ossinger in New York at jossinger@bloomberg.net; Jeff Kearns in New York at jkearns3@bloomberg.net

To contact the editor responsible for this story: Nick Baker at nbaker7@bloomberg.net

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