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Buy Dell Puts on Slower PC Sales, Morgan Stanley Says

Michael Dell, chief executive officer of Dell Inc. Photographer: Tony Avelar/Bloomberg
Michael Dell, chief executive officer of Dell Inc. Photographer: Tony Avelar/Bloomberg

Dec. 10 (Bloomberg) -- Investors should buy bearish Dell Inc. options because the third-largest personal-computer may drop as rising sales of tablets such as Apple Inc.’s iPad hurt personal computer sales, Morgan Stanley said.

Equity derivatives strategists Christopher Metli and Sivan Mahadevan recommended buying January 2012 $12.50 puts while selling that month’s $10 puts, a strategy known as a put spread that cuts the cost of the trade while capping potential profit. Dell rose 1.8 percent to $13.89 as of 4 p.m. in New York, paring this year’s loss to 3.3 percent. The trade breaks even if the stock falls to $11.72, the strategists wrote.

“The market underestimates impending hits to Dell’s earnings and valuation,” the New York-based strategists wrote yesterday, citing Morgan Stanley technology industry analyst Katy Huberty’s Dec. 6 report. Huberty has an “underweight” rating on Round Rock, Texas-based Dell.

Risks include “cannibalization of PCs by tablets” and slowing PC and server sales next year, Huberty’s report said. Profit may fall 3 percent in 2011 from this year because of slower revenue growth and narrower profit margins, she wrote.

“About two-thirds of Dell’s revenue and half of its operating income base are at risk from moderating PC and server growth in C2011,” Huberty wrote in a Dec. 6 report. “Dell’s PC business faces major headwinds from desktop virtualization and tablet adoption in C2011, which may pressure Dell’s model as PCs account for over half of its revenue and nearly 30% of its operating income.”

To contact the reporter on this story: 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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