(My write-up is late because it fell between the cracks during my travels in East Asia. There was no trading error.)
The stock declined 6.5% during the 16 days, on average, that I held the position. I entered and exited the position in several steps, from May 30 through June 10, and exited in steps, from June 22 through July 10. The yield on the stock works out to 152.3% annualized.
I structured the position as short vertical spreads sold for credit. The yield on risk was 30.2%, or 710.8% annualized.
Cliffs Natural Resources Inc. (CLF) continues a long-running decline as it sends a bear signal, punctuating the end of a correction to the upside that carried the price from the most recent low, $16.74 on April 22, to a peak of $23.75 on May 13.
Wednesday's break below the 20-day price channel was confirmed today by the stock trading below the channel boundary. However, the low set on breakout day, $18.50, remains intact, suggesting that there isn't much immediate momentum behind the downside move.
CLF began its decline in July 2011 from $102. The price has fallen in three stair-steps that has carried it to levels last seen at the time of the recession crash, when in March 2009 the stock hit bottom at $11.80.
A stock showing that much downside momentum is bound to have a record tilted toward successful bear trades, and CLF does not disappoint.
This is the symbols 10th bear signal since the downtrend began in 2011. Six of the completed signals were profitable, for an average yield of 9.3%. The three failed trades lost 2.6% on average, producing a win/lose yield spread of 6.3%.
CLF was one of two symbols that survived my initial screening (see "Thursday's Prospects" posted last night). The other survivor, HMA, has an odds profile that is nearly as good as CLF's, but the distribution of open interest among HMA option strike prices would make it difficult to construct a hedged vertical credit spread.
Cliffs Natural Resources, headquartered in Cleveland, Ohio, mines iron ore and coal in the United States and Australia, and also does preliminary processing of the iron ore for later transformation by its customers. It's very much an upstream, resource extraction sort of enterprise, with all the market risk associated with undifferentiated commodities. It's business includes a heavy commitment to the China market.
Perhaps it's the uncertainties of iron and coal, perhaps it's worry about China, perhaps concerns about U.S. manufacturing -- analysts hold a poor opinion of CLF's prospects, giving it a negative 73% enthusiasm index.
Cliffs' financials are no where near as negative. The company reports return on equity of 7% with moderate debt amounting to 56% of equity.
Among the last 12 quarters, earnings peaked in the the 3rd quarter of 2011, and then dropped sharply amid an announcement of a new offering of public shares, something that gives each share a smaller portion of earnings.
Each quarter has shown a profit. The company has surprised four times to the upside, and eight times to the downside during the last 12 quarters.
Institutions own 75% of shares, and the price has been driven down to the point where it takes 58 cents in shares to control a dollar in sales.
CLF on average trades 10.5 million shares a day and supports a wide selection of option strike prices with open interest in the four figures. The bid/ask spread on front-month, at-the-money put options is quite narrow, at 2.9%.
Implied volatility stands a 60%, about the mid-point of the six-month range, and has been stair-stepping lower since mid-April.
Options are pricing in confidence that 68.2% of trades will fall between $15.49 and $21.93 over the next month, for a potential gain or loss of 17.2%, and between $17.16 and $20.26 over the next week.
Trading in options today is quite heavy, with puts running at more than double their five-day average volume, and calls at 63% above average.
The fair-price zone on today's 30-minute chart runs from $18.73 to $19.06, encompassing 68.2% of trades surrounding the most-traded price, $18.99. The price has traversed the entire range of the zone three times so far today and with three hours to go before the closing bell, stands near the bottom of the zone.
CLF next publishes earnings on July 22. The stock goes ex-dividend in August for a quarterly payout yielding 3.19% annualized at today's prices.
Decision for my account: I've opened a bear position on CLF, structuring it as a vertical credit spread expiring in June, short the $19 calls and long the $21 calls. The position provides a 4.1% cushion of profitability above the entry price as expiration. The maximum potential yield at expiration is 39.9%.
References
My trading rules can be read here. And the classic Turtle Trading rules on which my rules are based can be read here.
At several points in my analysis I use the number 68.2%. This comes from statistics and refers to the one standard deviation boundaries, which are expected to contain 68.2% of whatever is being studied. Putting it another way, given an item (a trade or whatever), there is a 68.2% chance that it will appear within those boundaries.
Disclaimer
Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.
No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decision decisions for his or her own account, and take responsibility for the consequences.
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