What a difference a day makes. On Thursday Southwest Airlines (LUV, Financial) was flying high after reporting strong fourth-quarter results. Rival JetBlue Airways (JBLU, Financial) also had a nice quarter.
Despite the good news, shares of both Southwest and JetBlue took it on the chin during Friday’s trading. Southwest fell from its new high of $54.18 to close at $52.65. JetBlue, which recently topped out at $23.57, plunged by an amazing 6.68% on the day to $19.69 per share.
Airline company stocks are notoriously volatile. Annual earnings, though, showed steady uptrends since dipping during 2011. Since then, Southwest has been setting higher highs and higher lows. JetBlue had a tremendous run from 2011 through 2015. Its stock then suffered a sharp mid-2016 sell-off followed by a rebound that hit stall speed again around Christmas.
Most analysts see 2017 profits playing out flat to slightly lower. Under that assumption, with the stock trading near $53, Southwest now appears reasonably priced, but not cheap, compared to its typical valuations.
JetBlue, at just 9.9x its already trimmed year-ahead estimate, seems somewhat undervalued. A return to a typical multiple would support a move back to north of $24. Investors looking to buy shares outright should favor JetBlue.
Friday’s sell-off sent implied volatility way up. That means option-savvy traders can now bring in juicy premiums by selling put options on either of these companies. Fanciers of Southwest can pocket $3.45 per share for committing to buy if the stock falls below $40 through Jan. 18, 2019.
Owning Southwest at $36.55 would have been a winning bet during most of the previous two years. That price represents a better than $16 discount to where Southwest was trading just before its Jan. 27 close. Anything less than a 30% drop from last week’s final price would produce a gain on expiration date.
More aggressive players could get paid five bucks a share for selling the long-term $45 puts. That would lead to a $40 per share break-even point. If the current price equals fair value, it’s hard to picture how owning Southwest $12.60 per share cheaper would be bad.
JetBlue’s current undervaluation presents three good choices for writers of long-term put options. Conservative option sellers could collect $1.70 per share for committing to own at the $15 strike price out to January 2019.
The “if put” price drops all the way down to $13.30. That is $6.35 per share below the trade inception price, providing a greater than 32% margin of safety.
Selling JetBlue’s $17 strike, 2019 puts for $2.40 only obligate to purchase at a net price of $14.60. That was almost $5 per share, more than 25% below last Friday’s afternoon’s trade inception price.
Receiving $3.90 per share for JetBlue’s 2019 $20 strike puts might appear aggressive on the surface. The “if exercised” price of $16.10 looks pretty tame, though, when viewed in terms of JetBlue’s historical price action during the prior two years.
Owners of JetBlue at that level would have been profitable almost 90% of the time since the start of 2015.
There are only two possible outcomes for those who sell puts and are willing to hold the positions through expiration. You’ll either get in cheap (if eventually exercised) or keep 100% of the premium collected up front. If you’ve made a good assessment of the value of the underlying shares the odds will be skewed heavily in your favor.
You might want to think of put writing on Southwest or JetBlue as a form of “priority boarding” into the shares of these well-managed airline companies.
Disclosure: Long Southwest and JetBlue shares. Short Southwest and JetBlue options.
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