In last week’s edition of Trading Tools, Legg Mason, Inc. (LM) was examined after the Zacks Unusually High Option Volume screener revealed an escalating demand for front-month positions. Employing the same filter for today’s column, a different equity caught my eye: Columbus, Ohio-based utility issue American Electric Power Company, Inc. (AEP).
Before we begin, let’s explain the contrarian stance that makes Schaeffer’s so unique. When searching for a bullish pick, we like to see heavy skepticism toward an outperforming stock, as this leaves ample room for upgrades or other positive catalysts to fuel the stock higher. When searching for a bearish pick, on the other hand, contrarians are looking for significant bullish sentiment toward an underperforming stock, as we believe an excess of optimism is a sign that everyone has already bought into the stock and sideline money is virtually tapped out.
However, keep in mind that some optimism and pessimism is genuinely warranted and isn’t always a contrarian indicator – like an outperforming stock with many “buy” ratings or an underperforming stock with a plethora of “sell” ratings.
According to the Zacks screener, AEP saw roughly 7,300 calls cross the tape last Wednesday – nearly 7x the stock’s average single-session volume of fewer than 1,100 bullish bets. The optimistic uprising could have been in response to a bullish brokerage note.
Regardless of the catalyst, the surge in call volume weighed on the stock’s Schaeffer’s put/call open interest ratio (SOIR), which sank from 0.67 (in the 46th annual percentile) to 0.58 (in the 32nd annual percentile) overnight. In other words, near-term option traders have been more bullishly biased toward AEP less than a third of the time during the past 52 weeks.
Digging deeper into the data, it appears that speculators on Wednesday favored back-month options on AEP. The security’s August 30 call was most popular, with about 5,100 contracts changing hands. At 1:12 p.m. Eastern time, two blocks totaling 5,000 contracts traded at the ask price of $0.65, suggesting they were bought. As a result, the near-the-money 30 strike is now home to peak call open interest in the August series, with almost 6,200 contracts in residence. Taking runner-up is the in-the-money 27.50 strike, home to roughly 5,300 open call positions.
Technically speaking, shares of AEP have been a bright spot on the Street lately, outperforming the S&P 500 Index (SPX) by 12.5% during the past 20 trading sessions. In fact, since skimming the $24 level in mid-March, the stock has advanced almost 20%, and is now flirting with the $28.65 level. What’s more, the security’s 10-week and 20-week moving averages are on the verge of a bullish cross – often indicative of technical strength in the intermediate term.
However, AEP’s trek into the black could face a couple of challenges. First and foremost, shares are having a tough time perforating their 32-week trendline, which hasn’t been breached on a weekly closing basis since January 2008. Furthermore, the heavy accumulation of bullish bets at the August 27.50 and 30 strikes could act as options-related resistance in the near term. Plus, the $29 – $31 region played the part of support during late 2008 into early 2009, and could reverse roles and act as a technical barrier going forward.
Despite AEP’s potential technical troubles, however, the Street remains enamored of the shares. According to Zacks, the stock currently harbors 5 “strong buys” and 3 “buy” ratings, compared to 5 lukewarm “holds” and nary a “sell” in sight.
Should shares of AEP fail to conquer potential challenges on the charts, a rejection in the $30 region could motivate the bulls to abandon ship. A reversal in sentiment among option traders, or a wave of price-target reductions or downgrades, could further exacerbate the security’s year-to-date losses.
