Bear Options at Record as Wien Says Stocks to Rally (Update1)

By Jeff Kearns and Rita Nazareth
June 7 (Bloomberg) -- Confidence in stocks is sinking to record lows in the options market even with the U.S. economy poised for its fastest growth in six years, a sign to Blackstone Group LP’s Byron Wien that it’s time to buy.
Contracts that pay off should the benchmark index for U.S.
stocks plunge more than 23 percent from its April high cost 75 percent more than those speculating on gains, the biggest premium ever, according to data compiled by Bloomberg and OptionMetrics LLC. The 10-day average difference exceeded 50 percent 34 times since 1996. In those cases, the Standard & Poor’s 500 Index gained a median 7.2 percent in six months.
Wien says the gap shows Europe’s debt crisis caused too much pessimism in the U.S., where S&P 500 companies are forecast to post 38 percent profit growth in two years. Rising demand for insurance shows investors unwilling to sell stocks have hedged against losses, according to New York-based Morgan Stanley.
"People are trying to protect themselves and they are willing to overpay for it," said Wien, 77, the Blackstone adviser who foresaw last year’s gains in stocks and oil and predicts the S&P 500 will rally to 1,300 before ending 2010 little changed. "Bearishness is high. The best time to buy stocks is when the level of bearishness is at a peak."
Bank of America Corp. and the Oil Services Holders Trust are among stocks with bearish options priced highest relative to bullish ones, according to data compiled by Bloomberg. So-called two-month skew for the Charlotte, North Carolina-based lender and the energy exchange-traded fund exceeds 38 percent, data compiled by Bloomberg show.

Employment Disappoints

U.S. equities fell last week, with the S&P 500 dropping 2.3 percent to 1,064.88, as a Labor Department report showed private employers added 41,000 jobs in May, 77 percent fewer than the median forecasts of economists surveyed by Bloomberg. The stock index extended its 2010 retreat to 4.5 percent. The gauge’s June futures lost 0.5 percent to 1,060.50 as of 7:40 a.m. in London.
Profits for S&P 500 companies are projected to rise 17 percent in 2010 and 18 percent next year, estimates from more than 2,000 analysts compiled by Bloomberg show. The index trades at 13.1 times 2010 per-share earnings forecasts, compared with an average 16.4 times reported income since 1954. Economists predict gross domestic product will expand 3.2 percent this year, the most since 3.6 percent in 204, the data show.
The 10-day average premium for options that pay off should the S&P 500 decline to 940 jumped to 75.7 percent on May 27 and remains within a percentage point of the record, based on data compiled by Bloomberg and OptionMetrics, a New York-based provider of options market data and analytics. A retreat to that level would represent a 23 percent drop from the April high, exceeding the 20 percent commonly defined as a bear market.

‘Paranoia Premium’

"When you see this much fear in the market, it’s probably the time to get a little more constructive and possibly look to putting money to work," said Peter Sorrentino, who helps oversee $13.3 billion at Huntington Asset Advisors in Cincinnati.
"The skew is too heavy. The paranoia premium has driven it up."
Billionaire Warren Buffett said in a press conference on May 1 that his Berkshire Hathaway Inc. is ready to spend as much as $10 billion on an acquisition as the economy improves.
Buffett, chief executive officer of the Omaha, Nebraska-based insurer and investment company made an "all-in wager" on the U.S. by paying $27 billion for Fort Worth, Texas-based railroad Burlington Northern Santa Fe Corp. in February.

Rally Signal

When bearish puts cost 50 percent more than bullish calls, the S&P 500 rallied 28 times during the next six months and declined 6 times, according to OptionMetrics data going back to
1996 compiled by Bloomberg. The biggest gain started in November 1997, when the index rose 18 percent and the premium increased to 54.1 percent, data show. The S&P 500 plunged 35 percent after the skew reached 50.2 percent in June 2008.
More than $1.9 trillion has been erased from American equities since April 23 on concern budget deficits in Greece, Portugal and Spain will spur bank losses and freeze lending. The S&P 500 slid 3.4 percent to a four-month low on June 4 following the jobs report and speculation that Hungary’s budget deficit may force a default.
A group of U.S. financial companies posted the third- biggest retreat during the selloff since April, falling 16 percent. Energy and commodity producers both lost 17 percent.
"The tail risk of a significant stock market correction is very high now, thus the option prices correctly reflect the cost of hedging against" a decline, Nouriel Roubini, the New York University professor who warned of a financial crisis in 2006, said in an e-mail on June 2. "Macro risks and financial risk are significantly rising."

Loss Protection

Rising options costs suggest money managers are suffering smaller losses than are reflected in benchmark indexes after Europe’s crisis sent the S&P 500 down 8.2 percent in May, the biggest monthly slump since February 2009, said Christopher Metli, a derivatives strategist at Morgan Stanley. Hedge funds fell 2.6 percent last month, according to the HFRX Global Hedge Fund Index. That was the largest drop since November 2008, two months after New York-based Lehman Brothers Holdings Inc. filed the biggest-ever bankruptcy.
"The market’s telling you that investors are still bullish, and they’re hanging onto their positions, but they’re protecting through options," Metli said. "Investors are worried about sovereign contagion, and the growth slowdown transmitting globally."
Traders are buying options on Bank of America amid the 1.9 percent rally in its stock this year. The second-biggest U.S.
home lender behind San Francisco-based Wells Fargo & Co. said on June 2 that loan charge-offs may have peaked as demand improves.
The company posted losses of about $9 billion in its mortgage unit since January 2008, Bloomberg data show.

Transocean, Halliburton

The Oil Services ETF has plunged 31 percent since April 23.
The security is made up of companies such as Vernier, Switzerland-based Transocean Ltd. and Halliburton Co. and Schlumberger Ltd. in Houston that declined after U.S. President Barrack Obama proposed extending a moratorium on deepwater drilling. New York-based Citigroup Inc. was the fund’s biggest holder with 3.55 million shares, or 19 percent of those outstanding, as of March 31, data compiled by Bloomberg show.
"It could be a buying opportunity," said Wayne Lin, a money manager at Baltimore-based Legg Mason Inc., which manages
$685 billion. "Stocks are at good value. Earnings are growing fairly strongly. Economic fundamentals are still strong, especially for the U.S., making it possible that the risks are overblown."