Twitter Options: 140 Ways to Play

Exchange traded-options on Tweeter (TWTR) began trading today, one week after its successful initial public offering.

Let's run down what's available in terms of expiration and strikes, and then what to expect in terms of pricing behavior.

Options Rolling Out

The speed at which options get listed and rolled out has dropped from an average of one year a decade ago to just about a week.

The big change came with Google (GOOG) in 2004. Standards such as a float of at least seven million, a minimum share price above $5, and a market cap in excess of $500 million remain largely unchanged.

But the time an issue has to maintain a 12-month average daily trading volume of over 2.5 million shares has been cut to just six trading days. And so it begins.

To illustrate how anxious exchanges are to roll out options (we can assume they are only responding to customer demand), the major option exchanges such as the CBOE Exchange (CBOE) already altered their original plans for Twitter options within the past 24 hours. The initial conservative approach was to start with a standard quarterly expiration cycle in which the first listings would be December, January, March, and June with expectations to fill in the gap months, LEAPs, and weeklies at some time later.

Last night, the decision was made to offer weekly options right off the bat. And this morning, the options that expire next week have the most active strikes with the $45.50 calls and puts trading 2,500 and 1,150 contracts, respectively.

So what we have now are four sets of weekly options that expire 11/22, 11/29,12/6 and 12/13. Then we go to the "normal" third Friday expiration but the next round of weeklies will come on board as the current ones roll off.

There was also an expansion of the range of strike prices. The initial plan was for strikes to be listed only from $35 to $50. The weeklies have gone to $34 to $53, and the standard options expiring on the third Friday of the month now list all the way from $30 to $65 strikes. They are in one dollar increments up to the $55 level, at which point there are five dollars between strikes.

Volatility Expectations

This expansion in the range of strikes listed might be the result of expectations for high volatility. I think that notion may be incorrect and see both realized and implied volatility drifting lower in coming months. That said, earnings will likely see a big premium prior to release in January, and deservedly so.

While we only have five days of trading data, the pattern of settling into a relatively defined trading range is already taking place. The stock had a high of $50 on its first day and a low of $50 on its third. At the current quote of around $44, it is at its midpoint.

The realized volatility for these past six days is 50%. Today, the options came out of the box carrying an implied volatility of around 52% for 30-day options. That is not much of a premium above realized volatility. This stands in contrast to other social media names like Facebook (FB) and LinkedIn (LNKD). The implied volatility of the options on those two were 65% and 74% for their first two weeks of trading. They bumped around for the next few months, but the overall trend has been lower to where they are now 41% and 37% respectively.

But remember, Facebook's IPO was an initial disaster as the stock cratered 50% from its opening high in first few months. LinkedIn offered only a sliver of stock and it kept leaping higher on tight supply. The reason people are not bidding up options in Twitter is because they are trying to avoid the troubles with Facebook and LinkedIn options.

No Dumping Zone

One important difference between Twitter and Facebook is that early Facebook investors sold shares right away and officers could start dumping in just three months after the deal.

Twitter insiders will need to hold on for a longer period of time. Some rank-and-file employees can sell 9.9 million shares starting on February 15, 2014. But that's just over 1% of the company's shares outstanding. Executives, directors, and other owners of large chunks of Twitter stock have agreed to not sell their shares for at least 181 days after the IPO. That means these shares are locked up for sale until May 6, 2014.

Twitter also found a reasonable balance between how many shares it offered to sell compared to the total outstanding. It kept it tight enough to ensure a first-day pop (though they probably got more than they bargained for) but keep enough liquidity to enable investors to sell short if they so desired.

According to SunGard's Astec Analytics, as of Thursday, the cost to borrow Twitter shares is down to 5% annualized from almost 20% on Monday. The number of shares out on loan was 9 million, up from 5 million on Monday.

The availability of stock takes the bidding pressure off the options, particularly puts, as it provides a liquid way for people to speculate and hedge. Remember, when someone buys puts, it usually means the market maker that sold them will look to short stock to get delta neutral.

All in all, just like everything else, Twitter options look to be on an accelerated track to not only having the full boat of options offered, but their pricing becoming normalized in a compressed time frame.

Editor's Note: Minyanville is hosting a FREE conference call with Steve Smith on Monday at 2:00 p.m. ET. We'll be talking Twitter options and trading strategies. Click here to register!