I just love beaten-down stocks. It seems to me that the market it too short-sighted to realize how often it overreacts. I am talking about Valeant Pharmaceuticals (VRX) today. The Quebec-based company has lost almost 40% of its market valuation since the year-start and got particularly hit badly during this week with a 24% drop since Monday: (Source: Google Finance) I did a little research on why the stock plummeted only to find that the drop was preceded by two analyst downgrades. One of the analysts, David Maris, said: “Valeant shares currently carry too much risk for us to be comfortable recommending them” (Source: Motley Fool) The analyst gave Valeant Pharmaceuticals an “underperform” rating and stated that the stock “could be worth $62 per share”. It is currently trading at $61. Bill Ackman’s Pershing Square, one of the company’s most famous shareholders, is currently down 20% since the beginning of the year: the losses are mostly due to the fund’s position in Valeant. Nevertheless, Ackman is sticking with his investment in the company: “We expect that much of the uncertainty will be resolved in the relative short term, hopefully over the next few or so weeks, when we expect the company to issue results, update guidance, and file its 10-K” (Source: CNBC). Valeant was supposed to post its Q4 results on March 4 but had to postpone them, citing accounting discrepancies and CEO’s return. I think that the current situation offers a great opportunity to do a covered call trade. First, the stock is really cheap now. There is no question about that. Secondly, implied volatility on options is ridiculous in view of uncertainty surrounding the stock: (Source: Yahoo Finance) The above table demonstrates prices and implied volatility on VRX’s January 2017 calls. Currently, the $80 calls, which are over 30% away from the current market price, are trading at around $10 apiece. If you buy the stock now and sell the calls immediately, you will get a 17% return in an instant. In addition, the chance of the option to be in-the-money is roughly 50%, according to input data: (Source: option-price.com) If the stock does, in fact, reach the $80-mark before the option’s expiration, investors will realize a return of around 50% in less than one year! The break-even price for Valeant’s shares is around $51 in this situation. I find this to be a great mid-term opportunity for myself. In addition, if you are a more conservative buy-and-hold investor, go ahead and do a proper valuation of the company. After that, choose a price from your estimated fair value range and strike a put option just below it. For example, let us say that you conservatively estimated that the company’s fair value per share is $50. In this case, you can earn a 20% return through January 2017 or buy the stock incredibly cheap if it falls below the strike price: (Source: Yahoo Finance) The above table demonstrates prices and implied volatility on VRX’s January 2017 puts. If you are a risk-taker and can afford to dedicate more capital to this trade, do both strategies at the same time. Now is a fantastic time to sell options (but keep them covered!). The combined strategy will lower the break-even price to about $40 per share which is over 30% below the current market value of the company’s shares. What strategies/thoughts do you have in mind? :