Buy Puts for Potash

BUY LOW AND SELL HIGH is the most basic investment advice, and yet most people have a hard time following it.

When stock prices are high, investors like to chase stocks higher, paying top dollar for what they perceive as an opportunity to make top dollar on a high-flying stock.

When prices are falling, investors have a hard time admitting that the stock they thought was a high-flyer is now a dud. Few investors have the discipline to admit a mistake and lock in a loss by selling.

But here's an opportunity for investors comfortable with options trading to use the tricks of the pros. Barclay's Capital told clients this morning that shares of Potash (POT) are richly valued compared to agricultural commodity prices as well as to potash, a type of salt that is used as fertilizer to improve water retention and crop yields.

Venu Krishna, a Barclay's derivatives strategist, recommends shorting Potash stock, or buying puts on the stock. The firm likes December 90 puts.

The stock was recently about $98, up more than 100% from its 52-week low of $47.54.

At the same time -- and this part of the trade is best left alone if you don't identify yourself as a trader on your tax returns - - pairing the trade with a ratio of long soybean futures and Standard & Poor's 500 Index.

The layered trade is so complicated and capital intensive that it can be completed by only a few people on Wall Street. We mention the trade in its entirety only to reveal the institutional footprints in the market.

According to Barclay's, potash, the commodity, is expensive based on its historical relationship with corn and soybean prices, and also to its peers. Meanwhile, July potash inventories were 127% higher than the five year average.

"Due to its higher cost, potash demand is suffering much more than other fertilizers as farmers try to reduce cost," Krishna said.

Major emerging markets, including India and China, negotiate fertilizer prices. India got a 26% price cut from Potash in July. India will pay $460 a ton for its annual potash needs, compared to $600 a ton in the previous year. India negotiated its rate when the spot price was $700.

China is currently having discussions with major producers. Traders will find it hard to ignore prices that are so much lower than in the commodities market.

Despite this overhang, Krishna says Potash trades at a 16.5 multiple of forward enterprise value/EBITDA, or earnings before interest taxes depreciation and amortization, compared with about 10 for its peers...barrons online