This image captures something truly special:
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To the untrained eye it looks mostly like a black box, but this is what options traders dream of. On January 10th, 230 strike call options expiring January 17th for Intercept Pharmaceuticals (ICPT) went from a bit below $140 per contract to $235.60. This reflect the enormous gains in the name that occurred when the stock started trading on the 10th, as you can see here:
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Going from $260 to over $460 in minutes, ICPT’s stock soared on news that its liver drug received FDA approval. You can read more about the story here and here. These moves, in both directions, are not uncommon in the biotech and pharmaceutical verticals, where FDA approval can make or break a name. It’s unsurprising, then, that people with a strong research background in medicine, organic chemistry, and molecular biology are often hired by institutional investors to seek out names like ICPT to anticipate jumps like this.
In the case of ICPT, deep medical knowledge wasn’t entirely necessary. The news first hit the wires on January 9th, and it took a couple of days for the market to digest the information, giving traders an opportunity for huge short-term capital gains.long after the fact. Those 230 strike call options saw a 68% jump in value in a day, which is a better return than any hedge fund made for all of 2013.
Advanced knowledge of the FDA approval would cause much greater returns, however. Those same call options simply weren’t traded on January 8th—the strike price was too high. But $150 call options were available at that time for pennies. The returns on these options would have been mind-boggling. If someone spent $1000 on 100 options with a $150 strike price at 10 cents each, those options would have risen to be worth $300 per contract. That trader’s 100 options would then be worth $3 million.
As far as I can tell, this didn’t actually happen. No one made a mind-boggling return on a short-term, high-risk options play. But it is technically possible, and with technical possibilities come practical opportunities. While no one can be expected to make such enormous returns in such a short period of time, it should be the Platonic ideal that motivates all investors to learn as much as they can about investing.
The case of ICPT demonstrates why insider trading is so vigorously fought by regulators, and why the temptation is so massive, despite the harsh penalties. Having an edge, any edge, on the market’s consensus can provide massive returns. While traders should never give into the temptation to break the law, they should be tempted to constantly improve their skill set, their knowledge of the names they trade, and their understanding of how a combination of investing, trading, and market analysis can make their portfolios outperform the broader market.