Inovio Pharmaceuticals (INO) discovers and develops synthetic vaccines and immune therapies focusing on infectious diseases and cancers.

Market sentiment

Post reverse-split, short interest in Inovio stands at roughly 13.6% of the float. This indicates that there are many who are betting on a decline, following the top-line readout of VGX-3100 anticipated to be between late June - late July. Hypothesizing that the impending binary event will create high volatility and risk to the standard buy-and-hold investor, I propose mitigating some risk through a volatility strategy which may benefit from share movement in either direction.

I have constructed a volatility strategy which offers several important benefits that will be discussed in depth. The reason I advise employing options is due to the uncertainty surrounding the top-line readout. This is ultimately a volatile period for Inovio, and should key developments occur, shareholders may be extremely disappointed or extremely excited, thus creating a large swing one way or the other in share price.

The volatility strategy breakdown

Volatility strategies are defined as those in which you can make a profit whether the stock moves up or down. Accordingly, the investor does not have to take a bias with respect to which direction it moves, as long as the movement is explosive in either direction. Concerning Inovio, a volatility strategy is ideal, in my opinion, because I see three possible outcomes before August 16, 2014:

1. The top-line readout anticipated to be between late June - late July is positive, and the stock explodes upward. The rationale behind this outcome is that the event would not only be a surprise to the market, but also it would likely dictate frenzied short covering, which is currently at 13.6% of the float.
2. The top-line readout happens in precisely the opposite way, and the stock accordingly explodes downward. The rationale behind this outcome is that failure of VGX-3100 could invalidate Inovio's entire approach to vaccine development. Further, the company's other clinical products are in earlier stages of development, and the share valuation based on those products alone would undoubtedly be much lower than where it currently stands, in my opinion.
3. The top-line readout does not occur within the anticipated timeframe set forth by the company and the stock moves downward. The rationale behind this outcome is that a delay would likely result in a loss of investor confidence and significant share price decline.

In accordance with this understanding of the importance of the top-line readout of VGX-3100, a volatility strategy employs the purchase of Calls and Puts near the current share price to take advantage of sharp price movement. Thus, it is key to understand that the only way that this strategy loses money is if an explosive move does not happen, and the stock remains relatively flat at all times through the expiration date of August 16, 2014.

Strategic implementation

While there are numerous variants, in simple form, one would purchase both the $8 strike Call for $3.00/share and the $5 strike Put for $0.67/share (6/13/2014). I would have advised purchasing the $8 strike price Put, but the price is much higher, thus requiring greater share price volatility for success. The cost the investor incurs for both options transactions is $367. Thus, the maximum risk to the proposed volatility strategy is limited to the cost of the bought Calls and Puts, whereas the maximum reward is potentially unlimited, since there is no cap placed on the Calls. However, the maximum profit garnered from the Put is capped at $4.33/share per contract, subtracting the $3.67/share cost incurred from the purchase of the Put and the Call, and assuming the stock plummets to $0.

The outcome of the proposed volatility strategy falls into one of four possible scenarios:

• Scenario 1) On or before the August 16, 2014 expiration, Inovio stock trades significantly above $8.00. You reap the benefits of the margin between the new share price and the strike price. Trade-off: For you to break-even, the share price must rise to around $11.67, accounting for the $3.67/share cost incurred through the purchase of the Call and Put. However, given my understanding of the upcoming binary event outlined above, it is certainly possible that positive results would catalyze a sharp increase in share price far greater than $3.67/share.
• Scenario 2) On or before the August 16, 2014 expiration, Inovio stock stagnates around $8.00. While unlikely, this scenario would cost you $3.67/share, factoring in the unchanged stock price and the funds allocated for the Call and the Put. Trade-off: You would lose $3.67/share more than the standard buy-and-hold strategy.
• Scenario 3) On or before the August 16, 2014 expiration, Inovio stock plummets far below $8.00. You reap the benefits of the margin between the new share price and the strike price. Trade-off: For you to break-even, the stock must drop to around $4.33, accounting for the $3.67/share premium incurred through the purchase of the Call and the Put.

(Note: the proposed volatility strategy does not require the investor to own shares of Inovio. If shares are presently owned, a similar result may be obtained with other strategies.)

Bottom line

Given my view of Inovio, I endorse the proposed volatility strategy constructed above. Given the significant short position, the sentiment surrounding the upcoming top-line readout for VGX-3100 seems negative, indicating that a sharp increase in share price would likely occur should Inovio announce positive results. Likewise, as Inovio is heavily reliant on the success of VGX-3100, catastrophic share price decline could occur if results are negative. Either way, I believe the upcoming event will catalyze dramatic stock price movement. Therefore, the proposed volatility strategy is viable as a low-cost method of speculation with limited risk. Of course, however, each investor or speculator must individually assess his/her risk tolerance and the appropriateness of a given strategy.

To learn more about Inovio, please click here to view my latest interview with Dr. J. Joseph Kim, CEO.