Why Call Options Volume for These 2 Stocks Spiked Together

Key Points

• Call option buyers have placed an over $2 million bet on Lockheed Martin and Taiwan Semiconductor Manufacturing, two companies that are more connected than they seem.
• Exposed to the artificial intelligence trend, traders know that these two stocks are almost co-dependent in their success. 
• Wall Street analysts have pushed EPS growth forecasts higher and price targets, reiterating traders' bets.

Owning stock gives investors a one-for-one behavior in the underlying stock, and that’s good enough when there is a longer timeframe. But it won’t cut it for big traders looking to quickly get a hit-and-run stock move.

That’s where stock options come in. They allow investors to achieve leverage so that returns can be amplified when an underlying stock moves. But this leverage can bring on quick – and large – losses if the move and timing of that move are wrong, so investors need to correctly identify both of those factors. Knowing this, investors should pay attention when the market reports above-average options volume for stock, particularly call options (where the bet is that the stock will go up), since it signals the expectation of a relatively big move relatively quickly.

Today, two stocks that are surprisingly correlated by their share of the technology sector are reporting a surge in call option volume: Lockheed Martin Co. NYSE: LMT and Taiwan Semiconductor Manufacturing Co. NYSE: TSM.

Lockheed Martin and Taiwan Semiconductor Manufacturing: A Symbiotic Relationship

One is an arms manufacturer, the other is a chips and semiconductor maker, so what do these two possibly have in common? To start, they are co-dependent. Most of the aircraft, explosives, robotics, and software that Lockheed Martin’s weapons use to stay competitive and near cutting-edge technology come from equally advanced chips.

Lockheed Martin buys these chips from Taiwan Semiconductor Manufacturing, so the success of one company can spill over to the success of the other. Some of these chips even go to Lockheed Martin’s F-35 Lightning II fighter jets, among other powerful weaponry.

After Lockheed Martin reported its second quarter 2024 earnings results, which were so good that the stock rallied by 12% in a single week, management provided optimistic financial guidance for the rest of the year. The highlights of this report were not only a 9% jump in revenues but also an order backlog of nearly $160 billion moving forward. Some of these backlogs include the latest Aegis Combat System, an artificial intelligence-assisted program with advanced sensors and data management that can only be delivered adequately with Taiwan Semiconductor's help.

Sales guidance for Lockheed Martin was raised by nearly $2.5 billion for the rest of 2024, which may be why analysts at Deutsche Bank raised their price targets to $600 a share right after the earnings release, directly calling for a net upside of 14.5% from where the stock trades today.

As Lockheed Martin's outlook improves, so does Wall Street's forecast for Taiwan Semiconductor's earnings per share (EPS). Today's projections are set at 27.5% for the next 12 months, making it easier for Susquehanna analysts to place a valuation of $250 a share for the stock, daring it to rally by 56.6% from today's prices.

United States Pushing to Strengthen Domestic Semiconductor Production

This is why the U.S. government is pushing hard on the CHIPS and Science Act, which will fund some of the most vital players within the chips and semiconductors industry. The aim is that this financial backing will help these brands onshore their operations in the United States rather than being concentrated in Asia, as it is now.

The United States learned an important lesson in diversification when the COVID-19 pandemic hit the global economy, and lockdowns in Asia caused a massive disruption in the supply chain of chips and semiconductors. This delayed most products, from consumer electronics to vehicles.

The United States is leaning on companies like Taiwan Semiconductor and Intel Co. NASDAQ: INTC to make this onshoring a reality, with the latest round of funding granting up to $6.6 billion to Taiwan Semiconductor.

Call Option Traders Target the Upside Potential

Knowing that these two companies are co-dependent and because onshoring semiconductor production is vital to national security since Lockheed Martin's developments rely on it, call option traders have flocked to both stocks, seeing the strong upside potential.

This screener spotted the action, and the breakdown is as follows. For Lockheed Martin, a $589,398 bet on call options was amplified significantly after accounting for leverage. For Taiwan Semiconductor, the call option volume translated into a $1.4 million position, which is much bigger after applying leverage.

These are not small bets by any means, and investors need to remember that this capital is subject to the two options caveats: direction and timing.