A High-Risk Options Play for Embattled Cassava Sciences (SAVA)

By Josh Enomoto

While biotechnology firms command high risk due to the uncertainty of their clinical journey, Cassava Sciences (NASDAQ:SAVA) has truly stretched investors’ patience. Fundamentally, its Alzheimer's drug simufilam shows much potential. Unfortunately, this potential is being called into question due to a series of worrying setbacks.

In particular, serious legal challenges have raised alarm among shareholders. There’s also a major issue regarding data integrity, with the very real possibility that simufilam could be more smoke than actual fire. Still, both things can be true: Cassava may be guilty of creating unnecessary distractions and yet simufilam may offer genuine substance.

Undeniably, SAVA stock is a high-risk venture. However, with so much of the bad news baked in, it’s not out of the question for shares to bump higher as a reactionary response. For those that believe in this outcome, there’s a daring options trade to pick up some quick yield.

Simufilam’s Promise Has Consistently Bolstered SAVA Stock

As a condition affecting millions of people worldwide, Alzheimer's disease represents a devastating scourge. What’s worse, limited treatments exist, adding to the misery. However, Cassava’s simufilam sparked excitement due to its ability to improve cognition in patients with mild to moderate Alzheimer’s.

Specifically, in Phase 2 trials, nearly 50% of patients demonstrated cognitive improvements after one year of treatment. Additionally, simufilam has demonstrated positive effects on biomarkers associated with Alzheimer’s, such as neuroinflammation and blood-brain barrier integrity.

These results suggest that simufilam could address some of the underlying causes of the disease, positioning it as a potential breakthrough treatment. Not surprisingly, SAVA stock commanded a triple-digit price tag in the summer of 2021.

Legal Challenges, Data Integrity Concerns Jump to the Forefront

Although simufilam attracted positive attention among the scientific research community for its promising clinical results, Cassava itself hasn’t been able to keep its nose clean. One damaging allegation involves data manipulation. Specifically, the company caught fire for claims that it misrepresented trial data, leading to an investigation by the U.S. Securities and Exchange Commission.

Earlier this year, the regulatory agency charged Cassava’s former CEO and senior executives with making misleading statements, resulting in a financial settlement. Further, in a separate case, Dr. Hoau-Yan Wang, a co-developer of simufilam, was indicted for falsifying data related to grant applications to the National Institutes of Health.

Unfortunately, these legal concerns have cast doubt on the true potential of simufilam. Subsequently, SAVA stock has never threatened to reach its 2021 highs. Nevertheless, it’s also important to note that the last insider sell occurred in October 2018. While it’s not kosher to read too much into this, the dynamic suggests potential internal confidence in Cassava’s overall mission.

Trying Your Luck with a Bull Put Spread

For those who have moderate confidence in an upswing, a purely directional swing might not be particularly appealing. That’s where a relatively conservative bull put spread could be ideal. In this multi-leg options strategy, the trader sells a put and also buys a put at a lower strike price to cap off the risk of the target security declining in value, thus forcing the exercise of the short put.

Because the primary moneymaker in this setup is the selling of an option, the bull put spread is a credit-based approach. That means that if you wanted to sell such a spread in SAVA stock, you start from a cash inflow position. Further, theta or the time decay of options works in your favor. As time passes, the value of options generally decreases, particularly for out-of-the-money options.

With a bull put spread, the key is that the sold put (the option from which you’re receiving credit from) has a higher time value than the bought put at the start of the trade. However, as time goes on, the sold put loses value faster than the long put because the latter, being further out the money (OTM), is less impacted by time.

Essentially, as long as the security stays above the break-even point (not assuming other administrative fees) at expiration, the bull put spread will be profitable. If the stock is at or above the higher (short) strike price, you can collect the maximum reward.

It must be said that a realistic bull put spread will feature a higher risk ratio relative to reward; that is, you’re putting more money on the table and aiming to keep a fraction of it when the spread expires. Still, the downside of the trade moving against you is capped off by the long put, making the transaction appealing to certain speculators.

A Compelling Idea Stands Out

In a perfectly efficient ecosystem, one would anticipate that for every element of risk introduced in a trade, an equivalent magnitude of potential reward should materialize. However, the options market doesn’t always abide by this linear assumption. I would posit that options markets are never perfectly efficient.

Given the presence of inefficiencies, it stands to reason that — relatively speaking — if some trades are unfavorably inefficient, a select few are favorably so. Notably, with options, the premium you pay or collect doesn’t increase linearly with the level of risk you're taking on. This is because implied volatility, time decay and delta all influence the price of the options in ways that don’t follow a simple linear pattern.

By recognizing this reality, you can apply a methodology known as nonlinear pricing optimization, focusing on trades that don’t follow the expected magnitude of the relationship between risk and reward. Conducting this exercise for the options chain expiring Nov. 22 (next Friday), we come to what I believe is the most efficient trade and that is the 25P/20P spread.

With a breakeven price of $23.89, SAVA stock has some margin to move downward and still be somewhat profitable. Should SAVA stay above $25 — on Wednesday, shares closed at $25.18 — investors may collect the maximum credit of $111 as income. Should the trade go wrong, the maximum at risk would be $389, implying a yield of 28.53%.

Granted, SAVA stock is extremely volatile so entering this trade soberly and carefully is a must. However, compared to the other trades, the 25P/20P spread appears to objectively give you the most bang for the buck, maximizing yield potential while also minimizing the opportunity cost of being too conservative.

Disclaimer: The author did not hold a position in any of the securities mentioned above. The information provided in this article is for educational and informational purposes only and should not be construed as investment advice. Always conduct your own research or consult with a licensed financial professional before making any investment decisions. Past performance is not indicative of future results.