Valaris (VAL) is an offshore drilling company that owns a bunch of oil rigs and equipment which it contracts out to producers. The VAL thesis has been talked about for a while and is pretty simple: VAL trades at a deep discount to replacement value, that value will be realized as offshore oil becomes relevant again because of growing oil market tightness. Yet among those who are long oil, there is debate over whether offshore will actually become relevant again or not – why venture offshore when there’s tons of oil onshore? I never got into the weeds of this debate because it seemed hard to quantitatively resolve, and that was basically the extent of my research on VAL.
But then yesterday, I was scrolling through twitter and stumbled across this tweet claiming VAL warrants could 100x. I initially wrote this off as ridiculous – then I thought I’ve heard about VAL from some smart people and the underlying thesis is legit, so why don’t I do some more research.
Disclaimer: I’m a complete warrants and options beginner so all the forthcoming analysis is likely flawed – do your own research.
Upon emerging from bankruptcy sometime ago, Valaris issued April 29th, 2028, warrants with an exercise price of 3.15 (precise quoting is hard because of very low volume). Again I don’t follow options or really know much about them, but even when I saw this I thought: ~$3 seems like a really low premium to pay for stock 7 years out on a highly leveraged and volatile company. To check my intuition, I started plugging some numbers into this options calculator.
First question: What implied volatility does the current warrant price suggest?
The current warrant price suggests around 40% implied volatility. Though implied volatility is hard to interpret in a vacuum, this seems pretty low – investors aren’t expecting a big move in Valaris.
For context on IV, let’s study some other companies. Transocean (RIG), another drilling company with similar size to Valaris, has an IV of 64.3, which is lower than its 20DMA IV of 70.7 and 252DHV of 82.7. Equipment and services companies like PTEN and HP have IVs in the 60-70 range. It seems reasonable to believe Valaris warrants should have closer to 60-70 IV and if oil goes to $100+, an even higher IV.
The clear explanation for this IV gap is low volume. Valaris warrants have an average volume of like ~10-15k per day which is super low. When demand goes up, an IV spike seems likely.
Back to the original question: can these warrants 100x?
Before we start dealing with IV, let’s just build some intuition. Say Valaris trades at a peak of 2x replacement value (offshore drillers did this last cycle). This means Valaris hits a market cap of 36 to ~360 – 221.12, warrants must cost at least $221.12 which is a 70x from their current price. Factor in IV spike and some additional premium from increased demand (not sure if that’s priced in or not – as I said, options beginner), 100x suddenly seems realistic.
Obviously, VAL being a 10-bagger is a big assumption, but the fact that these warrants even have the potential to 100x is amazing – there’s very few opportunities out there like that.
What should the warrant price look like in other scenarios? I tried to estimate them in the matrix below (volatility vs underlying price).
I haven’t factored in time decay here, but nonetheless these seem like great numbers. I just opened up an IBKR account today and will be buying these warrants ASAP. As I start catching up on oil macro and going deep on the VAL thesis, I’ll likely continue averaging in.