A huge, unusual volume in Palantir Technologies (PLTR) put options may signal a near-term peak in PLTR stock. It has doubled since its Q3 earnings on Nov. 4. However, put premiums are now very high—an income play for short-sellers.

PLTR closed at $82.38 on Tuesday, Dec. 24. That is up 99% from its Nov. 4 price close of $41.41 when Q3 earnings were released.

Moreover, despite the company's huge increase in free cash flow (FCF) and FCF margins, it is exceedingly hard to reconcile this to its present $187.8 billion market valuation.

As a result, its put option premiums, especially in the near term, have been rising. That is what happened on Tuesday as seen in the Barchart Unusual Stock Options Activity Report.

It shows that the $84.00 strike price put options that expire this Friday, Dec. 27, 2024, have traded over 12,500 contracts. Note that this strike price is higher than the trading price of $82.38, so they are “in-the-money.”

In other words, the puts have an intrinsic value of $1.62 (i.e., $84-$82.38). However, the midprice of the put options is $2.40, which means that there is an extra amount (i.e., extrinsic value) of 78 cents (i.e., $2.40-$1.62).

That implies that investors who bought these puts still believe that PLTR will fall below $80 (i.e., $82.38-$2.40=$79.98 breakeven) by the close on Friday. They are bearish on the stock and believe it has to fall from its peak.

But there is no obvious reason, other than the huge gains that the stock has made, why this should happen. In fact, those shorting these puts stand to make a nice yield of 2.786% over the next two trading days (i.e., $2.34 bid side premium/$84.00 strike price). 

And the worst that could happen to them is that they have to buy shares at $84.00. Even if that occurs, their breakeven price is $84.00-$2.34, or $81.66, which is slightly lower than today's trading price. So, they may be willing to do this trade based on the yield opportunity.

It all depends on whether PLTR seems overvalued here. Let's look at this.

Palantir's Underlying Value

Palantir reported an astounding 44% gain in revenue YoY and a 14% gain a on sequential QoQ basis. Even more important, its adjusted free cash flow (FCF) rose from $148.66 million in Q2 (and a 22% FCF margin), to $434.5 million in adj. FCF in Q3 (representing a whopping 60% FCF margin).

The increase in the FCF margin absolutely shocked the market. That implies that going forward, the company's FCF could explode upward. For example, management projected that this year (2024) the company expects to make over $1 billion in adj. FCF.

For example, analysts now project that sales in 2025 will reach $3.48 billion. Therefore, if Palantir can average 50% FCF margins it could end up being $1.744 billion (i.e., $3.48b x 0.50).

That would be a huge 74% gain in adj. FCF next year.

As a result, the market decided to give the stock a very low FCF yield valuation. For example, if we assume that it can make $1.744 billion in FCF next year, given its $187.66 billion market value, its FCF yield is now below 1.0%:

   $1.744b / $187.66b = 0.0092 = 0.92% FCF yield

Rarely do tech stocks continue to keep market caps with FCF yields below 1.0%. That is the same as saying that the market is willing to pay more than 100x expected FCF.

For example, the inverse of 0.92% is 108.7x (i.e., 1/0.0092 = 108.695). Will the market keep giving PLTR stock a greater than 100x adj. FCF multiple?

Maybe, but the earnings, revenue, and FCF outlook in Q4 will have to sustain that high valuation.

That could be why investors in put options are willing to pay extra (i.e., high extrinsic value) in today's Barchart Unusual Stock Options Activity Report. 

On the other hand, the 2.786% short-put yield for the next 2 days is also attractive to short sellers of this in-the-money (ITM) put option play. They are willing to buy PLTR stock at the implied $81.66 buy-in price should the stock not rise over $84.00 by the close on Friday.