Options Corner: Favorably Mispriced Taiwan Semiconductor Stock Entices Bullish Speculation

Taiwan Semiconductor Manufacturing Co Ltd (NYSE:TSM) represents one of the highlights on a soft Monday session. It's not just that the chip foundry — more commonly known as TSMC — is set to release earnings this Thursday. Rather, Wall Street anticipates a record quarter and that naturally presents concerns for TSM stock.

Essentially, investors seem to be staring right in the face of a classic buy-the-rumor, sell-the-news setup. Since we don't know what to really expect, investors are filled with buoyant emotions, bidding up TSM stock. However, once the news is revealed, it's possible that euphoric high will quickly fade. Subsequently, market participants may rush for the exits as they realize just how far valuations have been stretched.

Quantitatively, though, TSM stock stands on surprisingly contrarian ground. In the last 10 weeks, there have been more down weeks (defined as the negative return from Monday's open to Friday's close) than up weeks. Further, some of those distributive sessions have been caused by fears of a bubble brewing in artificial intelligence.

In that sense, TSM stock may have a different risk profile compared to the classic sell-the-news setup. No, I'm not saying this risk is off the table as post-earnings disappointments are always a threat, especially to highly kinetic tech stocks. The point I'm trying to make is that TSM is not a case of a blisteringly strong asset "priced for perfection." As I said earlier, TSM structurally features a contrarian flavor.

What's more, it's also flashing a quant signal that previously preceded the current rally. On Nov. 25, I stated that the structure of TSM stock pointed to robust upside. At the time, there were no other technical signals that suggested a rally was imminent. However, the quant profile tipped its hand to an upward resolution.

What's fascinating about TSMC is that the security just flashed the same signal.

Calculating TSM Stock Like An Insurance Premium

Insurance companies by structure are "discriminatory" entities. I don't mean that in the sociological or ethical sense but rather in the functional vein. Essentially, insurers cannot price everyone's risk profile the same or else the entire industry would quickly go under. However, on Wall Street, risk is priced under a standard mechanism. When it comes to options, the Black-Scholes model provides a pricing template that everyone refers to.

As it turns out, this pricing model assumes that stock returns are lognormally distributed — but nothing can be further from the truth. It's just that with Black-Scholes, risk is priced as a function of the underlying target price's distance from the spot price. This is the least offensive way to price risk because it's like saying that a 50-yard field goal attempt is more difficult than a 30-yarder.

Still, depending on exogenous factors like crosswinds and inclement weather, it's not always true that a 30-yard kick is easier than a 50-yard attempt. In other words, under certain conditions, the Black-Scholes model could be pricing risk in a suboptimal manner. Therefore, if we operated under the "discriminatory" framework of an insurance company, we can potentially exploit the mispricing for our benefit.

As I said above, TSM stock flashed the same quant signal in late November that it's doing right now — and that signal is the 4-6-U sequence. In the last 10 weeks, TSM printed only four up weeks, but with an overall upward slope. It's an odd contrarian setup and it typically leads to upward resolution over the next 10 weeks.

Assuming a spot price of $333.33, TSM stock would be expected to range between $300 and $404, with probability density anticipated to be most elevated between the spot price and $360. It's also worth pointing out that probability decay accelerates sharply from around $370 onward. Therefore, the $360 price point is statistically appealing.

Letting The Numbers Do The Talking

Given the market intelligence above, the options strategy that I find the most appealing is the 350/360 bull call spread expiring Feb. 20, 2026. This wager requires TSM stock to rise through the $360 strike at expiration to trigger the maximum payout, which stands at 203%. Breakeven comes in at $353.30, adding to the trade's probabilistic credibility.

From a risk topography angle — a three-dimensional view of demand structure that encompasses expected price, probability density and population occurrence — TSM stock demonstrates a strong upward bias following the flashing of the aforementioned signal. Combined with the Street's anticipation of an outsized earnings beat, TSMC presents a picture of confidence.

Now, you should be aware that under Black-Scholes, the chance of TSM stock hitting $360 on Feb. 20 is set at only 25.53%. My model disputes this pessimistic figure, as under 4-6-U conditions, TSM is likely to settle around $360 over a fixed-time distribution.

Still, in a way, you should be glad that Wall Street is so pessimistic about TSM stock reaching $360. This presents a contrarian opportunity to trade the semiconductor giant through an orthogonally optimal model.

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