Our two long put option trades on CAE Inc. (TSX:CAE, NYSE: CAE) and TSX Group (TSX:X, OTC: TMXXF) initiated in October had the stated purpose of protecting against downside risk for shareholders but eventually expired worthless. Against the put options, holders of the underlying stocks had some capital appreciation which would have at least partially offset the option premiums.

Our “wild ride” call option on Westjet Airlines, recommended in November, did not remain in the portfolio for long: we locked in a 38% profit within 10 days. Perhaps we were a bit too fast to pull the trigger as the option price is now well ahead of our sales price.

For December, we are recommending another speculative long call option on a relatively volatile stock – this time on what we believe is a hugely undervalued airline stock.

Ready for Liftoff? Round 2

Investment thesis: When Calin Rovinescu became CEO of Air Canada (TSX: AC, OTC: ACDVF) in April 2009, the company had just lost $1 billion the previous year. The business was in dire straits, with too much debt, high costs, a large pension fund deficit and a strike-prone workforce. Investors bailed on the stock, dropping the price by 95% in the two years up to mid-2009.

Fast forward to December 2016. The company has rebuilt its balance sheet and lifted its operating performance closer to the best-in-class airlines. Labor issues have largely been addressed, and the pension fund deficit has since become a surplus. Estimates for 2016 show revenue increasing 50% since 2009 and EBITDA (earnings before interest, taxes, depreciation and amortization) up 305%, with the return on invested capital going from negative to over 15%.

The stock now trades around $11 (C$15), a vast improvement from early 2009. Meanwhile, management started setting financial goals, and those made in 2013 for cost management, return on capital and debt reduction had all been achieved by year-end 2015, with room to spare. The latest set of targets, which Air Canada is well on its way to meeting, emphasizes the same metrics while raising the bar higher.

Despite this turnaround, the stock’s valuation is still about half of its North American peers, with the forward enterprise value-to-EBITDA and price to-earnings ratios at 2.7 and 4.0 times, respectively. We are comfortable that the low valuation sufficiently covers investors for the risks the business faces.

Option Strategy: Buy to open a call option with a strike price of C$14 with expiry on January 19, 2018 at or below C$220 per option (C$2.20 x 100).