H&R Block (HRB) Option Volatility, CDS Spike on Put-Backs, RALs (Refund Anticipation Loans)

It seems like H&R Block (HRB) is the only stock with volatility spiking at the moment. There are two things going on. Since an ex-entity of theirs, Option One Mortgage, originated mortgages at the peak of the bubble, they could be exposed to $33 billion in mortgage put-backs. The CEO said they have $188 billion in reserves though. Read more at CNBC NetNet.

However, this is probably more serious. H&R Block was told by HSBC that they couldn't sell "refund anticipation loans" anymore due to new IRS rules. This is a major part of their business.
"HSBC told Block it could not provide funding for the RALs and refund anticipation checks because the IRS has decided to stop providing a debt indicator next tax season that would say whether a taxpayer has liens outstanding, and that would make the loans too risky to provide." [WebCPA.com]

According to Bloomberg and WebCPA, 3 to 4 million of their clients used RALs last year or 17% of total tax returns. Moody's recently downgraded H&R Block to Baa2 and S&P put them on Credit Watch (BusinessWeek).

So check out the activity in its credit default swaps, options and stock. Business Insider and Bloomberg both reported that H&R's credit default swaps (Block Financial LLC) were spiking. I couldn't find a chart on Bloomberg.com but here are CDS quotes as of 10/21/2010:
"Contracts protecting the debt for five years rose 11 basis points to 831.9, CMA prices show. One-year credit-default swaps for Block climbed 17.7 basis points to 1,062.7, CMA prices show." [Bloomberg.com]

The CDS curve is inverted. I'd like to know the science behind that. Does that mean less default risk further out? Premiums are still elevated though. My calculations say 5-year credit insurance is priced at $831,900/yr to insure $10 million in debt and 1-year insurance is priced at $1,062,700/yr. Check out the chart at Business Insider.

HRB's stock chart looks horrible. It closed at $10.62 yesterday which is a 10 year low. It desperately needs to find a base here with volatility sellers and needs to knock through that steep downtrend line. Implied volatility is at 92.43 with historical volatility (30 day) at 57.48. Hedgers and traders are bidding up protection on the underlying stock. Options are insurance contracts on the stock.

HRB (H&R Block) courtesy of FreeStockcharts.com

Courtesy of OptionsXpress

Last but not least. Check out this trade in the January 2012 puts today. 12,500 January 2010 $2.50 puts were bought for $0.40. Was that a 1-year CDS seller hedging? Or a hedger/speculator buying cheap insurance way out of the money. I'll be watching this stock. There will probably be decent trade set ups here and at some point an amazing short squeeze. According to Schaeffers Research, on 10/1/2010 there were 27 million shares short, which is up 109% since 8/1/2010 (12.88 million). $HRB is down 51% year to date.

Courtesy of Yahoo Finance (options)