AMZN UPDATE: New Trade – Roll Long APR Put Spreads to May and Capture Q1 Earnings Event

by Dan March 29, 2011 6:02 am • Commentary

UPDATED March 29th 2011 @ 7:00am:

I am in Rio de Janeiro, Brazil this week, and well, you’re not. But I would be a little careful taking the other side of my trades this week, because I literally have this guy looking over my shoulder.

That said, all this Brazil stuff got me thinking about the Amazon and then of course my bearish view on  Back on Feb 24th I recommended expressing near-term bearish views in AMZN through the purchase of April Put Spreads rather than shorting the stock. The trade that I suggested and put on was the Apr 170/150 Put Spread which cost about 4.25 when the stock was right around 177.  I am rolling this trade, which on today’s close could be sold for about the same price that I purchased it for back in late February.

-At one point when the stock traded down close to 160 mid last week  and the spread was worth close to 7.50 I took some profits.  On Options Action a couple weeks back when asked about this trade I suggested that I would likely take some profits at some point if I didn’t think the stock was going to break below 160 (it didn’t) and then use a mental stop of approximately where the spread was trading relative to where I bought it, which I also did.   With the stock now back around 170, I wanted to find a structure in May that would benefit from what I expect to be guidance for Q2 that could cause some volatility in the stock.  Earnings date not confirmed yet, but Bloomberg estimates Apr 25th (company usually announces between 22nd and 28th).

NEW TRADE: I put this trade on yesterday for 3.20 when stock was trading around 170.25 (similar to where it is trading after hours on the news that EBAY will acquire GSIC).  So if stock opens above 170 the spread should be offered at similar levels….(spread has about a 20 delta so for every $1 move in the stock the spread should move about .20, but the delta of the spread will increase or decrease as the stock moves further in/out of the money and close to/or away from the strikes that you are long and short )

Buy the MAY 165 / 150 Put Spread for ~3.20

-Buy May 165 Put for 6.60 and

-Sell May 155 Put at 3.40

Break-Evens on May Expiration:

Upside: btwn 161.80 and 165 you can lose up to 3.20 you paid for the spread, above 165 you lose all 3.20 or less than 2% of the underlying stock price.

Downside: btwn 161.80 and 155 you can make up to 6.80, below 155 (down ~9% from current levels) you make 6.80 or almost 2/3 of the width of the spread.

TRADE RATIONALE: Gonna be short and sweet here: 1. see below-all still stands, 2. BBY earnings and guidance I am willing to bet that this is not just AMZN eating their lunch, and lastly, 4. NEW AND EXISTING HOME SALES WERE HORRIBLE (sorry to shout but they were that bad for this stage of the supposed recovery).

-Stock traded very poorly before the market correction of mid March but seemed to have bottomed and stop making new lows at the height of the sell off…..Chart below is a 5 day, shows the bounce off a very important 160 support level.  I think there is an opportunity as we get closer to earnings and the market rally stalls to see this stock finally break that 160 level.  The catalyst possibly being earnings next month.

5 Day AMZN chart Chart by LiveVol

-This is a great company, and I am one of their biggest customers, but I am very conflicted as a consumer and a trader when I think about the company……they are almost too good to their customers with Prime shipping, massive selection and really cheap prices……the contrarian in me says that at some point soon the investment community will wake up and start thinking about them a little more like WMT and TGT.  Incidentally, those retailers are trying to help that thought process by changing the tax code to make Amazon more like them. But until then I will continue to define my risk in the options market while making bearish bets on the stock.

FROM Feb 24th, 2011:

AMZN (~177) -PSA (Public Service Announcement): Shorting AMZN Is Hazardous To Your Financial Health…..Consider Buying Apr Put Spreads To Express Short Term Bearish View

Let me reiterate…..not a great idea to short AMZN, Wall Street is littered with guys (and gals) who thought they bagged this one…..but very few ever have and most found it to be a career ending endeavor……

MY VIEW: When AMZN reported in late Jan that 4Q10 sales fell short of expectations and that operating income guidance for 1Q11 would be well below street consensus causing shares to sell off ~7.5% the next day  I would not have thought the stock would have recovered in a matter of weeks and almost made a 52 week high…..but that’s exactly what it did….Since that ridiculous rally the stock has retraced half of that move in sympathy with the market’s sell off, but there is still more to go if you are paying attention to some of the results and commentary from their lame bricks and mortar competitors.
-In a week that saw disappointing fundamental news from retailers such as WMT, RSH and SHLD, all of which fell short of investors expectations of either lower earnings and/or sales i am hard pressed to think that AMZN won’t and hasn’t felt some of the same pressures in a period where they have already acknowledged that they will spend aggressively to build fulfillment and data centers.

TRADE:  BUY APRIL 170 / 150 Put Spreads for ~4.25

-Buy 1 Apr 170 put for 5.75 and

-Sell 1 Apr 150 put at 1.50

Break-Evens on April Expiration:

Upside: 170 or above you lose the 4.25 premium that you paid (~2% of the underlying)…btwn 170 and 165.75 can lose up to 4.25 (long strike less premium paid).

Downside: btwn 165.75 (-6%) and 150 (-15%) can make up to 15.75…

Best Case: Below 150 u make 15.75 (or about a 9% return)

RATIONALE: In names like this, have a view and define your risk, specifically define what you are willing to lose if the stock goes up, which in this case it usually it does….also be mindful of the risk reward ratio, in a near the money vertical spread like this I generally don’t want to pay more than 25% of the width of the spread.