Preview of Trade I will be discussing tonight on Options Action on CNBC at 5pm est:
Microsoft has had a heck of a run of late, it went from being one of the most overlooked stocks in the Nasdaq late last year to one of the best performing large cap stocks of the last 3 months. Since late November the stock is up nearly 32%, and is up almost 24% ytd, greatly out-performing the Nasdaq which is up about 14% ytd.
MSFT as many know is not an expensive stock trading at about 11x expected fiscal 2013 earnings (excluding it’s $40 billion in net cash even cheaper, and don’t forge the ~2.5% dividend yield), but the problem is that even at 10x the multiple lags the 2% earnings growth analysts expect for fiscal 2012 and basically inline with earnings growth expectations for fiscal 2013…..this is where Windows 8 comes in, the much anticipated update to MSFT’s bread and butter operating system, that the company (and obviously investors) hope willl create the sort of ubiquitous eco-system from desktop to ulta-book to tablet to smartphone that AAPL has been so successful with and that Android already has a decent lead on the software giant.
This past week at the Mobile World Congress in Barcelona, Spain, MSFT released their consumer preview of the product which so far has gotten pretty good reviews by most in the tech media world.
To me with MSFT up so much in such a short period of time after a long period of under-performance, I guess I would focus on “what’s in the stock” at current levels, rather than what does a successful launch mean for MSFT in the 12 months post the official launch at best at year end.
In a note to clients dated March 1st 2012, Goldman Sach’s, who rates the shares art Neutral and has a 12 month price target of $32 had the following to say on this topic:
We believe many are focused on how Microsoft traded historically from Beta to release-to-manufacturing (RTM) and from RTM to general availability (GA). Microsoft’s shares rose 12% from Beta to RTM over the prior three releases, and increased 4% from RTM to GA. In our view, the Windows 8 cycle has been more widely anticipated this time, as evidenced by the significant outperformance versus prior cycles in the five months prior to the Beta release. We believe upside in the stock going forward will be more related to upside to Windows sales and EPS versus current forecasts, driven primarily by price points, SKU mix, and developed versus emerging market shipment growth.
My take away from Goldman’s data is that a good bit of the prior cycles Beta to RTM is in the stock up 24% ytd and Windows 8 conversation has dominated investor’s focus in the name since early Jan after CES, so the sentiment and the price appreciation may be a bit overdone.
I am currently long March 32 Puts and looking to roll out some exosure to April expiration which will catch their fiscal Q3 earnings report.
TRADE: MSFT ($32.10) Bought MSFT April 31/29 Put Spread for .39
-Bought 1 April 31 Put for .59
-Sold 1 APril 29 Put at .20
Break-Even on April Expiration:
Profis btwn 30.61 and 29 make up to 1.61 or 4x your money, max gain below 29, make full 1.61
Losses of up to .39 btwn 30.61 and 31, with max loss of .39 with the stock 31 or above……
ALSO CONSIDERED
*I considered Buying the April 32/30 Put Spread for .64 (stock ref 32.10), which has a better probability of success but not as good of a payout…..I do feel strongly that if the stock does sell off in a broad market or for stock specific reasons that $30 will be a level it goes to quickly.
**Also would consider paying .97 for the April 32 Puts for .97 (vs 32.10) as atm implied vol is reasonable at about 22 vs the 60 day realized of about 21
TRADE RATIONALE: I chose the out of the money strikes as I believe a 9% target move on slightly disappointing guidance and a broad market move lower btwn now and April expiration could very possibly cause a 30% re-tracement of the rally since late November, which also happens to be a support level at it’s 50 day moving average.
ALso Bank Of America Merrill Lynch Analyst Kash Rangan who rates the shares a Buy with a $34 price target suggested in a note to clients dated March 1st, 2012:
In line with our expectations, MSFT launched Win 8 Consumer Preview at Mobile World Congress yesterday boosting our confidence for Win 8 to ship by end of C12. Historically the time lag between a beta and full release has been 9-10 months. The Consumer Preview has over 100,000 code changes made since the developer preview launched last Sept including UI tweaks optimized for touch and as many as 100 Metro style apps for the Windows Store (per some blogs). MSFT is also courting IT pros and developers with beta releases of Windows Server 8 and Visual Studio 11. Coupled with Microsoft President Steven Sinofsky’s blog post earlier this month, these product launches indicate that Win 8 is tracking well for ARM and x86, and should help bolster investor confidence.
Ok I get all that But I think with the stock up 30% in 3 months it may make sense that investors all believe this and any disappointments to the expected release schedule could be a set back for the stock…….we won’t have any meaningful insight into release by Apr expiration, but any bugs that could cause delays could come up at any point.I also wonder what more hype about the product now means for Windows 7 sales this yr? Will consumers wait to buy Windows based computers until the new version is out and what will that mean for sales until then?