MorningWord 10/17/12: As we get into the meat of earnings season this week and next there appears to be a slightly some divergent inputs btwn the Micro and the Macro. First off, Enis last week highlighted the worst ratio of negative earnings pre-announcements for Q3 (91 to 21) since Q3 2001. With the market off ~3% from the Oct. 5th high heading into this week, market sentiment was clearly negative, this was a fairly treacherous set up when you consider how poorly WFC and JPM acted on Friday.
And then Bam! we continue to get better than expected data on the Macro front with encouraging retail sales, manufacturing and housing data just this week, all coming on the heals of last weeks really mysterious (I wish I had a sarcasm font) jobs numbers last week. Oh and the Germans and the Spanish appear to be playing well together and appear to be close to a Spanish bailout agreeable to both countries. Despite the usual geo-political stuff in the mid-East, the macro seems to be suggesting smooth sailing at least for the balance of the year.
Which brings us back to the micro, as I am surveying the damage from some select earnings over the last 16 hours, I see multiple disappointments, from INTC & IBM in Tech to HAL &APOL. Even those that that don’t particularly look bad are trading down like PEP and BAC. My sense is that there is a bit of good news priced into equities as we once again approach 5 year highs in the SPX.
On another note, I think it is curious that the recent top in the SPX on OCT 5th, came the morning after Romney’s shellacking of Obama in the first Presidential Debate, I had read some theories suggesting that a Romney Administration would mean Bernanke Out and a far more Hawkish Fed Chairmen in, putting an end to the easy money policies of Helicopter Ben. What does last night’s performance from the President do to this line of thinking?
Lastly, a little comment on how we are trading earnings. We like to trade earnings, we see it as one of 4 great opportunities to formulate a view on vol and juxtapose it against other inputs and arrive at a trade. Often times this results in calendars as we have done in JPM and GS in the last couple weeks, if you get no movement or the direction right, these are very high probability trades. The hardest part for most traders is getting the direction and sentiment right, which is one reason why in the last couple of weeks I have taken off a handful of trading positions into earnings. For example, MSFT and GOOG in just the last few days and INTC last month. At a certain point on a pure directional basis with long premium trades, the events become fairly binary (like YUM last week, ugh), and you better have conviction to leave them on.
During this earnings season we are putting out our work on individual names as we have done in INTC, IBM, EBAY & CMG in just the last few days. When we have strong conviction and a trade structure that we feel gives us an edge, we will trade it, some trade for the sake of trading, this can be a difficult time to do so. So we urge readers to take a hard look at our previews, and try to use the inputs that we throw out there to come up with smart trades with better than avg risk/reward profiles.
Trading/Investing in equities over the last 21 months has not been an easy endeavor, as we head into the close of the year it is imperative to not make things more difficult than they have to be, so we will continue to attempt to lay down a few bunts, but generally shoot for singles and doubles, and avoid getting struck out looking or while swinging for the fences.
MorningWord 10/16/12: On numerous occasions in the last few weeks we have highlighted the weakening momentum among previous market leaders. The jury is still out on whether we have just seen a bit of profit taking as we head into a potentially volatile earnings season, or whether we are seeing a broad shift in sentiment away from many of the 2 or 3 baggers in the bull run of the last 3 years. We spend a lot of time writing about high-fliers on the site, but the recent m&a news in the wireless services space has caused a few intended consequences among the larger players (T & VZ), at least the way their shareholders view the recent performance and likelihood for continued upside.
Since early Oct when DT’s intention to acquire PCS and combine it with their T-Mob operation became public knowledge, AT&T shares have been down about 8%, giving back about a third of the ytd to gains.
From a technical perspective, T has had an interesting year, under-performing the broad market throughout the early stages of the rally, right up until the May highs, but then grabbing the interest of investors focused on domestically focused defensive names and those that offer a serious dividend yield.[caption id="attachment_18027" align="aligncenter" width="490" caption="T vs SPX ytd from Bloomberg"][/caption]
This morning, Enis wrote about the performance of the Healthcare sector in his MacroWrap, and these stock share very similar characteristics to the telecoms.
Setting aside the company’s 4-5% dividend yield for most of the year and the fact that they receive 100% of their sales in the the U.S., T’s valuation seems a bit stretched for a company only expected to grow earnings 8% a year for the next couple years, trading near a market multiple.
What’s also interesting about T is that the street has been slightly on the wrong side of this trade, as Wall Street analysts have 13 Buys, 25 Holds and 4 Sells on the stock with and avg 12 month price target of about $35.8, which is below where the stock had been trading for the last 2 months.
The company reports Q3 earnings on Oct 24th, the options market is implying about a 3% move vs the 4 qtr trailing avg move of only 2.2%. The spike in short dated vols makes sense given the stocks recent collapse, but as the chart below shows, the 30 day implied vols have likely overshot what can be expected around earnings events, and the 5 point surge above the 30 and 60 day realized is highly unusual.[caption id="attachment_18028" align="aligncenter" width="490" caption="AT&T 30 day Implied Vol vs 30 & 60 Day Realized from Bloomberg"][/caption]
No Matter what your directional bias is, calendars could make sense, we will take a closer look early next week prior to earnings, in the meantime though I am slightly intrigued of playing for a bounce if it can hold yesterdays lows.
MorningWord 10/15/12: Last week at their annual analyst meeting, Dollar Tree (DLTR) guided revenues to the low end of the previous range given in July. The stock got drilled, down about 12.5% in 2 days since the warning, and down ~28% since late June when it was trading at all time highs. The 1yr chart of DLTR could be filed under “classic broken story” in the annals of stock trading.
The three circles depict three consecutive disappointments on one metric or the other, I guess the third time was a charm. Which leads me to the question, Are all Dollar Stores created equal? The chart below tracks the performance of DLTR vs Family Dollar (FD) and Dollar General (DG), generally showing the correlation btwn the 3 stocks. They have for the most part moved in lock step this year making new all time highs in June, only to give back about a third of their ytd gains and until DLTR just lowered the boom and now shows a fairly massive divergence to the other 2.[caption id="attachment_17952" align="aligncenter" width="490" caption="1 YR DLTR vs DG, vs FDO from Bloomberg"][/caption]
Based on some of my quick analysis, the answer the above question won’t be easily determined…..Less than 2 weeks ago, FDO reported earnings that were slightly better than expected and raised 2013 guidance slightly. Apparently they do not share the same concerns that DLTR management gave for the weaker forecast, election uncertainty, high gas prices and long term unemployment.
The weak is generally weak for a reason, and the strong is strong for a reason. But that’s a large divergence for 3 companies that all sell products for $1. Hard to see a competitive dislocation when all the companies sell similar products for the same price. This isn’t a case of AAPL vs. RIMM. So we’re more likely to play for convergence in the weeks ahead.
MorningWord 10/12/12: Yesterday’s action in U.S. equities was a fairly clear indication of declining momentum as many of the prior market leaders seem to be losing a little steam. The SPX and the Nasdaq opened up more than 70bps only to spend the rest of the day selling off to close on the day and leave the indices unchanged and at or near 1 month lows. SO this leads to the obvious conclusion that while momentum of market leaders is waning, we are seeing a rapid decline in the breadth of the market. When you look at the 3 year chart below of the SPX vs Bloomberg’s Composite New High Index it becomes very clear that a small amount of stocks/sectors have been doing much of the heavy lifting in rally from the 2011 lows, and only just recently when the SPX made new 5 year highs did we see any real broad participation.
Which leads me to the point that Enis was driving home earlier in his MacroWrap about Rotation by the Big Money out of massive winners into relative under-performers. It appears this has already started to happen, as many mutual fund mangers are quickly looking downhill the the last few weeks of their fiscal year, and looking to lock in some gains while also positioning to add some alpha in some under-perfroming stocks/sectors.
Enis gave some good examples in his post, and I would take it step further by adding that hedge fund managers also game this process, and have their own little tricks by causing short squeezes in controversial names. A couple examples of this just yesterday could be the 8.4% rally in JCP, the 4.5% rally in DECK and the 7.1% rally in BKS. All of these names are in the retail /consumer space are very controversial, have massive short interest, and in the case of JCP and BKS have activist investors involved who control large stakes of the float.
-JCP: 41% short interest, top 5 holders control ~50% of the shares outstanding
-BKS: 31% short interest, top 5 holders control ~50% of the shares outstanding
-DECK: 38.5% short interest, top 5 holders control ~31% of the shares outstanding
Put another way, these activists and large holders are practically daring shorts to get in. The flip side of this is that savvy hedge funds know how to game this and we have seen a ton of upside call buying in BKS over the last week as the stock has rallied 30%! As an example, yesterday 13k of the Jan13 20 calls traded.
Sticking your neck out to short these sorts of stocks at this time of year can be quite dangerous. If you have a strong fundamental view, then options can make more sense, on both the big winners and the big losers, as volatility in single name stories will probably stay high for the next couple months.
MorningWord 10/11/12: Last night, in his Too Many Options, Enis flagged a large options trade that caught me by surprise in NOK. Someone bought 44k of the Jan14 5 calls for .37, with a break-even in 15 months more than 100% higher than current levels. NOK sits about 65% off of its 52 week highs, about 55% off of the 52 week, and 15 year lows made in July. The company, and the stock for that matter, has been relegated to the once dominant but now also ran category among handset makers (see RIMM & MOT).
Just to put things in perspective, AAPL’s Q3 revenues alone of $35 billion will be greater than NOK’s expected full year 2012 revenues of about $29 billion. Of AAPL’s $35 billion $25 billion can be attributed to iPhone and iPads. Make no mistake about it, many of NOK’s woes have been self inflicted, but AAPL’s emergence to the mobile space was kind of the nail in the coffin. In 2007 when AAPL introduced the iPhone, NOK reported record sales of $51 billion, which has steadily declined ever since.
Yesterday’s trade was interesting to me because I read a blog post from tnl.net last week entitled Why Apple Should Acquire Nokia. Here are a few of the highlights from the post:
- A large portion of progress in the mobile space will be dictated by the availability and ownership of patents. While Apple and Samsung are most famous for their specific fights over patented technologies and approaches, Nokia has quietly built up a very strong and relatively young patent portfolio
- A 2011 survey showed that Nokia was the largest patent holder for essential technologies relating to LTE.
- The giants in mobile telephony have taken notice. Last year, Apple had to settle out of court over some of Nokia’s patent claims. While numbers were not made public, I’ve heard that the initial payout was north of US$500 million and that Nokia could be making between $5 and $7 in patent fees from every iPhone sold.
- In fact, Nokia’s patent portfolio may be valuable enough on its own to justify buying the company. With analyst putting its value at anywhere between US$6 and US$10 billion, one could buy a patent portfolio and get a telecommunication and mapping company for almost free.
- Nokia has made a number of bets on location and mapping, with the 2007 U$8 billion acquisition of Navteq. This acquisition made Nokia the largest provider of mapping services in the world. In fact, the company provides mapping services to Google, UPS, Fedex, and many of the largest players in the automotive industry.
- When looked at in contrast to the recent release of Apple maps, it seems that this investment is one that would greatly benefit Apple and allow it to quickly catch up and surpass Google. The company could decide that it would not renew its offering to Google when that contract expires, forcing the search giant to go and build out a greater capability in that arena if it wants to retain its lead in the space.
- Of course, an acquisition of Nokia would have quite an impact on Microsoft as it tries to make its way back into the mobile space. With Nokia as its most important partner, Microsoft’s hope to become a likely contender for consumers’ hearts might be dealt something pretty close to a deathblow.
- Meanwhile, the increase in the size of the patent portfolio Apple would control would probably have a large impact on the company’s lawsuits against Android manufacturers. In a world where Android is prominent that you get a free Android phone when you buy a magazine, Apple’s lawsuits could eventually start cutting into that rate of growth.
Maybe yesterday’s buyer read this opinion last week as I did and was equally intrigued by NOK’s $5 billion enterprise value and the how the sum of the parts could far outweigh the risks to their hardware business near term. Additionally given MSFT’s reliance on NOK given their recent smart-phone partnership, any interest by a competitor such as AAPL would force MSFT into the bidding. NOK’s Q3 is likely to be horrible, and given the stock’s recent 50% rally of the lows it may make sense to wait for the next dip to step in, but given the recent M&A activity in the wireless services space (PCS/T-Mob and this mornings report of Softbank for Sprint) traders may not be able to contain themselves as the lower dollar stock, and the low dollar premiums in NOK allow for low notional exposure with large amount of shares or contracts.
MorningWord 10/10/12: Last night YUM reported Q3 earnings that were better than expected, while revs were a tad light, but slightly raised FY2012 eps growth forecast from at least 12% to at least 13%. As it relates to China, where they will see much of their future growth and receive about 45% of their current revenues, the company reported comp store sales in line with consensus and suggested they will open 750 stores in China this year, up from previous target of 700. I guess the most interesting take-away from the report, is that while most investors were focused on China being the cause for concern (me included), many had expected the U.S. to be weak after seeing disappointing results this summer in the U.S. from MCD and CMG. U.S. comp sales were actually better than expected, up 6% vs the estimate of up 4.4%. Could YUM’s U.S. performance be a result of one of the main tenets of hedge fund manager David Einhorn’s short thesis on CMG that he laid out nearly 2 weeks ago at the Value Investing Congress? His view on CMG (he declined to offer and investment opinion on YUM) is that Taco Bell’s New Upscale Menu in the U.S. may eat CMG’s lunch so to speak. Some guys are just really good at this.
The stock is up about 4.5% in the pre-market in line with the implied move, as investors’ worries about slowing sales in China are allayed for now and the U.S. is outperforming. This is one fast food chain that appears to be bucking the trend.
Yesterday prior to the close, I adjusted a bearish position in YUM that I have had on for 2 months, and rolled up and out a bit, my new position as of yesterday’s close is long the Nov 65/60 Put Spread after taking a loss on the Oct 62.5/55 Put Spread. In the post I outlined 3 options for my Oct trade and how I was thinking about going forward, and they were:
1. Sell the Spread for a loss and wait for the news to come out and then make a decision about how to express the bearish view if the news confirms the thesis (albeit at lower levels).
2. Sell the spread and roll to higher strikes and possibly even out to Nov in an effort to stay in the game.
3. Leave the position on and play for an out sized move post earnings.
In hindsight, number one was the right option, but here is the thing, if I am going to trade earnings, which I do frequently, I have to go with what I feel my best trade ideas are, knowing that I will not always be right. The prudent thing to do would have been to take a step back after 2 months in the trade, and wait for the news to come out and make my next move with the knowledge of the results. At this point, I am just wrong on the story, or maybe my timing is wrong, but now I have had 2 losing trades in the course of 2 months in the name, and it is likely time to bail and move on. I will officially update this trade this morning, after I see how the stock trades.
On another note, Enis nailed CMI with a Bearish play into their Q3 earnings and will get paid early after last night’s negative pre-announcement. Whats interesting about CMI is that their exposure to China is obviously one of the main drags on the company. Also last night, AA once again cut their demand forecast for Aluminum due to weakness in China. Both China related warnings come on the heals of FDX and NKE’s results in the last month that also both signaled to weakness in China.