$AA Q4 Earnings Preview

by Dan January 8, 2013 11:20 am • Commentary

Event:  AA reports Q4 earnings tonight after the close, the options market is implying about a 4% move, vs the 4 qtr avg of 3.75% and the 8 qtr avg of 3.25%.  

Sentiment:  Wall Street analysts are fairly mixed on the stock with 7 Buys, 10 Holds and 4 Sells with an avg 12 month price target of $10.53.    Short interest is down about 1% quarter over quarter at about 7%.

Fundamentals:  The 2 main sticking points for Alcoa’s under-performance over the last few years (the stock is still down more than 40% from where it was 3 years ago) have been the weakness in Aluminum prices coupled with deteriorating gross margins.  We highlighted 2 charts in the Q3 AA preview, and they remain relevant today.  Here is the 3 year chart of Aluminum futures:

Screen Shot 2013-01-08 at 10.40.39 AM


Aluminum prices are still near the low-end of the past 3 years.  Worse still, Alcoa’s gross margins have continued to deteriorate during that period.  Here is the 7 year chart of gross margins:


Screen Shot 2013-01-08 at 10.48.22 AM


It is now at its lowest point since 2009, at 3.5%.  A combination of lower Aluminum prices and an inability to keep costs under control indicates poor prospects for AA.  The question here is how much of that has been priced in by the market?

Price Action / Technicals:  The stock is up 5% out of the gates in 2013, and up  nearly 14% since matching the 52 week lows in November.

From a technical perspective there is not a whole heck of a lot to glean from the charts.  The stock spent the better part of the second half of 2012 trading btwn $8 and $9 aside from a few instances where it was unable to establish a new support level above $9.  With the stock trading at essentially the mid point of the 1 year range, which just so happens to be 20% wide, I would suggest that there would have to be a fairly significant fundamental occurrence to cause the stock  to test long term support or resistance following the print.

[caption id="attachment_21271" align="aligncenter" width="490"]AA 1yr chart from Bloomberg AA 1yr chart from Bloomberg[/caption]


Volatility: Unless there’s a market wide crisis or global recession, Alcoa vol is about as exciting as last night’s BCS title game. Right now Jan vol is around 40, with Feb just under 30. Since its a 9 dollar stock options are dollar cheap. Here’s a look at the past year’s IV vs HV:

[caption id="attachment_21268" align="aligncenter" width="631"]Screen Shot 2013-01-08 at 8.20.59 AM IV vs HV from LiveVol Pro[/caption]

Vol looks likely to settle in the mid to low 20’s following the report.

IN SUM:  While the stock has had a recent history of moving around a bit post earnings, it is not likely that it has had a massively out-sized move in a very long time.  The last double digit move post earnings came in Jan 2009, when the stock was trading around similar levels, but had just capped a year that saw ~80% declines from the 2008 highs.

While the implied move looks high to historical, there does not appear to any fundamentals inputs that suggest the stock will have a dramatic move one way or the other.  Selling the move though seems like a bit of a waste of time, as the premium one would collect to do so equates to “picking up pennies off of railroad tracks”

We are looking at some potential trades and will post if we pull the trigger on any.