$V Fiscal Q1 Earnings Preview

by Enis February 6, 2013 12:03 pm • Commentary

Event: V reports fiscal Q1 earnings after the close tonight.  The options market is implying about a 2.5% move vs the 4 qtr avg of about 4%, and the 8 quarter avg of about 2.75%.

Price Action  / Sentiment:  V has been a huge winner, up 60% in the past year, moving its market cap from around 70 billion to around 110 billion today.

The street remains positive on the name with 28 Buys, 10 Holds and 1 Sell, but only an avg 12 month price target of ~$167.

Options open interest is evenly split between calls and puts, while volumes in the past month have been skewed 1.4 to 1 towards calls.

Technicals:  V stock has been in an incredibly steady uptrend, especially given its size.  The 2 year chart shows a stock that has only traded under its 50 day moving average (in pink) for a few months, and hasn’t even come close to touching its 200 day moving average (in black) since August 2011:

2 year V chart, Courtesy of Bloomberg
2 year V chart, Courtesy of Bloomberg

Based on Mastercard’s price action after a strong earnings report last week (the stock opened at all-time highs, only to fall right back into its trading range), I think the appetite for new buyers in the payment processors is close to exhausted in the short-term.  The 50 day ma around 154 should be initial support, and the 2013 closing level of 151.58 is another important level on the downside.  The stock’s all-time high of 162.77 is the only level of resistance.

Fundamentals / Valuation: The bullish drivers for the stock have been:

  1. Secular shift to electronic payments.  That’s been an important driver of 15% sales growth and 25% earnings growth over the last couple years.  Sales growth is projected to be 11% over the next 2 years, coupled with earnings growth of around 15%.
  2. International adoption of card payments.  Visa has historically had a revenue split of 60% U.S., and 40% international.  Over time the international growth is expected to be the driver as adoption of alternate payments spreads.
  3. New payment technologies.  As mobile payments systems expand (an area of focus for both GOOG and AAPL), new transaction processing revenue opportunities open up for V.

These positives are all well and good, but what are investors paying for the good news here?  Herein lies the problem with the bullish thesis.  The lifetime chart of the Visa P/E multiple:

[caption id="attachment_22410" align="alignnone" width="500"]Visa Trailing 12 month P/E since IPO, Courtesy of Bloomberg Visa Trailing 12 month P/E since IPO, Courtesy of Bloomberg[/caption]

Visa’s multiple is near all-time highs, at a time when sales and earnings growth are expected to be lower than they have been over the past 3 years.  Also, at this point, Visa is a $100 billion market cap company, and size alone usually implies a lower multiple given the difficulty of growing earnings as size increases.

I agree with all of the secular trends in Visa’s favor.  I think the company has bright future prospects.  But the stock here is no bargain, and a low 20’s multiple is likely fair value given growth prospects

Vol Snapshot: Realized volatility (in blue) has been low in Visa so far in 2013.  So it’s no surprise that implied volatility (in red) at its lowest level heading into an earnings event over the last year:

[caption id="attachment_22413" align="alignnone" width="645"]1 year chart of 30 day implied vs. 30 day realized in V, Courtesy of LiveVolPro 1 year chart of 30 day implied vs. 30 day realized in V, Courtesy of LiveVolPro[/caption]

All things considered, volatility pricing looks fair.

My View:  I was one of the largest market makers in Visa options from 2008 to 2012, and am keenly familiar with this stock’s machinations.  It’s been a consistent performer on earnings, rarely pulling any surprises, and the stock’s uptrend has reflected that.  However, the stock’s current valuation seems more than full to me here.  I don’t expect any pullback to be extreme given the predictability of Visa’s future revenue and earnings streams, but I do think a short-term move back to the 150-155 area is possible.  With that in mind, I am likely to do a trade later today.