New Trade $IBM: You’re my boy, Blue!

by Dan September 9, 2013 3:23 pm • Commentary

For the better part of 2013, large cap tech, particularly those companies with large (~50%) revenue exposure outside the U.S. and to businesses have under-performed the broad market (see IBM, EMC & ORCL).  While these stocks are relatively cheap on a valuation basis, they are expected to get much of their future growth from emerging markets, which until recently have shown little evidence of a pick up in economic growth. Some of the recent manufacturing data-points in Europe and in China speak to stabilization, which could be all that some active money managers need to see in their desperate chase for performance.  If the long period of U.S. equity out-performance to the rest of world is coming to and end, then we will likely begin to see flows in that direction prior to anyone ringing the bell!

On Friday in the MorningWord, I spoke to this point as it relates to IBM:

U.S. multi-nationals like IBM, (which is expected to grow earnings 10% a year for the next few years, trading at 10x that expected growth) which have severely lagged (down ~4% ytd) could offer a great deal more value on a relative basis as opposed to those sectors that have already benefited from the U.S.’s recovery and are not likely to see a material impact from the rest of the world coming off the mat.

While taking a contrarian view on when the market thinks the fundamentals will turn for IBM, taking a quick look at the 5 year chart of the stock (below) will not really help in an effort to make a bullish case:

IBM 5 year chart from BLoomberg
IBM 5 year chart from BLoomberg

The stock is at a fairly important inflection point, earlier this year breaking the uptrend that has been in place since the bottom in 2008, and now sitting on one and half year support.   On a long term basis there is no real meaningful technical support for another 10% lower.

So looking down the laundry list of inputs we use, we have a very reasonable valuation, a poor technical set up, a mediocre at best fundamental positioning, low implied volatility and mixed earnings visibility.

The next real catalyst for the stock will be their Q3 earnings on Oct 16th.  A quick look at how the stock has performed after the last 12 earnings reports shows an almost uncanny patter of up down up down for the last 3 years.

Date Quarter % Change
4/18/2013 Q1 -8.28%
1/22/2013 q4 4.41%
10/16/2012 Q3 -4.91%
7/18/2012 Q2 3.77%
4/17/2012 Q1 -3.53%
1/19/2012 Q4 4.43%
10/17/2011 Q3 -4.12%
7/18/2011 Q2 5.67%
4/19/2011 Q1 -0.39%
1/18/2011 Q4 3.35%
10/18/2010 Q3 -3.36%


While that set up doesn’t speak clearly to setting up for a long trade into Q3 earnings, the way some very cyclical stocks are acting of late does.  Looking at stocks like CAT & JOY today I wan to look for laggards that investors may rotate into if the global growth reflation theme catches a bit more momentum in the coming weeks.

The Trade that I am putting on does not have a ton of delta exposure as I want to set up for what I think the next catalyst will be for IBM, their Q3 earnings:

TRADE:  IBM ($185 ) Long Oct 4th /  Oct 19th Expiration 190 Call Calendar for 1.55

-Sold 1 Oct 4th 190 call at 1.10

-Bought 1 Oct 19th for 2.65

Break-Even on Oct 4th Expiration:

Profits are maximized at 190 on Oct 4th expiration. Slight moves above and below that strike are also profitable with big moves higher or lower putting the structure at risk of losses on expiration.

Trade Rationale:  The stock has recently bounced off of fairly key long term support, but still sorely lags the market and its peers.  Given the potential for market volatility given the macro backdrop and the upcoming Fed meeting, my sense is that the prudent thing to do when initiating long biased trades into an earnings event is too look for ways to finance them.  If the stock is below $190 on Oct 4th expiration then I will look to spread once more by selling a weekly or possibly turning into a vertical.  This trade risks less than 1% of the underlying and offers me multiple ways to set up for a potential trade into Q3 earnings.