$FB Q4 Earnings Preview

by Enis January 29, 2014 12:05 pm • Commentary

Event:  FB reports its Q4 earnings today after the close.  The options market is implying about a 10.5% one day move, which is slightly above the 4 quarter average of 9.5%, but below the 6 quarter average of about 12.5% (FB has only reported earnings for 6 quarters prior to today).

Sentiment:  Wall Street analysts are very positive on FB, with 44 buys, 7 holds and no sells, quite a skew for a stock this widely followed.  The stock is up 75% in the past year, which is a big reason for the optimism.  The average 12 month price target is around $61.  Meanwhile, short interest is only at 2.3% of the float, quite low for a social media stock, though FB is a $137 billion market cap, by far the largest of the stocks in that sub-sector.

Options Open Interest:  Calls outnumber puts by a ratio of 1.7 to 1 in FB, and 1 month average volumes have been even more skewed in favor of calls, by a ratio of 2.15 to 1.  Among the weekly options, the weekly 60 calls have the most open interest, at over 20k.  Among monthly options, the following strikes have over 50k of open interest:

-Feb22nd 55 calls

-Feb22nd 57.5 calls

-Jan15 22 puts

-Jan15 32 calls

-Jan15 47 puts

-Jan15 55 calls

The largest directional trade that we have seen in the name of late was back on January 7th, as the stock had just made a new all time high, there was a bullish roll in the calls, where a trader sold 60,000 Feb 55 calls at 5.87 to close and bought 60,000 Feb 57.5 calls for 4.65 to open.

Price Action/Technicals:  The lifetime chart of FB shows that much of the action over the past 4 months has taken place above the important $45 IPO day high that is now important long-term support:

FB daily, Courtesy of Bloomberg
FB daily, Courtesy of Bloomberg

Zooming in to the price action over the last 6 months, we can see that the October highs around the $55 level have become an important pivot point, while the 100 day moving average in green has not been breached during that entire period:

FB daily, 50 day ma in pink, 100 day ma in green, 200 day ma in yellow, Courtesy of Bloomberg
FB daily, 50 day ma in pink, 100 day ma in green, 200 day ma in yellow, Courtesy of Bloomberg

The all-time high for the stock was set last week, at $59.31.  Given that the options market is implying a 10.5% move, FB could be testing or breaching that upside level tomorrow, while the downside support of the 100 day ma around $50.70 and the psychological $50 level are important for the event.

Fundamentals/Valuation:  The FB story is an attractive one for new frontier technology investors.  GS Research sums up the overall Wall Street analyst positive viewpoint quite well:

Despite the stock being +18% since the 3Q13 earnings release and +120% since the 2Q13 release (vs. S&P 500 +6% and +12%, respectively), we continue to recommend buying the stock. As we look out over the next 12-18 months we see powerful new product cycles relating to video ads, Instagram and even over time leveraging of the graph search platform helping to drive spending growth. Not to mention, we believe advertisers continue to be impressed with the ROI on their Facebook spending, which is helping to drive more dollars from offline to online.

We’ve been more skeptical in these pages about the long-term value of FB, more on a valuation basis than on the viability of the platform.  Facebook has become sufficiently entrenched as a global online platform that even if it cedes growth to others in certain demographics (particularly younger users), it still has an enviable online presence for both local and global ad campaigns.

The company is also at the center of a revolution in global advertising, which is expected to rapidly shift away from print and TV, and more towards online and video.  But on a valuation basis, at 40x 2015 earnings, the stock does not have much cushion for disappointment.  More importantly, at $140 billion market cap, the company is fast approaching a size where it will get more difficult to grow earnings at the speed that Wall Street wants.

Volatility:  30 day implied volatility in FB has been quite elevated for the last 2 earnings events (including today’s), after options traders totally mispriced the potential earnings volatility for FB’s July earnings announcement, after which the stock gapped 30% higher and never looked back.  However, the last earnings event was only a 2% move, so implied volatility has come down a bit for this event:

30 day implied volatility in FB, Courtesy of LiveVolPro
30 day implied volatility in FB, Courtesy of LiveVolPro

The 30 day implied vol is likely to fall back to near 40 after the event, still a significant vol crush for near-dated options.

Our View:  FB has been a huge winner in tech over the last 6 months, and the stock has attracted a swarm of attention as a result.  The platform is widely known, secular trends in advertising are in FB’s favor, and earnings growth is expected to be 30%+ for the next few years.  Hard to find a $100 billion market cap with that type of earnings growth.

However, we view the risks as more balanced overall.  The valuation is reasonable given the expected growth, but we’re a bit skeptical about the growth prospects simply given the company’s size.

Finally, we mentioned in our late December CotD post that Mark Zuckerberg sold a good chunk of stock at $55.05.  That’s a crucial technical level as well, and an important spot to get over if FB bulls are going to continue the party into 2014.