$GM Q4 Earnings Preview

by Enis February 5, 2014 12:12 pm • Commentary

Event:  GM reports its Q4 earnings today after the close.  The options market is implying about a 4% one day move, which is above the 4 quarter average of around 2.5%, but below the 8 quarter average of about 4.25%.

Sentiment:  Wall Street analysts are positive on GM, with 18 buys, 6 holds and no sells, and an average 12 month price target of $45.61, about 27% above the current stock price.    GM is up about 25% in the past year, but off to a bad start in 2014, down 12.5% year-to-date. Short interest is actually somewhat elevated, around 7%, higher than it has been for much of the past 3 years:

GM short interest, Courtesy of Bloomberg
GM short interest, Courtesy of Bloomberg

Options Open Interest:  The call/put ratio among all outstanding open interest is around 1.25 to 1.  Calls have been more active over the past month as well, with the average 1 month volume favoring calls to puts by a ratio of 1.4 to 1.

Among weekly options, the 35.50 puts have by far the most open interest, at almost 25k.  In March expiry, there are a couple strikes with over 50k open interest:  the March 40 calls and the March 42 calls.  The only other strike on the board that has over 50k of open interest is the Jan15 40 call, with around 70k.

Price Action/Technicals:  Dan discussed GM in yesterday’s Morning Word, pointing out the importance of the $35 support level, which the stock has flirted with this week:

Yesterday, the stock broke and closed below a key momentum indicator, the 200 day moving average (yellow below), the first time since September 2012, and closed just above key near term support at $35. From a purely technical standpoint, $35 is a big level to hold as there is no real support until the low $30s, particularly the May breakout level.

Here’s an updated chart with today’s action:

GM daily, 50 day ma in pink, 200 day ma in yellow, Courtesy of Bloomberg
GM daily, 50 day ma in pink, 200 day ma in yellow, Courtesy of Bloomberg

If the $34-$35 area holds, the major resistance on the upside is the declining 50 day moving average, now around $39.  Those are the key levels to watch after the report.

Fundamentals/Valuation:  Part of the appeal of GM is that some of the top investors are billionaires.  Berkshire Hathaway owns 3% of the company, with a stake valued at $1.4 billion.  David Einhorn’s hedge fund, Greenlight Capital, owns 1.25% of the company, worth around $600 million.  Not exactly chump change, even for a couple billionaires.

The bull case is easy to make – GM is a 12x P/E company expected to grow earnings 20-25% over the next 2 years.  An absolute steal if GM does indeed grow earnings that quickly.  But for each buyer there is a seller, so what is the seller here thinking?

Well, GM has seen steep falls in earnings on several occasions over the past 10 years, so 20-25% earnings growth could easily turn into 20-25% earnings contraction if economic growth materially slows.  All of a sudden, a very cheap stock will start to look quite expensive.

GM has been falling since the start of the year as the negative data points in the U.S. add up.  Yesterday, Dan summed up the concern on GM given the recent bad data:

Yesterday the major auto companies reported sales for January that came in far worse than analysts had expected, capping a multi-month string of disappointments since posting record monthly sales back in August. As you would expect, analysts have a pretty decent answer for the miss, weather. But I suppose it probably also has something to do with the fact that the U.S. consumer is kind of “full up” with new crap. The second half of 2013 might have been somewhat of a last gasp of purchasing en masse for a while.

Volatility:  30 day implied vol in GM has approached the 35 level, near where it has been prior to earnings for the past year:

30 day implied volatility in GM, Courtesy of Bloomberg
30 day implied volatility in GM, Courtesy of Bloomberg

Implied vol has normally fallen to around the 25 level after earnings, though the current market backdrop is more volatile than the past year.

Our View:  Simply put, we view GM as a leveraged bet on the U.S. economy.  The stock looked awfully attractive just a couple of months ago when the domestic data indicated an economy that was slated to fire on all cylinders come 2014.  But the holiday sales data across a number of sectors has indicated a much different report card for the economy, and investors have been exiting GM unrelentingly in the past month as a result.

Implied volatility looks fair given the downdraft, and the stock is perched right at crucial support.  The real focus for earnings will be the company’s outlook, as investors strain to see what might lie 3-6 months ahead in an economy that has been start and stop for many, many years.