Name That Trade(s) – $DNKN & $SBUX: Pairs Trade Potential

by Dan February 26, 2014 3:24 pm • Commentary

Earlier I highlighted my newly coined chart pattern the “triangle of death” relating to WFM (here), referencing the stock’s weak relative performance and what could be a troubling set up in the event of negative company specific news or a broad market sell off.   Another high end retailer that caught my eye for its poor relative strength during the broad markets recent bounce back towards the previous highs is SBUX.  Much like WFM, a high-end retailer, with high growth, and a high valuation, the stock was a poster-child of the rally in 2013 and one of the leaders of the consumer discretionary space.

Despite SBUX’s relative out-performance today (up 1.6% vs the SPX that is flat), the stock is still down 8.5% on the year and down about 13% from the all time highs made in November.

Much like WFM, the stock recently bounced off of very important technical support at a nice round number, $70 and very much needs to hold:

SBUX 1 yr chart from Bloomberg
SBUX 1 yr chart from Bloomberg

Whats even more striking about SBUX recent weakness is the strength by coffee competitor DNKN, that just today made new all time highs and is up 6.6% ytd:

DNKN 1yr chart from Bloomberg
DNKN 1yr chart from Bloomberg

In both stock’s the 30 day at them money implied volatility is low, with SBUX hovering a few points above the 52 week lows:

[caption id="attachment_36892" align="aligncenter" width="589"]SBUX 1yr chart of 30 day at the money implied vol from Bloomberg SBUX 1yr chart of 30 day at the money implied vol from Bloomberg[/caption]


DNKN today is making at 52 week lows:

[caption id="attachment_36891" align="aligncenter" width="589"]DNKN 1yr chart of 30 day at the money IV from Bloomberg DNKN 1yr chart of 30 day at the money IV from Bloomberg[/caption]

Options are cheap for those looking to make directional bets or possibly to add protection to longs.

Despite the fact that DNKN sports a market cap one tenth the size of SBUX, the similarities in the company’s business, growth prospects, valuation are rather similar, but I would make one really important point, SBUX is cheaper and analysts expect it to have better growth for the next few years.

If we were playing “Would You Rather” I would be inclined to pair these two stocks up, long calls in SBUX, defining my risk at key support of $70 by buying the May 70 call for $4.00 (with stock at $71.65 it is 1.65 in the money) and then Buying the DNKN June 52.50 put for 3.30 (stock at $51.35, or 1.15 in the money) playing for a break below $50 support.  Both expirations catch earnings which should help keep IV bid and likley see it increase a great deal which could help ofd set some decay.  Normally we would look to take advantage of high IV in one name of a pair and look to put on a credit spread and be long premium in the cheaper name, but as stated above, both look pretty cheap.  We are not putting this trade on at the moment, but will be keeping a close eye on how both stocks act around important technical levels.  Stay Tuned.