Event: ADBE reports its fiscal Q2 earnings on Tuesday, June 17th after the market close. The options market is implying about a 5% one day move, which is below both the 4 quarter average of about 7% and the 8 quarter average of about 5.75%.
Sentiment: Wall Street analysts are mixed on the stock, with 14 Buys, 9 Holds and 2 Sells, though the average 12 month price target of around $76 is nearly 15% higher. ADBE is up 11.5% year-to-date, near its all-time high of $71.11 set in February. Short interest is negligible at only 1.5% of the float.
Options Open Interest: Calls and puts have an equal amount of open interest in ADBE. The 1 month average volume has slightly favored calls over puts (1.2 to 1). There are only 2 strikes with over 5k of total open interest: The June 62.50 puts and the Jul 70 calls.
Price Action / Technicals: ADBE remains in a long-term uptrend, as represented by the weekly chart, where the 50 week moving average remains upward sloping and has not been breached since early 2012:[caption id="attachment_41742" align="alignnone" width="600"] ADBE weekly chart, 50 week moving average in pink, Courtesy of Bloomberg[/caption]
The stock’s impressive 2 year run has taken it to new all-time highs. In the last few months, ADBE has stalled, trading between $60 and $70 for much of that period, as seen on the daily chart:[caption id="attachment_41748" align="alignnone" width="600"] ADBE daily chart, 50 day ma in pink, 200 day ma in yellow, Courtesy of Bloomberg[/caption]
$70 is the obvious resistance level, near the Feb all-time high of $71.11. On the downside, the rising 200 day moving average is now near $60, which is important psychological support. The 50 day ma has flattened out around $63.
Fundamentals: ADBE is one of those stocks where valuation has taken a back seat to subscriber growth, as the company transitions to a Software-as-a-Service payment model.
We have long been skeptical of the huge advance in ADBE’s stock price on the basis that the SaaS model will result in a higher level of long-term earnings, especially since the company is not expected to regain its 2011 level of EPS until the start of 2016. See my Name That Trade post from early May. Nonetheless, the stock’s persistent advance over the past few years led us to place ADBE in the bucket of stocks where we focus on the technicals rather than the fundamentals, since the fundamentals don’t make sense to us.
To get a sense of analysts’ complex fundamental basis for valuing ADBE at $70 or higher, here is GS Research:
We maintain our 12-month target price of $73. Our target is derived from a three-pronged equal-weighted valuation approach, which includes a five- year traditional discounted cash flow, EV/sales and P/E multiple analyses. We use normalized non-GAAP EPS (FY16 discounted back at Adobe’s cost of capital), given the outsized impact the shift to ratable revenue recognition should have on earnings. At ~$67, Adobe is trades at 58X & 33x our CY14E and CY15E non-GAAP EPS of $1.15 & $2.04 (consensus $1.17 & $2.05) and 8x and 6x on an EV to sales basis for each period.
Seems like a lot of post-rationalization to us on the valuation front.
In any case, the bar is low for ADBE earnings for this quarter. The 0.30 EPS consensus expectation is a 17% decline year-over-year, and in line with the 0.26-0.32 guidance range given by the company.
Volatility: Implied volatility in ADBE is relatively fair compared to the pre-earnings level of the past 2 years:[caption id="attachment_41753" align="alignnone" width="600"] ADBE 30 day implied volatility, Courtesy of Bloomberg[/caption]
Given the low level of volatility in the overall market, I’d expect implied vol in ADBE to fall down to near 20 after the earnings event. The implied move of around 5% is slightly low compared to the 4- and 8-quarter averages.
Our View: We have focused more on the technical situation when trading ADBE over the past year, since the fundamentals have seemed like a side note in the stock’s very strong uptrend of the past couple years.
The current technical situation suggests continued rangebound price action between $60 and $70. ADBE’s last earnings report was met with selling for the first time in 6 quarters, and that was a key sign in the stock’s shift from an uptrend to a range trading situation. If we do execute a trade in ADBE ahead of tomorrow’s earnings report, it will be with a rangebound view in mind.