Trade Update – $P: Spreading Dec Puts

by Dan September 23, 2014 9:44 am • Commentary

A little more than a month ago, after Pandora made a sharp move higher from $25 to technical resistance just below $28, I initiated a bearish put calendar, looking to finance the purchase of longer dated downside puts (below).  Last week, the short leg of the put calendar rolled off worthless, and now the stock is at my long strike. I will spread the Dec 25 puts that I am long and lower my break-even and thus my risk, though that does limit my potential gains.

Action: Sell to Open Pandora ($25) Dec 20 Put to Open at .75
New Position:  Long Pandora ($25) Dec 25/20 Put Spread for 1.05

Break-Even on Dec Expiration:

Profits: between 23.95 and 20 make up to 3.95, max gain of 3.95 at 20 or below

Losses: between 23.95 and 25 lose up to 1.05, max loss of 1.05 above 25


Now I own an in-the-money $5 wide put spread, 20% of the width of the stock price for 20% of the width of the spread. This is a good set up for my bearish thesis on the stock as Dec will catch Pandora’s next earnings event, amidst what I expect to be no shortage of service announcements from competitors leading into the holiday season.



Previous Post: Aug 14th, 2014 – New Trade – $P: Opening Pandora’s Box of Internet Trolls

Yesterday Pandora had a massive 10% gain on the heels of some positive commentary from their CFO at two brokerage sponsored conferences.  He was clarifying some details about listening metrics that had caused the stock to decline 10% the day after the company’s Q2 earnings on July 24th.  The stock rallied almost to the penny of the close on July 24th, and stopped at the 200 day moving average (yellow below):

Pandora 1yr chart from Bloomberg
Pandora 1yr chart from Bloomberg

It is my fundamental view that Pandora is fighting a battle they won’t win and that the weakness displayed in Q2 in RPMs (revenue per thousand hours) and the miss of consensus estimates for active users will only be exasperated when Apple relaunches iTunes/iRadio with Beats which I suspect will be in first half of 2015. Timing will be tricky, and the stock will be prone to short squeezes like yesterday.  In my Name That Trade post from Tuesday, I highlighted our prior bullish view and trade from early May when the stock was in the low $20s, but also my change of tune, despite recent take-out speculation.

I also highlighted the technical set up which I stated was less than attractive, but concluded:

On the next attempt and failure to break to the upside of the downtrend line I may be inclined to play for a move back to the support of the May low, just below $22.

Well that’s exactly what we had yesterday, a rip above the downtrend, and now a bit of a give back.  Today’s action will be very telling, and a close below the downtrend could embolden shorts:

Pandora YTD from Bloomberg
Pandora YTD from Bloomberg

From an implied vol perspective, short dated vols got a bid yesterday, up nearly 6 points (or about 10%) from the lows, making short dated vol sales attractive:

Pandora 30 day at the money IV from Bloomberg
Pandora 30 day at the money IV from Bloomberg

Options volume also exploded at 3x avg daily volume, with most of the activity in buying of Aug and Sept calls between the strikes of 30 and 35.

I want to use the stock’s strength and the bid in short dated vol as an opportunity to sell a short-dated puts to finance the purchase of longer dated puts.  This put calendar will isolate the company’s Q3 earnings event which should fall in late October.

Trade: P ($27.40) Bought to Open Sept / Dec 25 Put Spread for 1.80

-Sold to open Sept 25 put for .85

-Bought to open Dec 25 put for 2.65

Break-Even on Sept Expiration:

-Max profits with stock at $25 on Sept expiration.

-losses of up to 1.80 if stock is significantly higher or lower than $25 on sept expiration.

Rationale:  The $25 level is the obvious support spot on the chart.  That level is unlikely to break in the near term, which is why selling the Sept 25 put makes sense.  However, there are more than 4 months until December expiration, which is an eternity for a stock like P, so the idea of owning optionality until the end of the year at a reduced cost is a reasonable proposition.  We will also look to spread the Dec puts after Sept rolls off in an effort to further reduce our break-even.

Again I have no idea whether Pandora is a legitimate takeout candidate, and I suspect rumors will continue to swirl, but without the takeover premium, Pandora is likely facing increasing competitive headwinds at a time where fundamentals may not justify current valuation.





Original Post August 12th, 2014:  Name That Trade – $P: Pandora the Ex Roarer

In early May when rumors surfaced of Apple’s intention to buy Beats, we made a bullish play on Pandora with the stock was in the low $20s (read here) predicated on the fact that if digital music properties were to be in play, then:

Pandora is the obvious next derivative trade given their leadership position in the music streaming business. Despite being cut nearly in half since the all time highs in early March, the stock is still not particularly cheap, trading at a price to sales of about 5x. That being said, there are internet based companies with similar market caps like YELP that make Pandora look like WMT compared to AMZN. So, on a relative basis, if you thought there were catalysts or that there should be more of takeover premium for Pandora given the price tag for Beats, one could easily make the case why Amazon, Microsoft, Facebook, or Google to name a few could make a $6-7 billion bid or roughly a 50% premium for the company which would take it back up towards its prior highs.

We started to exit the position as the stock approached technical resistance at $30 six weeks later (here) and fully exited when it became apparent that the momentum off of the May lows had subsided (here) in early July.  I have kept a close eye on the stock, and took particular interest in the company’s Q2 results that showed a beat and raise on revenue and earnings was matched with a handful of disappointing metrics as it relates to advertising, particularly monetizing ads on their mobile app.  This obviously flies in the face of many of its internet “services” peers where most have show tremendous growth to mobile and ability to make money off of those users.

Make no mistake, Pandora has been a tremendous success story in digital streaming music, but in the eyes of Apple and possibly Google (who just bought music service Songza in early July) they may not be the way of the future. Pandora and private competitor Spotify have been routinely mentioned as take-over candidates, and to be fair there are no shortage of larger media and or internet companies who could have an interest but I suspect that Spotify is likely the first to go and thinking more and more that Pandora ends up being the sort of Napster of the last cycle who is left without a chair.

On a valuation basis, the stock is not particularly expensive (in terms of single digit multiple billion acquisitions terms) on a price to sales basis when you consider Zillow’s recent acquisition of Trulia for $3.5 billion in stock or about 10x 2014 sales, Pandora trades less than 6x this year.  Could MSFT, FB or GOOG digest this sort of property, yes, but the issue of paying billions for tens of millions of users who can be monetized through advertising is a fairly dicey proposition for an unproven medium like streaming music.

I am not a user of Pandora, and frankly know fewer and fewer people who are still. I have to suspect that Apple has a plan for Beats and the company is likely to make a power move for market share in the space.  So while my play in early May was to ride the M&A wave in an oversold stock, I have a decidedly different view at the moment given the recent weakness in some key metrics, rapidly changing landscape, and the stock’s inability to  hold a meaningful bounce as the Nasdaq made new 14 year highs last month.

From a technical perspective, the stock is hovering at key support, and looks to be about ready to exit the dreaded “Triangle of Death.” And not the good way:

Pandora 1yr chart from Bloomberg
Pandora 1yr chart from Bloomberg

On the next attempt and failure to break to the upside of the downtrend line I may be inclined to play for a move back to the support of the May low, just below $22.

Despite implied vol having a 5 handle on it in Pandora options, they are on the cheap side relative to its recent history, making vertical put spreads reasonably attractive:

Pandora 30 day at the money IV from Bloomberg
Pandora 30 day at the money IV from Bloomberg

I’m going to watch it for now but If I saw an entry a little higher than here that followed another failed move higher I’ll look for some reasonably priced put spreads.