New Trade – $DIS: The Worldwide Leader in Shorts

by Enis September 25, 2014 10:34 am • Commentary

Dan discussed Disney in a MorningWord post last week, highlighting the incredibly persistent uptrend in DIS, combined with the low level of implied volatility:

One could have made the same case at any point since the breakout to new all time highs since 2012. But here is the major difference – the U.S. Fed is one month away from ending their policy of QE, which could result in a different rate and risk appetite environment in the coming year.  Another byproduct of QE has been depressed volatility in public markets that, much like low rates, makes buybacks attractive for companies.  As a result implied volatility in many low vol names that have had massive moves could also be very attractive.  Low rates have made buybacks attractive, buybacks have depressed volatility, but all good (think manipulated) things come to an end.

The four year chart below of DIS’s 30 day at the money implied vol (IV) looks much the way you would expect it too, nearing all time lows:

DIS 4yr 30 day at the money IV from Bloomberg

It is my sense that there is a storm brewing here.

Disney has been one of the mega cap leaders of the bull market, and the stock is up 17% year-to-date already in 2014.  The stock traded below its 50 day moving average this week for the first time in May, but is currently holding above that level:

DIS daily chart, 50 day ma in pink, 200 day ma in yellow, courtesy of Bloomberg
DIS daily chart, 50 day ma in pink, 200 day ma in yellow, courtesy of Bloomberg

However, not all is clear on the Disney front.  In fact, the serious concerns surrounding the NFL could start to have an impact on ESPN’s bottom line in the coming months (and even possibly years, depending on fan reaction).  The latest headline is that Bill Simmons, one of ESPN’s most successful writers and pundits, has been suspended by the network for 3 weeks for calling NFL commissioner Roger Goodell a liar.  Jeff Macke did a terrific job this morning summarizing the issues with this action.  Given that ESPN represents almost 50% of Disney’s profits (see here for a detailed breakdown of ESPN segments), the continued negative headlines around the NFL does not seem to be properly discounted by Disney investors.  The NFL is the most important sports league in America from a media perspective, and its myriad problems seem long-term and difficult to resolve.

Obviously, one could make the alternative argument on the NFL issues. The broadcaster/league relationships is one of the oddest in business as the broadcasters pays the league billions of dollars then the league tells them what they can and can’t do. (the originally joint production of League of Denial being a great example.) The demand by viewers for NFL broadcasts and coverage looks as strong as ever, so it may be the case that the broadcasters have been slightly emboldened as the league office is weakened. But there are no signs of that yet based on the Bill Simmons suspension.

The main point is there’s some volatility in the story now and who knows how it will play out.

The main issue with a trade in Disney is timing.  The stock has not traded more than a few percent below its 50 day moving average since 2012.  With that in mind, we decided on a relatively unorthodox structure:  

TRADE – DIS ($88.79) Bought the April 85/75 put spread for 2.50

-Bought 1 Apr 85 Put for 3.71

-Sold 1 Apr 75 Put at 1.21

Break-Even on Apr Expiration:

Profits: btwn 82.50 and 75 make up to 7.50, max gain of 7.50 at 75 or lower

Losses: btwn 82.50 and 85 lose up to 2.50, with max loss of 2.50 at 85 or higher

Rationale:  We view the likelihood of a 5-10% move lower in DIS as greater than a 5-10% move higher in DIS over the next 6 months.  However, since DIS has been in such a strong uptrend, we wanted to give ourselves plenty of time for a selloff to play out in case we are too early, so I bought an April put spread.  This structure does not have as high of a reward if there is an immediate selloff in DIS, but it has very little time decay over the next few months, so it is less risky than shorter-dated put spreads.