Trade Update – $FB: Sold Put Calendar for a Profit

by Enis October 15, 2014 1:34 pm • Commentary

I put on a bearish FB trade about a week ago, and the stock has quickly moved down to near my $70 put strike, much more quickly than I had expected.  Since my $70 put calendar will not appreciate much from here between now and the stock’s earnings report next week (which is an eternity in a market like this), I am going to take off the trade here for a profit, taking advantage of the recent move lower.

ACTION:  FB ($71.55) Sold to close the Oct31st / Jan15 70 Put Calendar at $1.85 for a $0.45 gain

The trade would have obviously been a better winner if I had traded a simple put or put spread, but I wanted to reduce my risk given FB’s relative strength throughout the past year.  In any case, no use sulking about it now, I’ll take the win and move on.



New Trade – $FB: WhatsApp With That?

One aspect of the FB story recently that has gotten very little press is the potential impact of the newly awarded WhatsApp shares on FB stock.  From this morning’s Notable Options Activity post:

Facebook closed the WhatsApp deal yesterday, which could lead to potential new supply in the stock. Facebook awarded 177.8 million unrestricted stock to WhatsApp shareholders, which is about 9% of Facebook’s current float, or more than $17 billion worth of stock.  Even a portion of that for sale could be a headwind for FB shares in the short-term, if the WhatsApp shareholders decide to sell some of this shares. However, FB options volume was lighter than usual yesterday.

Facebook has been a fortress stock for the past year.  Even with the recent market weakness, FB has remained above its 50 day moving average since May, and made a new all-time high just last week:

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

FB has consolidated since its July earrings gap, and is up 42% year-to-date, one of the largest contributors to both the Nasdaq and S&P 500 index in 2014.

However, the WhatsApp supply alone could be a problem for Facebook over the next couple of months.  The 177 million shares will not all be sold.  I’m sure Jan Koum and Brian Acton, the WhatsApp founders, will not want to sell most of their Facebook shares to remain on good terms with their new boss Zuck.  But even if only 20% of the 177 million shares are sold (and my hunch is that an investor like Sequoia will sell all their shares), that’s about 35 million shares in FB, or nearly $3 billion in stock for sale.  That’s size, even for a name like Facebook.

Aside from the supply/demand dynamics in FB, the fundamental challenge for FB to maintain the breakneck pace in mobile advertising is a tall task.  First, as Dan noted in a recent MorningWord post, Google is not likely to take kindly to Facebook’s competitive advance:

So there are a few questions that arise from Facebook’s challenge on Google’s monopoly.  Facebook has a $202 billion market capitalization, with expected sales of $12.25 billion in 2014 (much of it ads), growing at 56% YoY, and expected to grow 30% a year for many years to come.

The last time Google had a $200 billion market cap was 2012 and had $40 billion in sales (the large majority of it from ads).  Since then, Google has hit a little bit of a speed-bump on the revenue growth front.  Call it the law of large numbers but sales growth has dropped from 37% in 2012, to an expected 11% this year.  Is this largely to due with Facebook’s emergence in online ads (they had only $5 billion in sales in 2012, getting only about $5 per user, growing to about $10 this year)?

Consider this – the global advertising market is around $500 billion in total size (that’s online, TV, print, etc. all around the world), with online advertising comprising about $120 billion of that total (see PwC’s report here).  Google already gets about $50 billion in total online ad revenue, and Facebook is now around $12 billion.  So the two giants account for about half of total global online ad revenue.  That’s an already massive piece of the pie, and is going to be under constant threat from sites around the world.

Even if the overall pie grows, the already large market caps for GOOG and FB could make it difficult for them to grow much beyond the existing growth expectations (which is likely a best case scenario).  With that in mind, even a small hiccup in growth could hit FB quite quickly (given its much higher valuation relative to GOOG).

For example, one such hit to expectations could come from a slowdown in the venture capital market for start-ups, as laid out in a terrific post from Nick Carlson of Business Insider last month:

Sandberg and Facebook need to take one more step. In Facebook’s next earnings report, it needs to disclose how many of its advertisers are startups using VC money to acquire new users.

The venture-backed startup industry is a scary one for even the most sophisticated investors. In the past two days, two of the most prominent VCs in the world, Bill Gurley and Fred Wilson, came out and said they were worried because startups are once again burning through cash like they did in the 1990s.

Facebook investors deserve to know how exposed they are to such a volatile industry.

Facebook’s platform is well entrenched, but also dependent on some volatile sources for advertising growth.  With numerous VCs now warning about a potential downturn in startup funding over the next 6 months, FB’s revenue growth could take a hit as well.

While FB has been a fortress long for months, the potential headwinds are adding up, and I want to get some downside exposure ahead of the earnings event at the end of the month:

TRADE:  FB ($77.40) Bought the Oct31st / Jan15 70 Put Calendar for $1.40

-Sold to Open 1 Oct31st 70 Put at $0.87

-Bought to Open 1 Jan15 70 Put for $2.27

Break-Even on Oct31st Expiration:

-Max profits with stock at $70 on Oct31st expiration

-losses of up to $1.40 if stock is significantly higher or lower than $70 on Oct31st expiration.

Rationale:  FB reports earnings on October 28th.  The put calendar is a way for us to get slight downside exposure between now and then without exposing ourselves to time decay, and without taking a lot of delta risk with the stock near all-time highs.  We will re-assess the position before earnings, but we like the idea of initiating the put calendar here given the possible overhang from the WhatsApp shares along with potential selling in a Nasdaq leader if the broader market remains under pressure.