Earlier today we previewed TWTR’s Q3 earnings event after the close. We wanted to take those inputs and offer a few strategies based on existing positioning and/or directional bias:
Stock replacement/alternative for existing longs:
TRADE: TWTR ($48.70) Buy the Nov 50/60/70 call fly for 1.95
– Buy the Nov 50 call for 3.34
– Sell 2 Nov 60 calls at .77 (1.54 total)
– Buy 1 Nov 70 call for .15
Breakeven on Nov expiration – losses of up to 1.95 below 51.95 with total loss below $50. Gains of up to 8.05 above 51.95 and below 68.05 with max gain of 8.05 at $60.
Rationale: this ia a great structure to get long exposure up to $60 without taking much downside risk into the event. One weird thing could happen where the stock goes above $60 very quickly and full gains like stock start to diminish above that level but that is fairly unlikely.
OR
Leverage Existing Long Stock Position
For those who view TWTR as a long term holding and think that a solid report and guidance could cause a rally in the shares back to the high $50s or possibly even $60 in the coming weeks, the high levels of implied volatility offer interesing opportunities to add potential leverage on such a move with little premium outlay.
TRADE: Against 100 shares of TWTR long at $48.85 Buy the Nov 22nd 55 / 60 1×2 Call Spread for .30
-Buy to open 1 Nov 55 call for 1.80
-Sell to open 2 Nov 60 calls at .75 each of 1.50 total
Break-Even on Nov Expiration:
Profits: Gains of the stock between $49.85 and $60, but have additional gains of up to $4.70 between $55 and $60 from the added call spread. Max gain of $14.85 at $60 or higher, as you would have the gains of the stock, plus the gains of the call spread less the premium, so effectively with the stock $60 or higher, you would have added almost 10% in added yield.
Losses: Anywhere below current levels have losses of stock plus the 30 cents in premium that was paid for the overlay.
Rationale: Think of this trade as an overwrite on steroids. You are selling one call against your long stock, but also buying another call spread. So the net result is that if TWTR has a dramatic short term move to the high $50s or then this trade has the potential to add significant yield. One of the few upside scenarios where this trade would be disappointing is if the stock moved higher than $64.70 on Nov expiration, then you would have left money on the table, but that is up 30% from current levels.
OR
Protection of Long Stock Position (100 shares)
TRADE: $TWTR ($48.70) Buy the Dec 57.50/41 Collar for a .10 credit
-Sell to Open 1 Dec 57.50 call at 1.55
-Buy to Open 1 Dec 41 Put for 1.45
Break-even on Dec Expiration:
Profits: gains of the stock between current levels and $57.50, stock called away at $57.50 up 18%
Losses: between $48.70 and 41 have losses, protected below
Rationale: This band of protection vs profitability is very wide, but for a stock that has been as volatile as TWTR in its post earnings trading since last November’s IPO, this makes sense for those looking to protect against a disaster scenario while also looking to participate in further upside.
This is a tactical trade structure. If you wanted closer to the money protection you could roll down the call strike and roll up the put strike, but that closer protection would come at the cost of upside potential.
From our preview this morning on why we are not involved in TWTR now:
Our View: TWTR has been on our list of potential longs since the summer. We exited the second half of our long position in early October for a nice gain. The main difference between TWTR today vs. ahead of the earnings report in late July is that the expectations from the market are higher to go along with the higher stock price. While the EPS expectation is still only 0.01, the revenue expectation is for around $350 million, or nearly 15% higher quarter-over-quarter. More importantly, guidance will be crucial as analysts have modeled in a 4th quarter revenue number of nearly $450 million, which is 85% higher than the 4th quarter of 2013.
In addition to the higher bar, the $50 level has acted as a magnet for the stock. As a result, we have much less of a directional view from a technical or fundamental standpoint for this quarter
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$TWTR Q3 Earnings Cheat Sheet
Event: TWTR reports its Q3 results tonight after the market close. The options market is implying a one day move in either direction of almost 14%, which is shy to the three quarter average of about 17.5%. This is TWTR’s fourth earnings report since becoming a publicly traded company eleven months ago.
Sentiment: Wall Street analysts remain fairly mixed on their outlook on TWTR shares with an average 12 month price target of about $55, about 10% higher than current levels, with 18 Buy ratings, 18 holds and 5 Sells. Short interest sits at about 5% of the float, nearing the lows since its Nov 2013 IPO.
Open Interest: Total open interest is skewed towards calls over puts by a ratio of 1.25 to 1. The recent 1 month average volume has been much more skewed, favoring calls by a ratio of 2 to 1. The Nov 50 calls and the Jan15 50 calls have the most open intreats of relevant strikes, at around 20k each.
Price Action / Technicals: The price action in TWTR since its IPO almost a year ago has been fascinating. $50 is a fairly important technical level from a sentiment stand point for two reasons. First, it was the high for the stock on its very first trading day after the IPO. Second, it marks nearly the mid-point between the all-time high made in the stock in late 2013, and the low made in May 2014:
From where I sit, I see little overhead resistance until the high $50s and little downside support until the low $40s. The consolidation in and around $50 since early September is encouraging, but after the one day decline of nearly 10% on October 10th, momentum appears to be waning.
It’s important to note that despite the stock’s $20 bounce from the lows in May, it remains down 22% on the year. That negative performance year-to-date could have implications in the event of a worse-than-expected report. As we head into year end, some large portfolio managers may not wish to show such a large decliner as a holding.
Volatility Snapshot: Given that TWTR has less than 1 year of trading history, options traders have not had much time to assess the earnings volatility of the stock. 30 day implied volatility is close to where it was prior to the last earnings event in July:
TWTR implied volatility is likely to fall steeply, back into the mid-40’s after the event.
Our View: TWTR has been on our list of potential longs since the summer. We exited the second half of our long position in early October for a nice gain. The main difference between TWTR today vs. ahead of the earnings report in late July is that the expectations from the market are higher to go along with the higher stock price. While the EPS expectation is still only 0.01, the revenue expectation is for around $350 million, or nearly 15% higher quarter-over-quarter. More importantly, guidance will be crucial as analysts have modeled in a 4th quarter revenue number of nearly $450 million, which is 85% higher than the 4th quarter of 2013.
In addition to the higher bar, the $50 level has acted as a magnet for the stock. As a result, we have much less of a directional view from a technical or fundamental standpoint for this quarter.
Bloomberg Expectations:
ESTIMATES
* 3Q adj. EPS est. 1c (range 1c loss/shr-3c EPS)
* 3Q rev. est. $351m (range $332m-$378m); July 29, TWTR
forecast $330m-$340m
* 3Q Ebitda est. $52.8m (range $41.7m-$63.2m); TWTR forecast
adj. Ebitda $40m-$45m
* 3Q avg monthly active users est. ~284m (7 ests.); ~13m net
adds vs 2Q
* 3Q avg timeline views/MAU (TLV/MAU) est. ~632 (5 ests.)
* 4Q rev. est. $448.1m (range $415m-$506m)
* 4Q Ebitda est. $98.9m (range $78.8m-$133m)
* 2014 rev. est. $1.36b (range $1.31b-$1.42b); TWTR forecast
$1.31b-$1.33b
* 2014 Ebitda est. $242.9m (range $216m-$286m); TWTR forecast
adj. Ebitda $210m-$230m
* NOTE: In 2Q, TWTR had 271m avg. MAUs, 211m mobile MAUs and
~639 TLV/MAU