Name That Trade $FB: WhatsApp with the Underperformance?

by Dan November 14, 2014 3:20 pm • Commentary

Facebook’s (FB) shares closed at an all time high on the eve of their Q3 results on October 28th. The following day FB shares declined 6% on guidance for lower than expected revenues coupled with significantly higher costs.   Shares have stayed down, despite the S&P 500 and the Nasdaq making new all time and 14 year highs in the time being.

FB 15 day chart from Bloomberg
FB 15 day chart from Bloomberg

The relative under-performance could have a little to do with money going over towards Alibaba’s (BABA) 15% gains (or about $40 billion in market cap) in the same period. But most is likely the result of the company’s filing of an 8K with the SEC paving the way for 178 million FB shares to be unlocked and sold in the open market as a result of the WhatsApp acqusisition.  I suspect this selling has been a a big overhang on the stock.  But this is hard to calculate as the stock has averaged only about 38.5 million shares a day since October 29th, while the average over the month prior was about 41 million shares.

So for some reason or another investors have been selling. Likely a combination of silly valuation for a $210 billion market cap stock that trades at 12.5x expected 2015 sales of $17 billion. Viewing through a longer term lens this is probably not the best entry point medium to longer term, but given the seasonal bid in the market and the potential that the stock has had an abnormal overhang over the last couple weeks, the stock could be setting up for a re-test of the prior highs by year end, for a trade.

Taking a quick gander at the ytd chart (stock is up 37%!), $70 is obvious support, corresponding with the October low and just above the stock’s rising 200 day moving average, while the prior highs at $81 is the target for a near term bullish trade:

FB ytd chart from Bloomberg
FB ytd chart from Bloomberg

More importantly the lack of movement over the last 10 trading days has been vol dampening, making options prices nearing the 52 week low attractive for those looking to express directional views:

FB 1yr chart of 30 day at the money IV from Bloomberg
FB 1yr chart of 30 day at the money IV from Bloomberg

So here is the thing, while I am not in love with FB as a stock at these levels, I think the set up for run back to the prior highs in the coming weeks (once WhatsApp selling abates) is fairly attractive. Especially when coupled with very reasonable options prices.

TRADE: FB ($74.75) Buy FB Dec 75/82.50 Call Spread for $2.00

-Buy 1 Dec 75 call for 2.40

-Sell 1 Dec 82.50 call at .40

Break-Even on Dec Expiration:

Profits: between 77 and 82.50 make up to 5.50 with max gain of 5.50 above 82.50

Losses: between 77 and 75 lose up to 2.00, max loss of 2.00 below 75

Rationale: This is a catch up trade that FB could see its highs of the year again going into the New Year. Once the WhatsApp overhang is cleared the path of least resistance seems to be up for these types of stock into year end. The low implied volatility allows for a simple call spread with a break even just a few dollars from where the stock is trading. We doubt that any news between now and then would cause the stock to go that much higher that the 82.5 call sales are a mistake.