Chart of the Day – Drug Haze: $JNJ

by Enis November 21, 2014 11:25 am • Chart of the Day• Commentary

JNJ has been a steady large cap leader in the past 2 years.  Since the stock’s breakout to a new all-time high in early 2013, JNJ has remained above its rising 50 week moving average save for two brief selloffs this year:

JNJ weekly chart, 50 week moving average in pink, courtesy of Bloomberg
JNJ weekly chart, 50 week moving average in pink, courtesy of Bloomberg

That’s why it’s noteworthy that JNJ is only up a few percent from its early July high.  That is in contrast with the health care ETF, XLV, which is about 10% higher than its early July high.

JNJ’s rally has been largely driven by multiple expansion over the past 2 years.  In fact, JNJ’s trailing 12 month P/E is now around 18, its highest level since 2005:

JNJ trailing 12 month P/E, courtesy of Bloomberg
JNJ trailing 12 month P/E, courtesy of Bloomberg

Of course, back then, JNJ was routinely growing EPS at around 10-15% per year.  It has not grown EPS by 10% year-over-year since 2008.  Moreover, it’s now a $300 billion market cap company.  With sales growth of 0-5% and EPS growth of 4-8% expected over the next 2 years, the potential for further multiple expansion might be limited.

We received a question in our Your Questions Answered section about possibly fading JNJ near the $109-$110 resistance area that has held even as the broader market has powered higher:

JNJ (Johnson & Johnson) rallied back to it’s upper limits very quickly. Wondering if a long put (with April expiry) is more appropriate for this situation? If not, what spreads might be?

This was my answer:

If you are bearish on JNJ, I’d prefer a vertical put spread rather than an outright put in JNJ, mainly since the skew is relatively steep (meaning downside puts still have a decent amount of premium compared to at-the-money puts). For example, you could buy the April 105 put for around $2.75, or you could buy the April 105 / 90 put spread for around $2.30. Given that the 90 strike is nearly 20% away, I like reducing that cost by selling the put.

JNJ has stalled out near a 3 month high, so this is a decent structure for those who are looking for a name with relatively low implied volatility that is trading near its highs but that has shown relative weakness compared to the broader market.