This morning COST reported their fiscal Q1 result that beat analyst estimates, showing a 7% same store sales increase vs WMT and TGT both recently reporting .5 and 1.2% comps in the same period (per Bloomberg). The stock is making new all time highs, up about 1%, but down about 1.5% from the early morning highs. I am going to keep this really simple (so please read my analysis below from Dec 8th where I detailed my bearish leaning on the stock, largely due to valuation.)
I think that today’s earnings and last week’s better than expected Nov SSS are likely IN the stock here and trading at 28x this year’s expected earnings with expected sales growth of only 7%. With the news out of the way, I want to now make a near term bearish trade targeting a pull back to the stock’s 50 day moving average around $134.50 over the next 6 weeks.
Trade: COST ($144) Bought Jan 143 / 135 put spread for 1.70
-Bought to open Jan 143 put for 2.20
-Sold to open Jan 135 put at .50
Break-even on Jan Expiration:
Profits: gains of up to 6.30 between 141.30 and 135, max gain of 6.30 below 135
Losses: up to 1.70 between 141.30 and 143, max loss of 1.70 above 143
Rationale: This is a slightly out of the money put spread that looks for a failure of today’s pop. It won’t take much for this trade to be in the money but obviously the main risk is a continued parabolic move higher. This is a sell the news trade and we’ll know pretty quickly whether we’re right or wrong. We’ll keep a tight leash on the trade to the upside.
[hr]
Original Post Dec 8th, 2014: Name That Trade – $COST: Whole Sale
Costco (COST) reports their fiscal Q1 results this Wednesday prior to the open. The options market is implying less than a 2% one day move in either direction, which is basically inline with the 4 qtr avg move. One reason for the low implied move could be the fact the company just issued November sales store sales data that generally impressed Wall Street analysts with 5% traffic growth despite negative impact of 2% from FX and 1.2% gas deflation.
The set up into Wednesday print is quite interesting as investors seem just a tad complacent about forward guidance. With the stock at $143, the Dec 12th 143 straddle (long the call and the put) is offered at about $3. If you bought that you would need a move by Friday’s close above $146 or below $140. With the stock up 20% on the year, and up 30% from the 2014 lows, the move seems cheap with the stock less than 1% from all time highs. The recent breakout above $130 was impressive, but I am hard pressed to think that the 10% gains since early November does not incorporate a solid Q1 and forward outlook:
Just as the stock is breaking out to daily all time highs it is important to note that the stock is getting expensive to its own history. It’s 30x trailing earnings and 27x fiscal 2015 that are only expected to grow 11% on sales growth of 7%
The recent move, despite paltry 1% dividend yield and the fact that the company is not likely buying back a ton of shares up here, suggests that investors are either willing to pay more for COST’s existing results and/or see consensus estimates too low. Good ol’ fashioned multiple expansion at the all time highs into an event seems like a nasty cocktail in my opinion.
Short dated options in COST are not exactly expensive with 30 day at the money IV only about 15%, but it’s important to note that vol will settle in post results down about 10 -15% from current levels:
[caption id="attachment_48759" align="aligncenter" width="600"]
COST 30 day at the money IV from Bloomberg[/caption]
If I were long COST I would possibly look at stock replacement strategies to lock in gains and define risk going forward such as an in the money call spread like the April 140/155.
But the trader in me would be more inclined to play for pullback to the stock’s 50 day moving average near $134 or below. The trade I would consider as a defined risk contrarian short would be the Jan 140/130 put spread for $1.50, risk 1% of the stock price with potential to make more than 6x my money in the event of a 10% correction over the next 6 weeks. This is not a high probability trade, but not particularly expensive, but break-even is at $138.50, down 3%, so you need to get direction right around earnings to be in the game. I am going to do a bit more work on the story and take another look tomorrow prior to the print.