A week ago we faded the earnings move in Coke (KO) with a simple put spread with a potential 3-1 payout of the stock failed and moved towards our lower strike. Here was the trade from Feb 10th:
TRADE: KO ($42.55) Buy to open March 42/40 Put Spread for 50 cents
-Buy to open 1 March 42 put for .72
-Sell to open 1 March 40 at .22
With the stock a dollar lower it’s time to check in on the trade and consider our options. Mark to market the structure is worth about .85. It is now about 43 deltas and that will increase the lower it goes. Intrinsically it’s worth less than it is worth mark to market. It should be a double just above $41 in the stock and if it broke below our short strike in the near term would be a triple.
Those also happen to be the obvious levels in the stock and are likely to inform our trade management if the stock sees those levels:
So if the stock sees that first level around $41 we’ll see how it acts and could take it off for a double if it seems the selling pressure won’t follow through. But since the expiration is March, if we do see it lower than $41 we can be patient. At that point the intrinsic value will start to be more than the mark to market and time will be on our side. (As opposed to above $41 where the intrinsic value is less than the mark to market value)
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New Trade – Technical $KO
On Friday’s Options Action my co-panelists Mike Khouw and Carter Worth offered a bearish view on shares of Coca-Cola (KO) from both a technical and fundamental standpoint (read and watch below). Here was the main issue I had with the trade idea (in bold), this coming a few days after I made a very bad trade in Disney (DIS) into their earnings report:
It’s been hard to argue with Carter’s technical views of late, and as I made it clear in the clip, I am not a fan of the multiple being paid for low growth U.S. multi-nationals like KO that will likely face increased headwinds from the strong dollar as foreign centrals banks have a whole heck of lot more to gain by debasing their currencies vs the dollar than the reverse at the moment. The one issue I have with the trade is how far out of the money the put spread is, especially after the stock is already down almost 10% from the recent highs. While April expiration gives plenty of time for the thesis to play out, if the stock were to bounce initially this put spread would have a fairly small probability of being in the money. So in my mind it is a matter of conviction, If I felt strongly in their technical and fundamental view and thought the stock could re-test $40, and that next weeks earnings and guidance could be the catalyst I might consider buying short dated nearer to the money puts. We will be sure to take a closer look prior to the print.
Well the company issued a beat, and the stock is up 3.5% as I write. Here are some of the headlines coming out of the call, from Bloomberg:
*COCA-COLA SEES 2015 AS TRANSITIONAL YEAR FOR COMPANY
*COCA-COLA SEES GLOBAL ENVIRONMENT REMAINING VOLATILE
*COCA-COLA SEES IMPROVING US ECONOMIC ENVIRONMENT
*COCA-COLA SEES RETURN TO HIGH-SINGLE DIGIT GROWTH IN 2016
*COCA-COLA SEES BENIGN COMMODITY ENVIRONMENT
*COCA-COLA SAYS WATCHING IMPACT OF QE IN EUROPE
*KO SAYS CONFIDENT IN RETURNING TO L-T SUSTAINABLE GROWTH
To me the commentary is weak at best and the rally appears to be a relief one as investors and traders appeared to be positioned for a downgrade to guidance. I stand by my view (above) that paying 21x for NO earnings or sales growth and a goal of returning to sustainable high single digit growth in 2016, is “hopeful.”
I would like to be at my high-school playing weight of about 180 pounds at some point in 2016, but at this point I wouldn’t bet on it. Yeah it’s a Buffett name and has a dividend yield of 2.86%, but that multiple is reaching 10 year highs at a time where currency headwinds could become more pronounced as the year progresses and their exposure to weak emerging markets could also start to hurt:
So I did not have the conviction to press what was in hindsight poor sentiment, and a possible oversold condition, but I do now. Here is the trade:
TRADE: KO ($42.55) Buy to open March 42/40 Put Spread for 50 cents
-Buy to open 1 March 42 put for .72
-Sell to open 1 March 40 at .22
Break-Even on March Expiration:
-Profits: between 41.50 and 40, make up to 1.50, max gain of 1.50 below 40
-Losses: up to .50 between 41.50 and 42 max loss of .50 above 42
Rationale: The forward guidance appears to be murky at best, and the technical set up looks weak, but playing for a near term breakdown below $40 could be optimistic:
Therefore the put spread with a possible 3 to 1 payout seems like the correct structure.