Name That Trade – $FB: Poke Higher?

by Dan February 18, 2015 12:06 pm • Commentary

Shares of Facebook (FB) have been in a seven month base, trading between $70 and $82 with the most of the price action between $74 and $78:

FB 7 month chart from Bloomberg
FB 7 month chart from Bloomberg

During this period, options prices have ground down to new all time lows, making long premium directional strategies attractive, with one main caveat, the stock has not been realizing expected daily moves making it hard to make money on long premium directional plays:  

[caption id="attachment_51056" align="aligncenter" width="600"]FB 1yr chart of 30 day at the money implied vol from Bloomberg FB 1yr chart of 30 day at the money implied vol from Bloomberg[/caption]

Regular readers know that I am not a huge fan of the Facebook product. Despite 1.5 billion people and bots very much liking it.  Recently I set up an account, and considered the uses of its separate apps, including Instagram, WhatsApp, Messenger and their core humblebrag product. I think it is an increasingly fragmented experience and I am not sure how they expect to monetize their user base on messaging apps as interest wanes on the traditional newsfeed experience in place of the proliferation of mobile short message apps. But these are small gripes for a company that is dominating the global social networking experience.

I remain skeptical of their ability to grow into their valuation (currently 12.5x expected 2015 sales of $17 billion). One reason for the stock’s under-performance after a monster run in 2013 and early 2014 is the fact that their spending has gone up at the expense of margins.  This I am less concerned with, at the moment, as they will need to innovate and stay ahead of the next Snap Chat or Twitter to ensure their long term relevance, and the slightest display of leverage on those investments will be the cause of the stock reaching $300 billion in market cap.

But for now, with the most major U.S. equity indices breaking out to new highs, or threatening prior highs, I am hard pressed to think that a bull market leader like Facebook would not participate. With options premiums low, playing for a breakout of the long term base, looks attractive.  There are two trades that we are considering given the current listed expirations (May will be listed Monday, and that is our desired month as it catches their next earnings event, that would be the catalysts for a massive breakout).

At the moment we are not going to pull the trigger with the stock up 1% on the day with our desired expirey also May, but for those who like the prospects of the stock participating in a potential broad market breakout in the coming weeks, then I would consider either paying 1.70 for the March 77.50 calls (stock ref $76.40), and look to spread on a move higher.  Or disregarding the cheap options premiums in the money calls flies look like a relatively cheap way to play for a move to 80 or the low 80s.  For instance with the stock at $76.40, the March 75/80/85 call butterfly is offered at 1.50, with a break-even just above where the stock is trading at $76.50 with max gain of 3.50 at 80, and profits of up to 3.50 between 80 and 83.50.  Max loss of 1.50 below 75 and above 85.  I would say highest probability is that the stock is in between the low 70s and 80 between now and March expiration.

Sitting on my hands for the moment, but increasingly intrigued about the trade set up for a breakout in sympathy with the broad market.