Trade Update – Considering Rolling Bearish $YUM View, Gonna Wait

by Dan February 20, 2015 3:08 pm • Commentary

Prior to YUM’s Q4 results in early February we legged into a put spread expressing the view that continued weakness in China would cause the company to lower forward guidance. The results, while mixed, did not cause a re-test of the $70 level as we desired, and has since gained nearly 10% from the early Feb lows.

With the bearish put spread expiring worthless on today’s close, I thought about rolling this view out, but there was some fairly unusual short dated call buying yesterday that has caused me to take pause for the moment.  When the stock was $76.39 there was a buyer of 3,000 Feb 27th next week 77.50 calls for .47 to open and a buyer of 5,000 March 82.,50/85 call spreads for .15 to open.  Both purchases are curious. First, the weeklies as there is no scheduled events next week, and then the March call spread that breaks even up 8% at 82.69, with a max gain of 2.35 at 85 or higher up 11% from the purchase price.  The call spread has a fantastic risk reward if one had any conviction that there could be some sort of event that could catalyze a massive move.

From a premium standpoint these are not particularly convicted views for a large institutional player but the choice of expirations and the out of the money nature in March is worth noting and makes me question the timing for me to roll a bearish view.

I am keeping a close eye on this one, and want to see what next week brings.  An ideal entry on the short side would be closer to the December high of $78.50:

YUM 1yr chart from Bloomberg
YUM 1yr chart from Bloomberg




Last week I bought Feb at the money puts in front of YUM’s Q4 results (due after the close on Wednesday) (read below).  With the stock down 2.5% in the last couple trading days, I can now spread the puts (that are now in the money) that I own, and reduce the premium at risk (while limiting my potential gain).  This makes sense as who knows how the stock reacts to earnings (that have been pre-announced) and guidance that I expect to be weak:

Action: YUM ($71.10) Sell to open 1 Feb 68 Put at 1.05 to open
New Position: YUM ($71.10) Long Feb 72.50 / 68 put spread for 1.00

Break-even on Feb Expiration:

Profits: between 71.50 and 68 make up to 3.50, max gain of 3.50 below 68

Losses: up to 1 between 71.50 and 72.,50, max loss of 1 above 72.50



Original Post Jan 29th, 2015: New Trade – Dim $YUM

Over the last couple years Yum Brands (YUM) has been one of our favorite short targets (most recent here) into earnings given their exposure to China, their exposure to a strengthening dollar, what seems like their ability to find themselves in almost every food recall in their key growth region in China, and generally a dislike for their a management that we think has massive credibility issues despite a weird love affair by Wall Street.

The company reports their Q4 results Wednesday Feb 4th after the close and the options market is implying about a 4% one day move vs the 4 & 8 qtr avg moves of about 4.65%.  Given the volatility environment that we are in, and some very large declines post results from some bellwethers (MSFT, PG & UPS to name a few) we like the idea of fading stocks with lots of strong dollar and large emerging market exposure:

YUM checks lots of boxes if you agree with this thesis.

Technically, $75 looks like massive resistance, with a break of $70 on news likely results in a re-test of the 52 week lows in the mid $60s:

YUM 1yr chart from Bloomberg
YUM 1yr chart from Bloomberg

Short dated vol is moving up as expected into the print, reaching levels from the prior report, and will likely to move up a tad more:

YUM 1yr chart 30 day at the move IV from Bloomberg
YUM 1yr chart 30 day at the move IV from Bloomberg

Analyst expect a fairly large year over year and sequential Q4 decline following the company’s mid December guide down at their annual analyst meeting (read here) which obviously speaks to low expectations.  But worse than expected results, coupled with forward guidance below street consensus for 13% earnings growth and 9% sales growth (representing a meaningful uptick from 2014), seems likely and could cause a re-rating of the shares that trade 20x expected 2015 earnings.

I want to make a defined risk bearish trade that the stock breaks down following next week’s results.

TRADE:  YUM ($72.75) Bought Feb 72.50 puts for 2.05

Break-Even on Feb Expiration:

-Profits: below 70.45

-Losses: between 70.45 and 72.50 lose up to 2.05, max loss of 2.05  above 72.50 or 2.8% of the underlying stock price.

Rationale:  Those with a directional view, options prices into the event look fair to cheap given the vol environment we are in and the way single stocks are moving post results.  Will look to spread prior to results if stock moves lower to reduce or break-even.