Toll Brothers (TOL) reports their fiscal Q1 results tomorrow morning prior to the open, the options market is implying about a 3.8% one day move which is basically in line with the average over the last 4 & 8 qtrs
Back on Dec 10th after reporting fiscal Q4 results, and initially trading up on the open, the stock reversed lower and declined 8% on the day as they gave downbeat guidance and highlighted limited pricing power in most regions of the U.S. The six month chart below shows the earnings decline (circled in red) but also the improving technical set up as the stock has recently broken out to new 11 month highs, up 9% on the year:[caption id="attachment_51235" align="aligncenter" width="600"] TOL 6 month chart from Bloomberg[/caption]
The longer term technical set up does not look nearly as healthy in my opinion, despite the stock’s 20% gains off of the December lows. The stock is now approaching the upper end of the 3 year trading range between $30 and the high $30s.[caption id="attachment_51234" align="aligncenter" width="600"] TOL 3yr chart from Bloomberg[/caption]
Given the uncertainty on the Fed’s intention to raise rates, I would suggest that the the recent strength could quickly see a re-tracement if the company does not beat the lowered outlook and offer a slightly more up-beat commentary about the current home selling environment.
The stock is not expensive by historical standards trading at 19x expected 2015 earnings, that are more than 50% lower than their peak earnings at the height of the housing bubble. Year over year analyst expect earnings to only grow 2% with 8% sales growth. So to think about the set up into tomorrow’s print another way, expectations are not high and the stock is not exactly expensive. TOL sells to a much more stable part of the housing market as opposed to KG Home (KBH) and Hovnanian (HOV) whose stock’s remain very near their recent lows.
Volatility in TOL is higher than recent lows but not to pricey considering historical levels over the past two years:[caption id="attachment_51244" align="aligncenter" width="639"] 2 year IV30 from LiveVol Pro[/caption]
The at-the-money straddle in March is about $2.25 and around 30 vol. Following earnings that will likely be 25 vol or lower representing about 50c in contraction on the straddle if the stock was the same price.
MY VIEW: As I mentioned above, I suspect TOL will beat their lowered guidance from December, so the stock could open up just as it did on their Q4 report. Investors will be focused on the commentary on the 11am conference call (link here). I see little reason to take event risk into the Q1 numbers, but could be inclined to fade an opening gap prior to the call.
We have looked at a few trades that span a few expirations.
First -Feb 27th weeklies: to catch the reaction to guidance and Fed Chairman Yellen’s testimony to congress this week. If the stock were to open near the 52 week highs of $40, I would possibly look to a defined risk dollar cheap short dated play. If Ms. Yellen were to take a more hawkish tone than what was relayed in the Minutes of the Jan meeting then we could see bonds get hit, and interest rate sectors like homebuilders sell off in sympathy. Would likely look to buy a $2 wide put spread very near the money or leg into a put spread.
Second – March regular expiration: to catch the March 18th Fed meeting, any hint of rate increases in June and interest rate sensitive sectors like homebuilders sell off in sympathy. Considering a put calendar selling a short dated out of the money put, possibly the 36 strike, and buy the March 36 put.
Third – June regular expiration: To catch the June Fed meeting which some believe will be the first time since mid 2006 that the Federal Reserve has raised the Fed Funds rate (historical here). Considering the June 37/32 put spread if we could buy for $1 on a move higher.