Name That Trade – Thinkin Bout $MU

by Dan April 1, 2015 3:06 pm • Commentary

Back in mid February, when shares of Micron (MU) were trading $31.75 we made a defined risk bearish trade (New Trade – $MU Shu Put) largely predicated on what we felt was a rotation out of prior large cap tech stocks,  a weak technical set up, combined with some fairly large put buying in the SMH (the Semiconductor sector etf).  We closed the trade a few weeks later when the stock was down about 12% from the point of initiation (here) just above levels where it is trading today, so we thought we would take a quick look prior to this evenings fiscal Q1 results.

The options market is implying about a 7% one day move for earnings, vs the 4 qtr avg move of about 4.75%.  

Last week, nand flash memory maker Sandisk (SNDK) pre-announced worse than expected Q1 results and the stock got drilled to the tune of 19%.  What’s important here is that pricing for memory chips is declining to the point where analyst now expect SNDK earnings to decline 21% on only a 5% sales decline in 2015.  While MU is in a different part of the memory market (dram and sram) it may make sense to extrapolate a broader trend in the pc and smartphone supply chain as OEMs are squeezing their suppliers, none worse than AAPL’s ability to do so from a dominate position.

To reiterate what I said back in mid February:

The stock is cheap, trading at 9x expected earnings growth of about 10%, but that’s for a reason. Selling memory chips is a massively cyclical and commoditized business, and the bottom can drop out of pricing and/or demand at any given moment.

And its cheaper now after the stock’s 13% decline, but the question is what is the recent share price decline discounting?

I have been pretty vocal about the loss off leadership in 21015 (INTC, MU, MSFT) of some of the best performers in tech from last year is a bit disconcerting) and I suspect we will see stocks like MU roundtrip their entire one year rallies when we are all said and done.

Last week MU bounced off of key technical support at $26, a break below that level could put the prior lows in play:

[caption id="attachment_52429" align="aligncenter" width="600"]MU 1yr chart from Bloomberg MU 1yr chart from Bloomberg[/caption]

Is the stock getting a tad overdone, down 25% from the multi-year highs made in December, and down 22% on the year? Maybe. But unless you can tell me what forward guidance is going to be like I would suggest the trend remains lower.  I think it is important to note that just as the stock might have overshot on the upside, it has the potential to do so on the downside.  A quick peek at the five year charts shows the stock’s rally from below $5 to above $35 from 2011 to 2014:

[caption id="attachment_52431" align="aligncenter" width="600"]MU 5yr chart from Bloomberg MU 5yr chart from Bloomberg[/caption]

So you tell me. Is 25% off the top of an 800% gain overdone for a company whose earnings has swung from a loss of $1 in 2012 to a gain of $2.52 last year, in a market that is showing clear pricing pressures for component suppliers?

Hypothetical Bearish Trade – Buy the May 27/23 put spread for 1.15

Hypothetical Bullish Trade – Buy the May 28/32 call spread for .98

Rationale – Both of these directional trades offer decent risk reward for moves towards support and resistance over the next month or so. Vol will come in but that won’t be a problem if the stock makes its expected move from a very precarious spot on the chart. (assuming you get direction right). We have no strong feeling either way so will not be participating.