New Trade – $GOOGL: I’m Feeling Lucky

by Dan May 7, 2015 2:53 pm • Commentary

On April 23rd Google (GOOGL) reported Q1 earnings and sales that missed consensus for the third consecutive quarter, reporting sales up 12% year over year, with paid clicks up 13% yoy. The stock rallied 3% the next day.  GOOGL has since filled in the entire earnings gap:

GOOGL 1yr chart from Bloomberg
GOOGL 1yr chart from Bloomberg

The stock has been a massive under-performer, up just a few % in the last year and down 10% from the 52 week highs.  Valuation is possibly becoming a concern for the first time in a while, with the stock trading at 19x this year’s expected earnings growth of 11%, after printing the lowest year over year earnings growth in a qtr in Q1 (5%) in 3 years. The strength of the dollar was a clear headwind.

In a few weeks the company will welcome a new CFO who was recently hired on a $70 million pay package. Has Ms. Porat been hired for $70 million to figure the best way to deploy the company’s $70 billion in cash?  I would suggest that is a good bet and if the company is not going to get active with M&A, at this stage of growth and rates where they are it would make sense to take on some debt, pay a dividend and buy back a lot of stock.

As Ms. Porat’s May 26th start date nears I suspect we start to hear a bit more speculation about cash return (which would obviously take months, if not quarters to iron out) but it could put a bid in the stock.

In the near term the stock is just above a near term technical support level, which for those inclined to be long I think it makes sense to set a stop near $540, while targeting a move back towards $560, which is where the 50 day moving average (purple line) just crossed above the 200 day moving average (yellow line).  This is pattern can be refereed to as a “golden cross” which can indicate a pick up in near term upward momentum.

This is how I am going to play, defining my risk, and stopping myself at $540 over the next 6 weeks:  

Trade: GOOGL ($544.25) Buy to June 540/565/590 call butterfly for $6

-Buy 1 June 540 call for 17.20

-Sell 2 June 565 calls at 6.60 each or 13.20 total

-Bought 1 June 590 call for 2.00

Break-even on June Expiration:

Profits: up to 19 between 546 and 584, with max gain of 19 at 565

Losses: up to 6 between 540 and 546 & between 584 and 590, max loss of 6 below 540 and above 590.

Rationale:  I have limited my risk to a little more than 1% of the underlying stock price, to possibly make up to 3.5% in a wide range to the upside, while stopping myself at important near term technical support. The breakeven of $546 is just above where the stock is trading. Any moves higher or lower in the very near term won’t affect the trade greatly (it’s less that 10 deltas here), but as June expiration approaches the deltas start to gain as long as the stock is above 540 and below 565. On any move to 565 I’m likely to take profits no matter when.