Name That Trade – $HD: More Doing

by Dan May 18, 2015 2:26 pm • Commentary

Event: The Home Depot (HD) reports its Q1 results tomorrow morning before the bell. The options market is implying about a 2% one day move which is shy of the 4 qtr avg of 3.5%.

Price Action / Technicals: HD has been volatile in 2015, trading within a nearly 18% range, trading far closer to the high end of the range, down less they 4% from those levels, but up 8% on the year.  When the company last reported in late February the stock gapped to a new all time high, closing up nearly 4% before consolidating for a few weeks, and then pulling back almost 10% before bouncing in early May:

[caption id="attachment_53744" align="aligncenter" width="600"]HD ytd chart from Bloomberg HD ytd chart from Bloomberg[/caption]

The stock’s breakout last summer from a one year base was fairly epic, which was followed by a fairly orderly 50-% rise to the recent highs:

[caption id="attachment_53745" align="aligncenter" width="600"]HD since Jan 2013 from Bloomberg HD since Jan 2013 from Bloomberg[/caption]

HD’s peak to trough decline from March to early May displayed relative weakness in a period where the S&P 500 made a couple of new highs.

Vol Snaphot:  short dated options prices reflect little concern, while 30 day at the money implied vol is well off of its 52 week lows, they are currently well below the levels of the last two quarters:

[caption id="attachment_53746" align="aligncenter" width="600"]HD 1yr chart of 30 day at the money implied vol from Bloomberg HD 1yr chart of 30 day at the money implied vol from Bloomberg[/caption]

My View:  The stock has been a poster-child for many themes in the post financial crisis here U.S. as a prime beneficiary of the FOMC’s ZIRP.  Make no mistake, the stock’s earnings multiple reflects a premium vs most other retailers, trading at almost 22x (ten year high) fiscal 2016 earnings growth of 14%, despite sales growth in the low single digits.

The stock’s gains on the Q4 print were largely due to the company’s continued commitment to capital return, per their Q4 release on Feb 24th:

The board of directors also authorized an $18.0 billion share repurchase program, replacing its previous authorization. Since 2002 and through February 1, 2015, the Company has returned more than $53 billion of cash to shareholders through repurchases, repurchasing approximately 1.2 billion shares.

So what to expect?  Limited info on additional cash return, they are kind of out of bullets.  The company did issue a downgrade to forward guidance, which was modest, but given some of the results from other retailers of late, maybe too modest, or at least causing a second consecutive guide down.

Given the company’s exposure to rising interest rates for its effects on U.S. consumers and the housing market, I would say the risk reward of playing for new highs vs a move back to its 200 day moving average near 102 seem a bit skewed to a downside move.  Momentum seems to be waning as visibility on the U.S. consumer and rates has gotten a bit noisy.

Potential Trades:


If I were looking for a disappointment tomorrow following results I might merely consider buying the May 22nd 113 puts for $1.55 (stock ref $114).

If I thought the stock would see continued downward pressure in the coming weeks I might consider buying the June 113/105 put spread for $2.

Bullish: the chances of a completely parabolic breakout are much less than a move up towards the 120 level. It’s not without risk but the weekly 115/120 1×2 call spread for around 1.10 (buying 115 calls for 1.50, selling 2 120 calls at .20 each) plays for that move while risking the minimum amount of premium by selling 2 of the 120s. You will be taken out in the stock above 120 and be short above.  So this is an adult swim trade.