Earlier today on Twitter I posted a bunch of charts of stocks that have in the last few weeks/months broken a long term uptrend, and have also recently, or are about to test important near term support (here). I started with Morgan Stanley, but added a bunch of other large cap widely owned names. Here’s the MS tweet:
— Dan Nathan (@RiskReversal) January 6, 2016
I didn’t tweet it but another stock that looks similar to those identified above (and one that I have been positively deposed to for months, but have not pulled the trigger on) is Time Warner (TWX). That’s specially when juxtaposed with Netflix (Stream Dreaming from Sept), primarily on relative valuation. TWX is down about 25% from its all time highs made in July. It has broken the uptrend that has been in place since mid 2012, and broken support that had been in place since late 2013:
The chart looks horrible, even with the stock is up more than 4% today (positive mention from a research analyst), massively bucking the broad market trend (the SPX is down 2% as I write). NFLX is up 8% today as the company announced that they are rolling out service in 130 countries in the coming months. I am not sure this is new news, but certainly caused shorts that were pressing the early year lows to trip over each other to cover.
Following TWX’s poor relative performance since the late summer, there is one trader today who expressed a bullish view in the options market. When the stock was $68.35, a trader bought what I would call a call spread risk reversal.
-Selling to open 8800 July 60 puts at 2.85
-Buying to open 8800 July 70 calls for 5.80
-Selling to open 8800 July 77.50 calls at 2.80
So let’s figure out how this trade makes and losses money between now and July expiration:
The net premium outlay for this position is 20 cents (the July 70 call premium paid – 60 put premium received – the July 77.50 call premium received = 20 cents.
Break-even on July expiration:
Neutral: between $60 and $70.20 lose up to 20 cents.
Losses: between trading levels and $60 lose 20 cents, below 60 trader would be put 880,000 shares of stock and lose one for one below
Profits: between $70.20 and $77.50 make up to $7.30, max gain of $7.30 above $77.50
Mark to Market Prior to July Expiration: This position will show losses as the stock moves lower closer to the short put strike and will show gains as the stock moves above the long call strike of $70.
Our View: For those who would be inclined to buy TWX on an up day like today, down considerably from its all time highs in a short period of time and with a precarious technical set up in what is clearly a shitty stock market, we much prefer a trade like the one traded in the market today than buying stock at $68.35. This trade defines a wide range on the downside where losses would be suffered 6 months from now with more than a 10% potential gain with fairly minimal initial premium outlay
Caveats: But I would add a couple more points. First, if $60 looks like a good support level for a long entry, it could make sense to merely wait for an entry there (see three year chart below). If you are short the July 60 puts at $2.85 on a 26 delta, and the stock were to go to $60 over the next few months, the trade that only cost 20 cents to enter, would be against you by dollars, adding 26 cents on the first dollar and increasingly more each dollar lower as the short deltas rise.
Lastly, depending upon your bullish thesis on TWX, remember that in mid July 2014 the stock rallied (circled below) from $70 to almost $90 on a proposed take-over by Fox. That ultimately did not happen and here we are at the spot.[caption id="attachment_59949" align="aligncenter" width="600"] TWX 3 year chart below from Bloomberg[/caption]