INTC: Chip Shot

by Dan January 19, 2016 10:16 am • Commentary• Trade Ideas

On Friday in my MorningWord, the message was simple, in an uncertain economic and market environment, take cautious commentary from company management at face value.  I used the example of Cisco Systems in early November 2007. They were the first of any of his mega-cap techs to suggest the the strain financial companies like banks, autos, and even emerging markets (that many thought could de-couple from our homegrown housing crisis) was the source for recent weakness and the cause for unusually poor visibility. From that point, to its lows in early 2009, CSCO declined 60%, and the Nasdaq Composite dropped 55% before bottoming. Someone had to call the shot.

The forward guidance Intel’s (INTC) gave Thursday night is what got me all nostalgic. Mega-Cap Tech has been a relative safe haven over the last year with stable earnings, fat dividend yields, share buybacks, strong balance sheets and cheap valuations. On the call the company got more specific as to why forward guidance was weak. But prior to, investors were giving the company the benefit of the doubt. Bull Market Benefit!

I guess the important question here is whether or not INTC’s commentary regarding visibility in China was the start of a flurry of commentary regarding weak demand from China?  Last year was filled with bottom callers in the Chinese economy, my most common retort was a quote from the atheist socialist scholar, Christopher Hitchens::

That which can be asserted without evidence, can be dismissed without evidence.

Nobody knows whats going on over there, and I assure you peeps that you see on TV or read on the web have no clue, my view from May:

I have no clue what’s going on over there. And to be frank, very few of your favorite pundits calling for a boom or a bust have one either.  I speak to people who do business in China (from here and there on the ground) and I get very different points of view whether the slowdown is manageable or a minor blip.

But rather than putting our wet finger up in the air, we can attempt to extrapolate exactly what INTC’s management said on their earnings call Thursday night, and take it at face value.  Here were the quotes regarding China (emphasis mine):

Brian Krzanich CEO
Wrapping up, our results over the last year leave me increasingly confident in our strategy. While our outlook for the first quarter reflects some caution about overall demand, particularly in China, we continue to expect solid growth in the business in 2016.

Stacy Smith CFO
For the first quarter of 2016, the mid-point of the revenue range is expected to be $14.1 billion. This forecast, which includes an extra work week and the newly acquired FPGA business, is on the low-end of the average seasonal range. This outlook represents a soft start to the year as we remain cautious on the level of economic growth, particularly in China.

Brian Krzanich CEO
It is the same type of trend we saw in 2015, emerging markets slower than the mature markets, U.S., Western Europe looking okay. China and the rest of Asia, slow. It was both, consumer and enterprise.

Stacy Smith CFO
Then our team on the ground in China has gotten fairly cautious about what is going on in China right now. As you know, that is the largest PC market, so we are just little cautious on the growth rates there.

I make a lot of mistakes over and over again when it comes to trading/investing, but there is one thing I refuse to ignore and that’s history. Yeah I have my biases like anyone, but I suspect that INTC’s specific commentary about Chinese demand is the result of real demand data, not a feeling they are getting from reading the newspaper or watching CNBC.

I’ll make one last point here. I closed a bearish trade in INTC on Friday morning (here) and to be frank I did not see a down 9% move, but I will also tell you that I did not expect the company to be particularly honest about what they were seeing in China if in fact it concerned them.

So what to do?  I know I know, INTC is a cheap stock, below a market multiple, but that’s for a reason. The buyback, I suspect we see less this year than last (hit that in Wednesday’s trade post).  The balance sheet, read former post. State of PCs and their ability to diversify, ok that will take time.  Dollar exposure, whoah more than 60% of sales outside U.S.  You get the point, div ok, valuation ok, management solid, dominant market position, but I will tell you that the price action is obviously bad and the technical set up is worse.

The stock has broken the long term uptrend and now is at key support just below $30 and still 16% from it’s August 24th low with little support until the mid $20s:

INTC 5 year chart from Bloomberg
INTC 5 year chart from Bloomberg

So what’s the trade?

We don’t think it makes sense to press shorts after the recent sell-off. Counter-trend rallies happen when one least expects them in a bear market (which we could be in). So let’s see if INTC can fill in a bit of that earnings gap from last week.  If it can’t keep pace in a broad market rally then I think it sets up nicely for a short trade, targeting the mid $20s, possibly looking out to April expiration as it will catch Q1 results, but possibly a negative pre-announcement.

Right now with the stock at $30, the April 29/25 put spread is 95 cents. My ideal entry on a new short entry is about a dollar higher from here or about $31 in the stock. At $31 that April put spread would be more like .60, and looking up a strike the April 30/26 put spread would be under .90. I have no idea if the stock has a dollar rally in it on a market bounce. If we get a bounce soon it will be telling if INTC can or cannot keep pace. I’ll be watching to see and waiting for an entry.