It was a pretty volatile week for most risk assets the world over. At one point here in the U.S. and Europe on Wednesday it felt as though we were nearing a crash. Things have obviously stabilized on the heels of some reassuring language from ECB head Mario Draghi, and the subsequent 22% bounce in oil since Wednesday morning.
Thinking more specifically about U.S. stocks, one of the most interesting take-aways was Netflix (NFLX) relative under-performance since reporting Q4 results on Tuesday which demonstrated furious subscription growth overseas. In the post market the stock was trading up $10 or more from its $107.50 close, now trading a few % from the week’s lows, below its 200 day moving average and just above psychologically important technical support at $100:
It’s been my belief that the massive out-performance of the so called FANG stocks (FB, AMZN, NFLX & GOOGL) will not persist, and an investor sentiment shift in the group could cause the sort of sell off witnessed in Apple (AAPL) since its highs last year.
Event: Which brings me to Facebook (FB). It reports next Wednesday after the close. The options market is implying a whopping 7% one day move on Thursday, which is rich to the 4 qtr average of less than 3%.
Options prices in FB are through the roof on a short dated basis. For example with the stock at $98, the Jan29th weekly (next Friday) 89 strike put, 10% out of the money is 90 cent bid, or 1% of the stock price. To put that in some context, MSFT, which also reports earnings next week, has a 6% one day implied move, and its 10% weekly out of the money put is a half of a % of the stock price, and MSFT’s average 4 qtr move is far greater than that of FB at 8.5%.
Technicals / Price Action: Since Wednesday’s lows, FB has rallied 9%, and bounced off of a key support level around $90:
Taking a longer term view since its 2012 lows, the stock is straddling a long term uptrend, with little support to the mid $80s, but likely $80:
In my mind FB is priced for perfection, maybe not on the surface relative to growth, but very likely relative to generally accepted accounting principles or GAAP. For instance, consensus estimates are calling for a 33% year over year EPS gain for FB, making the stock’s 34 P/E look pretty reasonable for a company expected to grow sales 38% in 2016. But peel back a layer of the onion and use GAAP earnings and that adjusted EPS of $2.87 looks more like $1.81 and the PE looks a bit more like 54x. And I am not sure there has ever been a near $300 billion market cap company that has traded 11.5x expected sales, 16x trailing. Convince yourself of that you want about their PEG ratio (PE to Growth) but if you are using adjusted you are fooling yourself (read Barron’s here on the topic from last June).
So what’s the trade? Is the stock near term oversold? Probably. Could it bounce above $100 on a beat and raise? You bet ya, probably as high as $105, but I suspect we will see some profit taking as that would put the stock unchanged on the year and I am not sure the market we are in is ready for the re-emergence of FANG.
Early next week, prior to FB’s earnings report I will consider the following trade as an outright bearish bet into the print. It really depends on where the stock is to choose my strikes, the higher the stock goes the more likely I am to execute the trade. But it’s really important to note that the reason for the complicated trade structure is because of the very high level of short dated options prices. We might decide to wait for the print and look to sell a bounce. But I would strongly consider this sort of trade structure as protection to long holders:
TO BE CLEAR WE ARE NOT DOING THIS TRADE AT THE MOMENT, WILL CONSIDER NEXT WEEK.
Trade: FB ($97.50) Buy Feb 95/85/75 Put Butterfly for $1.70
-Buy to open 1 Feb 95 puts for $3.40
-Sell to open 2 Feb 85 puts at $1.00 each or $2 total
-Buy to open 1 Feb 75 puts for 30 cents
Break-Even on Feb Expiration:
Profits: up to 8.30 between 93.30 and 76.70 with max gain of 8.30 at $85
Losses: up to 1.70 between 93.30 and 95 & between 76.70 and 75, max loss of 1.70 below 75 and above 95, or less than 2% of the stock price.