$YUM Q4 Earnings Preview

by Dan February 3, 2016 1:53 pm • Commentary• Trade Ideas

Event: Yum Brands (YUM) reports Q4 results tonight after the close. The options market is implying about a 6% one day move in either direction, which is a tad shy of the 4 qtr average of 7% but remember that last quarter the stock dropped nearly 19% after poor results and guidance skewing the average. The 10 year average one day post earnings move is about 4%.  

Price Action / Technicals:  YUM has showed fairly good relative strength the broad market in 2016, as it’s essentially unchanged. In 2015, the stock also closed essentially unchanged. But don’t let that unchanged 2015 fool you, YUM had a massive ramp in the first half of the year rising more than 30% at one point on the heels of activist investor involvement. Then the second half of the year was a different story, declining 30% from its may all time highs to its lows in October due to weak results in their China division (that is responsible for more than two thirds of their sales):

[caption id="attachment_60980" align="aligncenter" width="600"]YUM 2015 from Bloomberg YUM 2015 from Bloomberg[/caption]

Longer term shares of YUM have been in a very steady uptrend from their 2009 lows, which how you chose to draw the lines, it appears that the stock just bounced off of the lower band of the uptrend:

[caption id="attachment_60981" align="aligncenter" width="600"]YUM since 2007 from Bloomberg YUM since 2007 from Bloomberg[/caption]

Draw that uptrend a little differently, and it appears that the Q3 earnings gap in October is now below the uptrend, with little support until $60:

[caption id="attachment_60982" align="aligncenter" width="600"]YUM since 2007 from Bloomberg YUM since 2007 from Bloomberg[/caption]

Sentiment: has been fairly poor since the stock’s implosion last fall. Wall Street analysts are fairly mixed with 10 buy ratings, 15 holds and 1 sell, with an average 12 month price target of $81.50.  Short interest is about 2.5% of the float.

Options Volatility & Open Interest Snapshot:  Short dated options prices have remained elevated since their Q3 gap, with 30 day at the money implied volatility just below 37%. This should fall to high 20s after tonight’s print:

[caption id="attachment_60985" align="aligncenter" width="600"]YUM 1yr chart of 30 day at the money implied vol from Bloomberg YUM 1yr chart of 30 day at the money implied vol from Bloomberg[/caption]

A quick look at the one year chart of options volume and open interest shows both just above one year lows, in my mind showing general indifference, with call and put open interest evenly matched at 77,000 options.  The two largest strikes of open interest are 9600 of the April 75 calls and 8400 of the April 60 puts:

[caption id="attachment_60986" align="aligncenter" width="600"]YUM 1yr chart of Open Interest and Options Volume from Bloomberg YUM 1yr chart of Open Interest and Options Volume from Bloomberg[/caption]

MY VIEW:  the company has faced no shortage of headwinds over the past couple of years as their China division accounts for more than 50% of their sales, and much of their future sales. The company has felt the adverse affects of the strength of the U.S. Dollar, meat supplier problems and the potential for continued waning demand as the country’s economy continues to slow.

So I think there are two scenarios where the stock could move in line with the implied move.

Bullish, if the company were to be able to beat their previously lowered Q4 guidance and able to guide 2016 higher than the current 13% consensus eps growth and 4% sales growth that is expected, and higher than expected comps in China, then the stock could fill in the Oct earnings gap to $80.


Bearish, if the company comes in line, and guides Q1 and possibly the year meaningful below consensus, than the stock will likely re-trace much of its recent strength back to the January low near $67, and if much worse than expected will likely make a new 52 week low.

If I had a convicted view one way or the other, I might consider defining my risk and playing for a 7-10% move near term to the direction I am leaning.

Hypothetical Trades depending on one’s directional inclination and estimate for the magnitude of the post earnings move:


YUM ($72.50) Buy the Feb/April 77.5 call calendar for 1.25
  • Sell 1 February 77.5 call at .60
  • Buy April 77.5 call for 1.85

Breakevens on February expiration: Losses if the stock is lower, gains if the stock is higher with most gains seen if the stock is 77.50 on expiration.

Rationale – Implied volatility in YUM is high, but for good reason. The stock had a massive round-trip last year and in its last earnings report registered a significant one day gap lower. This trade positions for a 7% move higher on the earnings event, just outside the implied move. If that were to occur the Feb short calls can be closed and you’re left with some choices of either taking the profits entirely or staying long by further spreading the April calls. If the stock goes nowhere or lower, this is better than other long premium strategies or even buying the stock as the risk is limited to just 1.25 with unlimited upside after Feb expiration if the stock is below 77.50 and the Feb short calls expire worthless. There is risk of a massive upside gap on earnings through the strike but again, that can only max out a loss at 1.25 and the stock would have to be significantly higher than 77.50 which is a low probability event.


Outright Bearish/ Hedge vs Long shares

We haven’t had many questions on YUM so we’re not sure if anyone is long and looking for a hedge but this is the bearish structure we like for that situation or for those who just can’t resist and want to be short with defined risk for the event:

Buy the YUM (72.50) Feb5th weekly 71/66 put spread for 1.20
  • Buy 1 Feb5th weekly 71 put for 1.60
  • Sell 1 Feb5th weekly 66 put at .40

Breakeven on Feb 5th (Friday): Losses of up to 1.20 with the stock 69.80 or above with total loss of 1.20 above 71. Gains of up to 3.80 below 69.80 with max gain of 3.80 at or below 66 in the stock.

Rationale – This is a decent hedge risking about 1.5% of the underlying for those that are long and worried with protection to and below the recent lows in the stock. As an outright bearish trade it is risky with implied vol so high but offers a decent risk reward if the move to previous lows does happen.

We’re not trading this ourselves but wanted to check in on the stock as it’s had some wild rides in past earnings reports and always seems custom made for defined risk options trading.