Technical $KO

by Dan May 10, 2016 2:51 pm • Commentary• Trade Ideas

On April 20th, following Coca-Cola’s (KO) Q1 results, the stock dropped nearly 5%, with the two day drop equaling 8%.  Investors are likely concerned with the little matter of declining sales, with expected 2016 sales of $42.5 billion, $5.5 billion below their 2012 peak.  Current consensus estimates for 2017 sales are $37 billion, down 13% from 2016 levels. This chart from the shows what looks like death by 1000 cuts for the sugar water manufacturer:


KO has since made back a good portion of post earnings losses, threatening a gap fill, with the stock back up on the year about 6%, vs the S&P 500 (SPX) up about 2%.

from Bloomberg
from Bloomberg

So what gives? Are KO shares perceived to be defensive with a 3% dividend yield?  In their latest release the company said they are “targeting full-year 2016 net share repurchases of $2.0 to $2.5 billion”, below prior year levels, and not exactly a massive number on their $200 billion market cap. So while capital return is one reason to own the stock, their 50% revenue exposure outside the U.S. has been a source of earnings volatility. Here was management’s commentary regarding currency effect for 2016:


In my opinion, the problem the company has is that their developed market share is being eaten away by healthier options, while the strength of the dollar last year hit sales in growth markets outside the U.S..  So the guidance given last month suggests that the dollar’s weakness year over year (with the U.S. Dollar Index (DXY) down about 6% in 2016) that should be a tailwind from overseas sales is not making up for some of the secular shifts that face the company’s core product in the U.S..

2016 is expected to be the third consecutive year of earnings declines, so why the heck are investors paying 23.5x 2016 (near a 10 year high) expected earnings for KO given what appears to be no shortage of headwinds? Your guess is as good as mine.

KO 10yr P/E from Bloomberg
KO 10yr P/E from Bloomberg

The next identifiable catalyst for KO will be Q2 results expected the last week of Jul. I suspect we could see a continuation of weak sales and earnings trends, regardless of the course of the dollar. But the stock could see some consolidation in the mid $40s over the next few weeks after a volatile month.

So What’s the Trade?  

KO is likely to report next during August expiration. That gives options traders an opportunity to finance downside puts in that cycle with nearer expiring puts of the same strike:

*KO (45.65) Buy the June/Aug 44 put calendar for .60
  • Sell to open 1 June 44 put at .38
  • Buy to open 1 Aug 44 put for .98

Rationale – If KO closes on July expiration above 44 the June 44 puts will expire worthless. That would then give us the opportunity to further roll the short strike to July or August. If KO continues higher on a breakout the most that can be lost is .60, the risk is defined to the upside.