Earlier I highlighted recent price action following earnings in three once loved tech stocks. All have high short interest, all were down sharply from their 52 week highs, and all are now experiencing sharp short squeezes after printing Q2 results that were not as bad as expected (Day of the Dead).
Tonight, another stock that fits that set-up is reporting earnings, FireEye (FEYE). Like 3D Printing stocks back in 2013/14, there was a mania for network security stocks, with FEYE rising nearly 400% in early 2014 from its Sept 2013 IPO price of $20. The stock subsequently crashed, and is down 83% from those levels, down 60% from its 52 week highs and down 17% in 2016. It is however, already 50% above its 52 week and all time lows made in Feb.
Like DDD heading into its earnings yesterday morning, FEYE looks like a coiled spring, trading in a fairly tight range for most of the year, with short interest at 15%. In the quarter just ended the company made a management change, moving the CEO who brought them public to Chairman, and bumping up their President. The company has been long thought of to be a take-over candidate. But the news in June of the management change might put that on hold, especially when you consider that departed CEO DeWalt was the one that sold his former company McAfee to Intel for $7.7 billion in 2010.
Sales growth in 2015 was 46%, and is expected to decelerate to 27% this year to $793 million. Here is the problem for potential acquirers, the company has never had profitable quarter in its 3 years as a public company. It’s expected to lose $1.24 in 2016 on an adjusted basis, $3.25 on a GAAP basis, down from a $3.50 loss in 2015. I’m not sure the growth on sub $1 bill in sales is worth the dilution for any large acquirers.
The stock is touching its 200 day moving average for the first time since last August, and with sentiment so poor, and short interest high, this stock could squeeze like those others. The chart since inception shows little overhead resistance above $20:
[caption id="attachment_65529" align="aligncenter" width="600"]
FEYE since 2013 IPO from Bloomberg[/caption]
The implied move in the options market is about 12%, the average over the the last 4 quarters has been about 13%. In the 11 quarters the company has reported since going public, the stock as moved on average about 12%, while only two of those moves have been higher. On May 5th, when the new CEO reported results which disappointed alongside a disappointing outlook, the stock declined 19% the next. This is not a stock you want to blindly buy shares in into an event. But maybe that was the kitchen sink? If the company was able to show any incremental progress in profitability, a short squeeze could be on.
Your guess is as good as mine, but it may be worth a shot as long as one can define risk. This is a stock that would easily be in the mid to low teens on another guide lower.
So What’s the Trade? If you were inclined to play for the sort of short squeeze that just occurred in DDD, FIT & SQ, but want to define risk, the following trade structure offers a much more favorable risk reward than buying the stock into the potentially volatile event:
Bullish position in lieu of 100 shares of stock at $17:
Sell the Sept 14 Put to Buy the Sept 17 / 21 call spread for 70 cents
- Sell to open 1 Sept 14 put at 40 cents
- Buy to open 1 Sept 17 call for 1.55
- Sell to open 1 Sept 21 call at 45 cents
Break-Even on Sept Expiration:
Profits: gains of up to 3.30 between 17.70 and 21 with max gain above.
Losses: up to 70 cents between 17 and 17.70, loss of 70 below 17, worst case put 100 shares of stock at 14, down 17.5%, plus losses of 70 cents.
Rationale – This trade breaks even at 17.70 and has the potential of up to 3.30 in gains above that level. There is downside risk of being put the stock but only below $14 (for an effective cost basis of 14.70). That’s nearly 18% lower. But it’s a factor because one must be willing to be put the stock at that level. If the stock is higher tomorrow this trade will have mark to market gains and if it’s lower it will have mark to market losses, but the real levels to keep an eye on after that are 14 to the downside and 17.70 to the upside. Losses of up to .70 are possible between those levels. But that’s the most that can be lost as long as the stock is above 14 on Sept expiration.
So this is an inexpensive way (risking .70 in most scenarios) to play for up to 3.30 in potential gains. It is only for those willing to be put the stock on a significant decline lower. It’s much better risk reward than owning the stock.