Qualcomm (QCOM) – Chips on the Table

by riskreversal November 1, 2016 2:14 pm • Trade Ideas

Event: Qualcomm (QCOM) reports fiscal Q4 results tomorrow night after the close. The options market is implying a 6% one day post earnings move which is shy of the nearly 8% average over the last 4 quarters, but rich to the 5.1% ten year average one day post earnings move. Last quarter the stock gained 7% following results that were better than expected, the first time (in eleven reports) it had risen following earnings since Jan 2014.

Price Action / Technichals: Shares of QCOM are up 36% on the year, and up 60% from its 52 week lows made in February for two main reasons, after a 20% yoy decline in eps in 2015, the company guided to calendar year growth in July for 2016, and the increasingy liklihood that the company would put their $31 billion in cash to work for m&a. Prior to QCOM’s fQ3 results on July 20th, I highlighted the prospect of a large deal, like the one they just made for NXPI:

Following Monday’s $32 billion acquisition of ARM Holdings by Japan’s Softbank, I had some thoughts on QCOM’s current positioning in the semiconductor space (MorningWord 7/18/16: QCOM – ARM Wrestled):

QCOM is still too reliant on mobile devices and will need to pivot part of their company fast like INTC. To do that, QCOM will need to get into the IoT acquisition game. The short list includes Silicon Labs (SLAB), Microchip (MCHP) or NXP (NXPI).

Since mid July the stock has had two material gaps, the first after the beat and raise in July, and the second in late Sept when rumors surfaced the company was in talks to buy NXPI, offer made last week for $47 billion, the largest semiconductor deal ever. QCOM earlier this week made a new 52 week high, but I am hard-pressed to think there is too much more upside near term as investors contemplate possible regulatory opposition, distraction from such a large integration and the the fact that the company will have to dramatically lever up (possibly causing a rating downgrade) to pony up the $47 billion in cash. I suspect we see the stock settle in near the Sept breakout level near $64, with massive 1yr technical support at $60:

QCOM yr chart from Bloomberg
QCOM yr chart from Bloomberg

My View into the Print:  even after the stock’s recent rise, QCOM trades well below a market multiple at less than 16x 2016 expected eps, ,and 14.4x expected f17 eps (which consensus has growing 9% yoy).  In 2015 the company announced aggressive buybacks ($10 bn accelerated) which will surely come to a stall as they look to finance the NXPI deal.

QCOM has done what activist investors wanted. They have returned cash to shareholders through buybacks and dividends (current annual yield 3%) and now m&a. But with so much time before we can even discuss accretion and cost savings, I suspect QCOM is range-bound for now.

Short dated options prices are elevated, with 30 day at the money implied volatility at 31%, double the 52 week lows made in Aug, reflecting the uncertainty around m&a, and now increased credit risk regarding financing of the deal.

[caption id="attachment_67709" align="aligncenter" width="600"]From Bloomberg From Bloomberg[/caption]

Given elevated options prices, and the potential for a cap on near term gains, holders of shares might consider overwrites, or possibly even strangle sales to add yield.  For those inclined to play for a pullback to the mid to low $60s near term might consider put butterflies.

For example, as an over-write vs 100 shares of existing QCOM ($67.85) one could sell the Dec 72.5 call at .90. If the stock is below 72.50 on Dec expiration than they would receive the 90 cents, or 1.4% in 6 weeks.  Not bad if you annualized that sort of gain on top of its existing dividend yield.

And for those looking for protection against 100 shares the Nov 67.5/62.5/57.5 put butterfly is 1.00 and offers up to $4 in protection if the stock pulls back to the 62.5 area. Between 66.50 and 58.50 you could make up to 4 with the max gain of 4 at 62.50, with max loss of 1 below 57.50 (extremely unlikely) or above 67.50 (fairly likely). That trade is not great in the unlikely event that QCOM is below that 62.5 strike, but in most declines the overlay will offer nice protection and expires next week.