by riskreversal December 9, 2016 3:22 pm • Trade Ideas

Until this week’s 5% rally (back up on the year ~3.5%) in shares of Alphabet (GOOGL) the stock, along with many other mega-cap stocks have largely sat out the post election rally in U.S. stocks, now trading very near the levels of its closing price on Nov 8th:

GOOGL 1 month chart from Bloomberg
GOOGL 1 month chart from Bloomberg

The stock is now approaching its October breakout level to new highs that followed their Q3 results:

1yr chart from Bloomberg
1yr chart from Bloomberg

As you can see there are a couple other lines on that chart that I think are worth keeping an eye on. First, $760, where the stock briefly traded through a week ago, which might serve as some near term support on a pull-back. But longer term, $700 should serve as staunch technical support as it was the stabilization level in the Jan – Feb stock market swoon and spent a couple days below following the Brexit vote.

So the price action has been meh, while the technical set up is fairly constructive. That’s likely poor sentiment. And that sentiment might quickly turn bullish if Q4 results are better than expected, and laggards play catch up in the Near Year.

My friend and former Suntrust Internet analyst Bob Peck had a fairly astute observation in a note to clients following their Q3 print on Oct 28th about GOOGL’s ability to monetize across numerous massive platforms:

We feel advertisers seeking reach, discoverability, and measurability view Google as a leading asset. It has leveraged its dominance in Search to drive lead in mobile, video and programmatic, while allowing investments ahead of the curve (e.g. machine learning and self-driving cars). With seven properties garnering over 1 billion users each, including Search, Android, Maps, Chrome, YouTube, Google Play, and Gmail, we feel few companies in our universe offer as much optionality,

Peck who rated the stock a buy, with a 12 month price target of $900 highlighted the following points about their Q3 results:

1) Revenue growth decelerated ~2-pts to +23% YoY ex-FX despite 3-pt tougher comps. Sites grew 23% YoY, led by Mobile and YouTube, with paid clicks up 42% and CPC down 13%.

2) Network growth of 1% YoY reflected growth in Programmatic and AdMob, offset by legacy declines.

3) Other Google revenue accelerated to +39% from 33% in 2Q, led by Play and

4) US grew 22% YoY, UK 18% ex-FX, and RoW 25% ex-FX.

5) Total TAC rate declined modestly due to mix, but was UP for Sites and Networks to a record for 3Q. TAC to distribution partners grew to ~10% of Sites revenue versus 8% in the year ago period, primarily on Mobile growth. Network TAC increased to ~70% from ~68% over the same period, on higher Programmatic revenue.

6) Operating margins improved ~110bps despite higher TAC and investments. Core Google margins were down ~95 bps YoY on higher Other Cost of Revenue (data centers and YouTube content).

7) FCF was $7.5B or ~33% of revenues. GOOGL ended 3Q with ~$83B in cash, including ~$50B abroad.

8) In October, Board authorized ~$7B in share buybacks.

GOOGL trades 19.5x expected 2017 eps growth of 19% (less than 12x ex their $85 billion in net cash), on expected sales growth of 17% to a whopping $85 billion (about $10 billion less than Microsoft!).  For a company of this size, with its revenue base, fending off competition from the likes of Facebook (FB) for ad dollars, and doing battle with Apple (AAPL) in mobile,’s (AMZN) AWS for cloud offerings is truly astounding to be able to continue to growth high teens for both eps & sales.

So poor sentiment, attractive valuation on most metrics especially on PE to Growth, killer balance sheet, strong fundamentals and constructive technical set up set up for a breakout candidate in the New Year, targeting their Q4 results that should fall in the last week of Jan / early Feb.

So What’s The Trade? With the stock up nearly $50 since last week its a hard chase, despite the bullish case that can be made.  I’d likely wait for the stock to consolidate some recent gains, but gun to my head here, it makes sense to structure a trade that allows for slippage on a long entry that leans on a decent technical support level where you would be inclined to get long on the downside but sets up for leverage to an upside move without the worry of premium decay over the next month few weeks during the holidays that could see a low vol environment:

GOOGL ($805) Buy the Feb 760 / 850 Risk Reversal for even money
  • Sell to open 1 Feb 760 put at $13.50
  • Buy to open 1 Feb 850 call for $13.50

Break-Even on Feb Expiration:

Profits: above 850 up 5.5%

Losses: below 760 down 5.5%

Mark to Market: as the stock moves higher towards the long strike prior to expiration the position will show gains, and as it moves lower towards the short put strike the position will show losses. If the stock is between $760 and $850 on Feb expiration the trade has no profit or loss.

Rationale – If the stock is to make a run to new highs this trade will set up well into the earnings event. At that point the put could be closed or turned into a short put spread, defining risk. The key to the trade is that an entry here for a run to that new highs is risky after near term strength. This defines a range where the stock can dance around with out much harm or foul, but allows for participation on a breakout.