In early May (It’s In the M&A Game?) following better than expected earnings and guidance, I laid out a bullish case for shares of Electronic Arts (EA) over the course of the summer:
Shares of EA trade at about 20x expected fiscal 2020 eps growth of 8% on 5% sales growth, kind of a fat PE/G, but the company has a killer balance sheet with $4.5 billion in net cash on a $28 billion market cap. This company is either activist or takeover bait in my opinion, and if I were an acquirer of content, this company at 4.4x sales ex-cash looks very attractive.
At the time EA was trading just below $94 and I detailed a call calendar strategy that sought to finance the purchase of longer-dated out of the money calls by selling shorted out of the money calls of the same strike, here was the strategy:
EA ($93.88) BUY JUNE – SEPT 100 CALL CALENDAR FOR $3.70
-Sell to open 1 June 100 call at $2-Buy to open 1 Sept 100 call for $5.70
It makes sense to consider managing this trade with three trading days to June expiration when the short strike will expire, leaving the trade left long just the Sept 100 call. With the stock at $92.70, the June 100 call that was sold at $2 can be bought to cover for 5 cents and the Sept 100 Call that was bought for $5.70 can be sold at $3.75. This trade is a wash despite the stock being down about 1.5% since early May. The trade structure did exactly what it was supposed to do.
So what to do now? The June 100 call has a 99% probability to expire worthless, but if you were inclined to once again turn into a calendar by selling the July 100 call, or possibly turn into a vertical call spread by selling a higher strike call in Sept then it makes sense to cover the short June 100 call.
EA will report their fiscal Q1 results on July 30th, with no other identifiable catalysts before then it might make sense to roll the June 100 call to the July 100 call, further reducing the cost of the Sept 100 call and having this same discussion prior to July expiration, which will be 10 days before earnings.
Action: EA ($92.70) Buy to close June 100 call for 5 cents, Sell to open July 100 call at $1.05
New Trade Structure: EA ($92.70) Long July – Sept 100 call calendar for $2.70
This trade performs best with a gradual move towards the 100 strike over the five weeks into July expiration. If the stock is below 100 July expiration the short 100 call will expire worthless and the trade will be left naked long the Sept 100 call. If the stock is close to 100 then the Sept 100 call should have appreciated as it will have picked up deltas. At that point it might make sense to further reduce the premium at risk by selling a higher strike call in Sept turning the trade into a vertical call spread. The max risk f this trade is the $2.70 premium paid, and would be at risk with a large move below the current level, or well above the 100 strike.