On Friday, January 25th I previewed Facebook’s (FB) Q4 earnings with my view very simply, cautiously optimistic. With the stock up 12.5% as I write today following better than expected results, I can also say that I did not for a second expect this sort of reaction to better than expected news, but I highlighted what I felt might be overly pessimistic investor sentiment:
The company has made it abundantly clear over the last year that they would be ramping up spending to get better control over user’s data, and systems to better identify and repel bad actors from their platform to avoid the sort of weaponization that took place during the 2016 U.S. elections.
What strikes me is that consensus estimates still call for sales to grow 24% in 2019 to $63.4 billion from last year’s expected $55.3 billion, which might assume that users have not disengaged with their many services and that advertisers have not left en masse.
I want to be cautiously optimistic that the revenue engine is not broken at FB and that expenses as a percentage of revenues that shot up last year and are expected to not decelerate meaningfully in 2019 have maxed out. As Mahaney suggests, the company could miss their lowered guidance, and maybe there is one more cut, but that might be it for the time being.
I detailed this trade idea on CNBC’s Options Action Friday:
Well I had the sentiment and the technical set up correct, but the trade structure clearly wrong, using a call calendar ended up being a fairly bad use of capital to make a bullish bet into the print, here was the trade idea from Friday:
If you agree that the stock might be up or down in-line with the implied move of $10, but that the stock might be acting a bit better into the spring, then call calendars make sense, defining one’s risk, by selling short-dated out of the money calls, taking advantage of elevated near-term options premiums and using the proceeds to buy longer-dated calls of the same strike. For instance:
FB ($149) BUY FEB – APRIL 160 CALL CALENDAR FOR $3
-Sell to open 1 Feb 160 call at $2
-Buy to open 1 April 160 call for $5
Break-even on Feb expiration:
The ideal scenario is that FB stock is near 160 on Feb expiration and the short 160 call expires worthless or can be covered for a small amount and you are left long April 160 call for $3 or about 2% of the stock price.
The max risk of the trade is $3 on a sharp move lower than current levels or a sharp move above the $160 strike price.
So now with the stock near $169, and the movement since last Friday doubling my ideal scenario, I have a couple of things to consider as it relates to trade management.
First, this trade idea which is short a $9.30 in the money Feb call that has two weeks to expiration. But because it is short dated, the extrinsic premium in the call is very little, trading at $10.30, so only about $1.
Second and possibly more important, the April 160 call that this idea is long is obviously also $9.30 in the money, but has more than two and half months to expiration, and considerably more extrinsic premium. The difference between the short call and the long call is the profit, and in this case with the stock near $170 the April 160 call is worth about $14.70, so net $4.40.
But the trade cost $3, so a measly $1.40 profit, less than 1% of the stock price and about half of the premium originally risked. If you were convicted about a move higher post results then this trade structure was the exact wrong idea, which is why I lead off my view on Friday that I was “cautiously optimistic”. Such is trading, I lacked the conviction and expressed my view with a trade structure that ended up being a poor use of capital.
I got the direction right, but the magnitude of the move and the timing of the move wrong, but at least the trade is not a loser. At this point, it makes sense to close the trade for a small profit and move on.