Chipotle Mexican Grill (CMG) is being served up right on the price chart in front of this week’s earnings release, but should bullish investors dare to nibble?
Let’s examine Chipotle stock’s recent report history and investor reaction in shares of CMG.Then we’ll take a look at what option traders are pricing in — and if the combination amounts to a nice bullish topping to go along with Chipotle stock’s yummy price chart.
Chipotle Stock Recent Earnings History
In front of next Tuesday night’s Q3 earnings release, analysts are forecasting earnings of $4.61 per share for Chipotle stock. The profit forecast compares to the year ago period’s $4.15 per share and earnings growth of 10.8%.
Chipotle stock has topped Street profit views in each of its last four quarterly reports. And analysts are forecasting that Chipotle stock’s full-year earnings will grow by 22.8% year-over-year.
Chipotle stock is expected to produce revenues of $1.2 billion for Q3. The forecast represents growth of 12.2% over Chipotle’s sales of $1.1 billion taken in during Q3 of 2014. Sales forecasts for full-year 2015 are pegged for growth of 14.9%.
Monday’s Vital Data: AMZN, TWTR and GE
Shareholders of Chipotle stock have been less than agreeable with their immediate reaction. After the most recent report, CMG managed a strong bid of 7.84%, but fell by nearly equal percentages of -7.41%, -6.97% and -6.96% in the three prior quarters.
Longer-term, investor reaction to Chipotle stock earnings releases has been a coin toss, with only 52% favoring bulls on an absolute report count basis.
Chipotle Stock Weekly Chart
Chipotle stock has established solid, technically constructive work in the form of base-building and corrective activity which lays the groundwork for higher prices.
After hitting an all-time-high in August 2014, Chipotle stock backed-and-filled to set up a five-month base before breaking out in January 2015. The failure to move higher ultimately resulted in a healthy 21% correction which had the added benefit of undercutting the low of the prior base.
With the undercut in Chipotle stock in place, the weekly base count is reset, and the next base to develop is assigned a first base label. Let’s dig into what that means.
Weekly base counts of four or more in an uptrending stock are generally more prone to failed breakouts because the stock hasn’t purged its excesses. That type of condition is unsustainable. Thus, Chipotle stock is currently in good standing, as its count was reset.
Following an aggressive and technically-extended breakout attempt from its corrective undercut low, Chipotle stock has been busy building a first base for the last couple of months. That’s good news.
The even more constructive development for Chipotle stock is that the formation is a tight, lateral base-on-base pattern which has found support from its prior August 2014 high and centered at the high of its failed January breakout.
Chipotle Stock Options Pricing
To price what options traders are currently estimating for CMG’s earnings reaction, we can look at the Weeklys that expire next Friday as they amount to the closest “pure play” trading vehicle available to traders.
“Devilish” at-the-money implieds of 66.6% in the Weeklies October ’23 $725 strike are pricing in a 68% chance Chipotle stock will remain within a range of about $67 — or between $658 and $792 — through Friday’s expiration.
The expected dollar move up or down in Chipotle stock works out to about 9% by Friday’s close and suggests traders are preparing for a slightly larger move than the 7% to 8% earnings reactions following the last four reports.
Chipotle Stock Bull Call Spread
Earnings reactions in Chipotle stock have been weak lately, and they become more of a coin toss the further back you go. Therefore, a vertical spread which greatly reduces position risk is a much better trade than just going long CMG stock or following a simple long call strategy.
For bullish investors, the Weekly October 23 $750/$770 spread fits in well.
Priced for about $6 slightly above mid-market with shares near $725.25, the cost is less than 1% of the price of 100 shares of CMG stock. That’s a positive feature in our view when considering holding a position in Chipotle stock through earnings.
The vertical spread breaks even at $756 in Chipotle stock and does require a move higher by a bit more than 4% come expiration. However, the vertical also offers protective value and the potential to break even at about half the size of recent earnings moves, making the cost reasonable.
Above $770 at expiration the vertical maximizes its profit potential of $14. To secure the whole enchilada (a resulting return of 208%), Chipotle stock needs to rally just over 6%. That’s a bit of a tall order, but given CMG’s reaction history and strong price chart, such a move could reasonably be on the menu for Q3.
Disclosure: Investment accounts under Christopher Tyler’s management do not currently own positions in any of the securities or their derivatives mentioned in this article. The information offered is based upon Christopher Tyler’s observations and strictly intended for educational purposes only; the use of which is the responsibility of the individual. For additional market insights and related musings, follow Chris on Twitter @Options_CAT
