Aluminum giant Alcoa Inc (AA) steps into the earnings confessional after the close on Monday, unofficially kicking off 2016’s earnings season. And Alcoa needs a good one, as AA stock was hit hard last year, as five-straight years of declining aluminum prices and slowing growth in China took its toll.
That said, while 2016 kicked off with more of the same for Alcoa stock, AA is currently oversold and this year’s developments could positively impact guidance for Alcoa.
Starting off with the numbers, Wall Street is looking for earnings to plunge from 33 cents per share a year ago to four cents in the fourth quarter of 2015. Additionally, revenue is seen dropping 16.3% year-over-year to $5.34 billion.
There is a bit of a bullish sentiment read here, however, as Earnings Whisper places the fourth-quarter whisper number at five cents per share.
Guidance may be key for Alcoa when it comes to the actual quarterly report. In an effort to cut costs, the company announced that it was closing its smelter in Indiana and reducing alumina production, primarily in Texas.
This is the latest move for the struggling Alcoa, which has also permanently closed its facilities in Pocos de Caldas, Brazil, and temporarily reigned in its smelting capacity at its Sao Luis plant.
Additionally, Alcoa also has plans to split its operations into two companies this year — one for smelting and mining, the other for its energy-producing units.
Analysts, however, aren’t convinced in Alcoa’s ability to turn around. Data from Thomson First Call shows Alcoa stock has attracted eight “hold” or worse ratings and eight “buy” ratings.
But there are some lingering bullish tendencies within the analyst community: Macquarie upgraded AA stock to “outperform” from “neutral,” while the overall 12-month consensus price target of $12 per share represents a 45% premium to the stock’s current perch.
Options traders are leaning bearish heading into Alcoa’s quarterly report. Currently, the January/February put-call open interest ratio for AA stock rests at 0.91, with puts and calls in near parity. This ratio rises slightly to 0.92 for the January series expiring at the end of next week.
Click to Enlarge Overall, January implieds are pricing in a potential post earnings move of about 6% for Alcoa stock. This places the upper bound near $8.75, while the lower bound lies at $7.75.
Alcoa is currently bouncing between support at $8 and resistance at $10, meaning that fall to $7.75 could be a confirmation of a longer-term downtrend.
A rally to $8.75 for AA stock, however, would have less of an impact, with technical resistance still looming overhead at $10.
2 Trades for AA Stock
Put Spread: Pessimism against an underperforming stock is par for the course. While there is the potential for guidance to make a positive impact on Alcoa stock, there is very little here for a contrarian investor to take away. As such, I’m leaning toward a bear put spread ahead of Monday’s earnings report.
Traders siding with the bears might want to consider a Jan $7.50/$8 bear put spread. At last check, this spread was offered at 10 cents, or $10 per pair of contracts. Breakeven lies at $7.90, while a maximum profit of 40 cents, or $40 per pair of contracts, is possible if AA stock closes at or below $7.50 when January options expire at the end of next week.
Call Spread: On the other hand, with AA near oversold levels and the company making moves to cut losses, there is the possibility of a bullish post-earnings reaction. In such a case, there is plenty of sideline money that could be brought to bear on Alcoa stock, potentially pushing the shares higher than implieds are expecting and creating an opportunity for those traders willing to take a risk.
Along those lines, the Jan $8.50/$9 bull call spread has plenty of potential. At last check, this spread was offered at 19 cents, or $19 per pair of contracts. Breakeven lies at $8.69, while a maximum profit of 31 cents, or $31 per pair of contracts, is possible if AA stock closes at or above $9 when January options expire.
As of this writing, Joseph Hargett did not hold a position in any of the aforementioned securities.
