Nvidia Corporation (NASDAQ:NVDA) reports its fourth-quarter earnings after Thursday’s close. Wall Street expects profits to more than double to 84 cents per share, and revenues to balloon by 50% to $2.11 billion. However, while the top and bottom lines continue to grow, the price of NVDA stock has risen exponentially faster.
In fact, it has become a case of too far, too fast for NVDA. So unless the graphics chip specialist has an absolutely blow-out quarter, I look for Nvidia stock to have difficulty moving appreciably higher.
Nvidia was one of the best performing stocks of 2016, gaining almost 225%. Importantly, though, the price-to-earnings multiple expanded at a much faster rate, fueling much of the rally, and now stands at its highest level of the past five years.
NVDA stock is shaping up as a battle between momentum and value.
A look at the price-to-sales metric paints an even more euphoric picture of Nvidia’s valuation. The 11.6 ratio is 5.8 times that of the S&P 500 — and the S&P 500 is trading at a historically rich ratio.
NVDA stock is priced for perfection indeed.
Peer group analysis reaffirms the extreme valuation multiples for NVDA. On every metric — earnings, book, sales, cash flow and yield — Nvidia stock is trading at a huge premium to its peers, the market and also its own five-year averages.
Many analysts are voicing valuation concerns as well. Brian Alger of Roth Capital Partners just lowered his rating to “Neutral” from “Buy” and gives the stock a price target of just $120 — while that’s a big upgrade from $95, it’s only a couple percent higher from here. BMO Capital Markets and Susquehanna also have “Neutral” ratings on NVDA stock with price targets well below Monday’s $117.31 closing price.
NVDA Stock Charts
Click to Enlarge From a technical analysis perspective, NVDA stock is trading right at the all-time highs following an explosive 15% rally since bottoming on Jan. 18.
With earnings looming Thursday, it will be interesting to see how the stock reacts at such a critical juncture.
As I mentioned earlier, NVDA boils down to the classic momentum-versus-value argument. So far, the momentum camp has been the clear winner, with stock performance and valuations both reaching extremes.
In my previous post on Facebook Inc (NASDAQ:FB), I argued that it would take a huge beat to propel FB higher based on valuation. Facebook reported a big beat, yet the stock still fell.
Similarly with Nvidia, I think you could see a case of an earnings beat and a tepid reaction in NVDA stock.
Implied volatility (IV) is ridiculously cheap in front of earnings, trading at only 21% IV, so option buying strategies are favored.
How to Trade Nvidia Stock Here
Buy NVDA 10 Feb $132 puts and sell NVDA 10 Feb $130 puts for a 70 cents net debit.
Maximum loss of the trade is $70 per spread with a maximum gain of $130 per spread. Return on risk is 185%.
Ideally, NVDA stock closes below $130 on expiration for the maximum gain.
As of this writing, Tim Biggam did not hold a position in any of the aforementioned securities. Anyone interested in finding out more about option-based strategies or for a free trial of the Delta Desk Research Report can email Tim at tbiggam@deltaderivatives.com.
Tim spent 13 years as Chief Options Strategist at Man Securities in Chicago, four years as Lead Options Strategist at ThinkorSwim and three years as a Market Maker for First Options in Chicago. Tim makes weekly appearances on Bloomberg TV “Options Insight”, Business First AM “Trader Talk”, TD Ameritade Network “Morning Trade Live” and CBOE-TV “Vol 411” to discuss everything from volatility and option related.
