Trade Chipotle Mexican Grill, Inc. (CMG) Stock While It Bombs

Advertisement

Just when we thought that Chipotle Mexican Grill, Inc. (NYSE:CMG) was getting out of the penalty box, it trips anew. Monday after hours the stock fell 2% as management warned that things aren’t going as well as they thought.

Trade Chipotle Mexican Grill, Inc. (CMG) Stock While It Bombs

Source: Shutterstock

It’s taken months for CMG to finally stop the slide that the food disaster caused. Evidence was a 35% rally that started in December. But since May, it’s given back over 10% of it.

That partial giveback alone is not concerning enough for me to put it back in the penalty box. But last night’s flag from management could be a game changer. They told us that operating costs will be higher than anticipated, so I am guessing that they are still spending to entice traffic.

There was a time when CMG customer lines came free. Now it seems they overspend on promos. The health scare was devastating to the victims, but it also crippled Chipotle’s stock. I bet it will never go back to what it once was. They simply need to find the new niche.

The good news: The rally off the $380 area was emphatic enough that it states that Chipotle stock was too low there. We also now know that $500 was also incorrect so somewhere in the middle lies the truth. Here we are with CMG down 6% and near $431, which is the mathematical balance between two recent extremes. So going long here for a trade cannot be too big a mistake.

I am not going to risk $431 buying the stock outright. I will however use options to sell risk in CMG against fears that are not likely to materialize. No, I am not a perma-bull in fact my last trade was a bearish one for CMG.

Fundamentally, CMG stock has never been cheap, with a price-earnings ratio of 131. So I am not going long value. But rather I am betting on the price action pure and simple. If CMG stock falls 20%, I am willing to temporarily own the shares. So I will sell puts for the opportunity to generate income from these undue fears.

With this news bit from management, analysts will downgrade CMG stock. The saving grace is that most of them already have it as a hold.

The Bet: Sell the CMG Sept $345 put for $1.92 to open. Here I have a 90% theoretical chance of retaining maximum profit. But if price falls below my strike, I have to own the shares and could suffer losses below $343.08.

Selling puts on a stock as expensive as CMG is risky and not suited for most investors, but I can accomplish the same goal using spreads instead. There the risk is limited to the width of the spread less what I collect.

The Alternate: Sell the Sept $350/$345 CMG credit put spread, where I have a fraction of the risk yet still can yield 12%.

It is important to note that, in either of these cases, I don’t need a rally in CMG stock. I merely need price to stabilize and stay above my risk. Compare that with risking $440 buying the shares then hoping for a 12% rally just to match the performance of the spread.

Selling options is risky business, so I won’t risk more than I’m willing to lose.

Learn how to generate income from options here. Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @racernic and stocktwits at @racernic.

Nicolas Chahine is the managing director of SellSpreads.com.


Article printed from InvestorPlace Media, https://investorplace.com/2017/06/trade-chipotle-mexican-grill-inc-cmg-stock-while-it-bombs/.

©2024 InvestorPlace Media, LLC