It’s no secret that the retail sector stocks have been decimated by Amazon.com, Inc. (NASDAQ:AMZN). But it’s not like they didn’t have time to prepare. This phenomenon has been a decade in the making, yet brick-and-mortar retailers chose to wait until they actually incurred the vicious damage before they acted.
Some retailers still managed to thrive though, and although the recent price doesn’t show it, Ulta Beauty Inc (NASDAQ:ULTA) is one of those few who have not been hit hard in the age of AMZN.
This week on Amazon Prime Day, the retail sector fell off a cliff. On Tuesday ULTA fell 5% on fears that margin pressures in retail will persist and possibly get worse.
Click to EnlargeFundamentally, ULTA stock is expensive compared to the sector in general. But its price-to-earnings ratio is within reach of the successful retailers like Costco Wholesale Corporation (NASDAQ:COST) and Starbucks Corporation (NASDAQ:SBUX). So from that perspective, it’s not that bloated.
I compare the value in ULTA stock to COST or SBUX because their price action over the past few years is still constructive. Whereas that of, say, Macy’s Inc (NYSE:M) has been a never-ending drain circle.
Unfortunately, the most recent retail stock tizzy hit Ulta Beauty at a time when it was technically vulnerable, so the downside momentum is making it hard to stabilize on this dip. The last time it dipped in May, the buyers stepped in on an earnings headline so they had reasons to buy quickly. This time and with the lack of a trigger, they are taking their time.
ULTA Salon is now over 15% lower than its peak just a few weeks ago. Although the correction was fierce, the stock is still flat over 12 months and up over 40% over 18 months.
Ulta Beauty is a momentum stock that inspired awe on the way up. Now it’s causing panic on the way down. I want to use options to bet that the fears will abate.
The $245 per share is an area has served as a pivot point so it should provide some temporary support. Stronger still would be $230 per share where it was the roof that the bulls destroyed in May of 2016. It has also been tested twice since (September and November of 2016).
ULTA Stock Trade Idea
The Bet: Buy the ULTA Sep $255/$260 debit call spread for $2.50. A move above my strike would double my money. The faster this happens the better. Management reports earnings in August so this trade would capture any reactive moves off the report. They usually beat expectations, so this should improve my odds of success.
I usually like to lower my out-of-pocket risk by financing it from selling downside premium.
The Bank: Sell the ULTA Sep $210 put and collect $2.60 to open which has a 90% theoretical odds of success. It is important to note that if price falls below $210, I will own it and accrue losses below $207.4.
If Ulta Beauty stays above $210, then any premium that I recover from selling my calls would be pure profit since my cost is from a zero base.
Investing carries risk, so I never want to take trades that could crush my portfolio.
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.
