In many ways, stocks are like springs; the tighter you coil them up, the more explosive the uncoiling action is once it begins. The only difference is, for stocks, the coiling consists of (1) time, and (2) a lack of movement when a stock should be moving.
One of the market’s most compelling coiled springs right now is Activision Blizzard (Nasdaq:ATVI) – the video game designer that’s put out blockbuster titles such as the Guitar Hero series, the Call of Duty franchise, and World of Warcraft. The stock’s been stuck in a narrow trading range since mid-2009, and for that matter is right where it was in late 2007 before anybody truly realized a recession had begun.
However, it’s the last 24 months that have really set up what could be a major bullish move from ATVI.
In simplest terms, the stock has been getting squeezed into a narrower space by the combination of a falling resistance line, and a rising support line. Traders commonly refer it as a wedge, or a triangle. Either way, the outcome is the same – since these two lines are on converging paths, eventually, ATVI will be forced past one line or the other. Once that happens, the odds are good it will make up for lost time by making up a lot of ground in a hurry.
And, the odds seem to favor a bullish outcome in this scenario.
For Activision Blizzard, the underlying numbers are surprisingly strong. Though the slide from a peak price of $19.28 in mid-2008 to a low of $8.14 in early 2009 would imply a catastrophic decline in earnings, in reality, Activision made more profit per-share in 2009 than it did in 2008, and more profit in 2008 than it did in 2007, before the Blizzard merger. You get the idea.
But what about the recession and the lack of blockbuster games in that period? While it was true the economy was lousy at the time, assumptions that Activision would struggle were, well, plain wrong. In fact, the company has posted earnings growth every year since 2006, with 2010’s per-share earnings of 79 cents being a record-breaker.
Astute investors as well as current shareholders of ATVI, however, are all too aware that the growth hasn’t helped the stock’s price one iota. That’s how the wedge shape developed in the first place.
Valuation isn’t the problem either. Headed into this week, ATVI shares were trading at 13.6 times their trailing 12-month earnings, and 15.7 times their forward-looking 12 month earnings. For comparison, competitor Take-Two Interactive (Nasdaq:TTWO) is priced at 42.1 times its projected 12-month earnings, which are still shrinking. Electronic Arts (Nasdaq:ERTS) has managed to start growing earnings again after they dwindled between 20005 and 2009. But, with the stock trading at a forward-looking P/E of 26.8, the company needs a whole lot more earnings growth to get its stock price in line with ATVI.
And here’s the salt in the wound – shares of Take-Two Interactive as well as Electronic Arts have posted big gains over the last few months, while Activision’s stock remains mired between a rock and a hard place. That takes us back to the original message…
ATVI may be getting squeezed into the tip of a technical wedge, but it’s one of the very best stocks inside and outside of the video gaming group. The fact that it’s been range-bound for so long may be more psychological than anything else at this point. As such, once the upper edge of that triangle – currently at $12.05 but falling a little every week – is breached, that may be all the catalyst the stock needs to jumpstart a long-overdue, multi-point run. The company has certainly been doing its part to justify a higher share price in the meantime, making this something of a ‘perfect storm’ situation.
