Red Hat Shares Poised for Earnings Pop

Call options could be a profitable strategy

The earnings calendar is unusually busy this week, with a number of big names on the schedule. Any time you can find Nike (NYSE:NKE), FedEx (NYSE:FDX), and Oracle (NASDAQ:ORCL) in the same week, things could be interesting.

One of the smaller names on the docket this week is Red Hat (NYSE:RHT). The open-source business software maker reports on Wednesday after the close.

Analysts expect RHT to post earnings of 24 cents a share, a 33% increase from a year ago. That’s in line with the growth seen last quarter. RHT hasn’t missed an earnings estimate in — well, we’re not really sure. Our data goes back more than six years, and we haven’t seen the company come up short yet.

The stock usually performs very well after these solid earnings reports. In the past four quarters, the shares have gained ground three times, popping an average of 10% in the day following each report. The one loss was modest – just 2.5% in the subsequent day.

RHT’s chart shows a stock in the midst of a strong one-month run after the shares hit a 52-week low in mid-August. Since then, the stock has added more than 25%, taking out its 20-day and 50-day moving averages in the process. But there’s plenty of room to run higher. The stock’s 2011 high around $48 represents about 20% of upside potential.

RHT’s business model of providing inexpensive software platforms has resulted in a steady rate of growth and a track record of beating analyst earnings expectations. The problem with this growth is that expectations feed off themselves and become greater. But while expectations for RHT are high, they haven’t yet reached an onerous level. Growth projections are still in line, and the stock is well off its highs and the average analyst price target is around $48.

With a record of beating expectations, we believe the stock has more upside potential this week. Buy the October 40 call for three bucks or less.

Have a great trading week.


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