McDonald’s Earnings: Make Money With Just a Little Wiggle

by Joseph Hargett | July 19, 2013 9:30 am

McDonald’s (MCD[1]) is scheduled to serve up a side of second-quarter earnings bright and early Monday morning, but how rosy Wall Street’s response will be is up in the air.

Wall Street is expecting McDonald’s earnings to rise 5.7% to $1.40 per share from $1.32 per share in the same period last year. Revenue, meanwhile, is seen coming in at $7.10 billion, up from $6.92 billion a year ago.

The blue-chip fast-food expert has seen its earnings and revenue pressured during the past year. Specifically, net income has slipped by an average of 3% year-over-year during the past four quarters, plunging by 6% during the most recent quarter. Additionally, revenue had declined an average of 1% year-over-year during the same period.

Despite the weakness, analysts still are quite bullish on McDonald’s prospects. For instance, data from Thomson/First Call reveals that the stock has attracted a hefty 17 “buy” ratings, compared to 11 “holds” and just one “sell” rating. That said, the consensus 12-month price target rests at $106.64 — a premium of only about 6.5% to yesterday’s close.

Turning to the options pits, traders appear to be a bit call heavy heading into Monday’s trip to the earnings confessional. Overall, call open interest stands at 39,024 contracts in the August and September series of options, compared to 29,341 put contracts. The result is a slightly bullish put/call open interest ratio of 0.75.

Options traders are paying close attention to the 100 and 105 strikes, with peak call open interest totaling 7,821 contracts at the September 105 strike and 7,061 contracts at the September 100 strike. On the put side, peak open interest totals 4,700 contracts at the September 97.50 strike, while 2,667 contracts are open at the August 100 strike.

Drilling down on August options activity reveals that implieds are pricing in a post-earnings move of about 3.3%. This places the upper bound for a post earnings rally at $103.30, while the lower bound lies at $96.70.

These levels correspond nicely with MCD’s recent price action. The stock has shown building support near $96, an area that has helped contain pullbacks since March. This region also is home to MCD’s rising 200-day moving average. Meanwhile, resistance lies at MCD’s April highs near $104.

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Technically speaking, the stock has pulled its 10- and 50-day moving averages into a bullish cross, though any potential rally from this formation could be slow in building unless the company reverses its current slowdown in revenue and earnings growth.

For those looking for a pre-earnings trade, MCD is historically not a big post-earnings mover. Furthermore, while the stock has shown solid growth, recent activity reveals MCD might be a bit top-heavy. Nonetheless, there appears to be quite a bit of complacency toward the stock.

As such, your best bet might be to take advantage of technical support in the $96 region and enter an August 92.50/95 bull put spread.

This spread was bid at 19 cents, or $19 per pair of contracts, at the close of trading on Thursday. The maximum profit is limited to the initial credit received, while a maximum loss of $2.31, or $231 per pair of contracts, is possible if MCD closes at or below $92.50 when August options expire.

If you are looking for a bullish trade, buying a straight at-the-money August 100 call would have set you back $1.74, or $174 per contract, at the close yesterday. Such a trade would need MCD to rally about 1.6% to reach breakeven.

You could improve your odds and lower your risk by entering an August 100/105 bull call spread instead. At the close Thursday, this spread was offered at $1.53, or $153 per pair of contracts, lowering breakeven to a 1.3% gain versus a straight August 100 call. A maximum profit of $3.47, or $347 per pair of contracts, is possible if MCD closes at or above $105 when August options expire.

As of this writing, Joseph Hargett did not hold a position in any of the aforementioned securities.

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