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IBM Preview: 2 Trades for IBM Stock Ahead of Earnings

International Business Machines Corp. (NYSE:IBM) is facing considerable bearish blow-back as the company’s first-quarter earnings report draws near. IBM is slated to post its performance from the most recent quarter after the close on Monday, with Wall Street forecasting a 6.3% rise in earnings to $2.85 per share and a 12.2% decline in revenue to $19.75 per share.

ibm earnings stockNormally I like to warn that guidance is the key for a strong reaction from company stock facing an earnings report, but IBM really needs to fire on all cylinders to prove it is still relevant in the technology sector.

Why? Because IBM has seen revenue fall for three straight years as the company’s enterprise software business model is undermined by smaller, more nimble cloud-based operations.

Not only has IBM has been slow to counter these upstarts, it has also been slow to diversify into cutting-edge technologies, such as multi-billion dollar market of the Internet of Things (IoT). In fact, IBM only recently made a pledge to shareholders that it was taking the IoT seriously, pledging $3 billion toward research in late March.

It should come as no surprise, then, that Wall Street has very little confidence in IBM’s prospects. In fact, data from Thomson/First Call reveal that only three of the 25 analysts following IBM stock rate it a “buy” or better, compared to 18 “holds,” and four “sell” ratings.  Furthermore, the 12-month price target for IBM stock rests at $160 — a discount to yesterday’s close at $164.13.

IBM is also getting bearish feedback from the short-selling community. During the most recent reporting period, the number of IBM shares sold short spiked by 15% to total 27.9 million shares. This accumulation of shorts accounts for 2.8% of the stock’s total float and would take nearly six days at IBM’s average daily trading volume to buy back. As a result, IBM is now the third most-shorted stock on the Dow Jones Industrial Average.

Short sellers don’t appear to be worried about a post-earnings rally for IBM either, as the stock’s April/May put/call open interest ratio currently rests at 1.03 as put open interest is in near parity with call open interest among short-term options. This ratio dips slightly to 0.88 in the weekly April 24 series, but traders should take this data with a grain of salt, and open interest levels in this series could shift sharply as IBM’s quarterly report nears.

04-16-2015 IBM
Click to Enlarge
 Overall, weekly April 24 series implieds are pricing in a potential post-earnings move of about 3.8% for IBM. This places the upper bound at $171.27, while the lower bound rests at $158.73. Given that a decline could push IBM below key technical support at $160, and a rally has the potential to push IBM past key resistance at $170 (home to IBM’s 200-day moving average), it is possible that implieds are underestimating IBM’s potential volatility.

2 Trades for IBM Stock

Put Spread: Usually when I see this much pessimism levied against a stock I tend to look for a contrarian angle for a trade. With IBM’s poor price action over the past year, and the company’s slow reaction time within a fast moving high-tech marketplace, I’m not convinced that IBM will offer anything spectacular with next week’s quarterly report. As such, I’m leaning toward a bear put spread ahead of the event.

Traders siding with the bears might want to consider a May $155/$165 bear put spread. At last check, this spread was offered at $3.78, or $378 per pair of contracts. Breakeven lies at $161.22, while a maximum profit of $6.22, or $622 per pair of contracts, is possible if IBM closes at or below $155 when May options expire.

Call Sell: If betting directly against IBM stock isn’t your style, you might consider entering a weekly April 24 series $180 strike call sell position. Such a trade is especially useful if you already own IBM stock, as it allows you to offset some of your portfolio losses in the event of a sell-off, but also allows you exposure to any upside up until the stock trades at or above $180.

At last check, this option was bid at 13 cents, or $13 per contract. A sold call allows you keep the premium as long as IBM stock closes below $180 at expiration. On the downside, if IBM rallies above $180 prior to expiration, you could be forced to provide 100 shares at IBM’s current market value for each call sold, which could be quite costly if you do not have enough IBM stock on hand to cover the call.

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

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Article printed from InvestorPlace Media, https://investorplace.com/2015/04/2-trades-for-ibm-stock-ahead-of-earnings/.

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