Don’t get me wrong. I think Amazon.com, Inc. (NASDAQ:AMZN) is a great company. It is the Vampire Squid of the internet commerce space, devouring everything in it way. I just don’t like the stock price at these levels. Given the near-parabolic ascent of the recent rally, I expect AMZN stock to pull back from these extremes.
It is important to remember that the last earnings report showed a pretty big miss on revenues, with $43.74 billion in sales versus expectations of $44.68 billion.
Guidance was also lowered to a range of $33.25 billion to $35.75 billion compared to a previous guidance of $35.95 billion.
While sales have grown 27% over the past year, the stock price has risen nearly 50% in that same time frame. This means the price-to-sales ratio has nearly doubled over the past year, driving the price-to-sales ratio to 3.2. This is the highest level since 2005 and well above the five-year average of 2.2.
Amazon is now the fourth-largest company in the U.S with a market cap of $425 billion. As a comparison, Wal-Mart Stores Inc (NYSE:WMT) sports a market cap of $220 billion, meaning AMZN stock is being valued at almost twice the level of WMT. Yet Walmart had $482 billion in revenue in 2016 versus only $136 billion for Amazon.
So AMZN stock is twice the price with only 28% of the sales … tough for such a huge company to grow into such an extreme multiple. Law of large numbers is definitely beginning to apply to Amazon.
I realize that investors in AMZN ignore fundamentals, even as crazy as they have gotten. After all, Daniel Salmon of BMO Capital Markets recently raised his target price for Amazon to $1,200 — more than a third higher than current levels.
A look at the technicals paints a similar overextended picture, though. AMZN stock is now the most overbought on a nine-day RSI basis that it has been over the past year with a reading well over 80. Previous times when Amazon approached the 80 level proved to be important short term tops in the stock price of Amazon.
Click to Enlarge Amazon has also been up six days in a row, rising nearly 60 points off the March 27 low of $833.50. While normally fairly correlated to the Nasdaq 100, AMZN has diverged sharply over the past week, outpacing the broader market by 5%.
I look for this spread to converge somewhat and for AMZN stock to be a relative underperformer.
So with AMZN stock extended on practically every metric, a short-term bearish trade makes probabilistic sense. With implied volatility (IV) at the 44 percentile, selling an out-of-the-money call spread is the optimal way to position bearishly.
AMZN Stock Trade Idea
Buy AMZN Apr $920 calls and sell AMZN Apr $915 calls for a $1.20 net credit.
Maximum gain on the trade is $120 per spread with maximum risk of $380 per spread. Return on risk is 31.6%.
As of this writing, Tim Biggam did not hold a position in any of the aforementioned securities. Anyone interested in finding out more about option-based strategies or for a free trial of the Delta Desk Research Report can email Tim at firstname.lastname@example.org.