Brick-and-mortar retailers have been an easy short for the past few months. However, Abercrombie & Fitch Co. (NYSE:ANF) is mounting a revenge rally early Thursday, putting the hurt on those who shorted its earnings event. And if you weren’t long before this morning’s double-digit romp, fear not — you can (and should) still go long ANF stock from here.
Abercrombie management delivered better-than-expected results, which while not good, were at least less bad.
On an adjusted basis, a 16-cent loss was far more positive than the 34-cent deficit Wall Street analysts were forecasting. Revenues of $779.3 million also beat the Street. Comparable-store sales declined just 1%, weighed down by its legacy Abercrombie brand but at least partially offset by 5% growth in comps at Hollister.
ANF did mention that they’ll likely go heavy on promotions, which is code for continued challenging margins.
Thus, I won’t be chasing the rally outright today. However, I do need a speculative retail trade, so I’m going to bet that recent lows in ANF stock will hold as support for the next few months. I’ll use options to sell downside risk against said support, and if I’m right, I’ll create income from thin air.
Fundamentally, Abercrombie still runs at a loss. But its price-to-book of 0.5 is much lower than competitors like Tilly’s Inc NYSE:TLYS) and Gap Inc (NYSE:GPS). This also suggests that it can’t be a massive mistake to own the shares under $9 per share.
Click to Enlarge Technically, I don’t like to bet on stocks that have been setting lower highs for years. Abercrombie stock has fallen more than 70% in five years, so I don’t plan on staying in this trade too long. Moreover, I will have a tight stop in case things go wrong.
I say this because after the last two earnings pops, ANF shares gave it all back and then some. The stock fell an additional 30% between the previous earnings report and this one. Thus, the tape has not always been kind to those who have chased rallies late.
Since I don’t have actual value against which I can sell the risk, I will instead aim for 2017’s lows, plus an extra buffer. That will create room for error so I’m not hurt too badly if this pop fizzles. All I need is Abercrombie to stay above my strike prices to win.
How to Trade ANF Stock
The Bet (Yes, This Is a Bet): Sell the Jan 2018 $8 put naked and collect 65 cents per contract to open. This is a bullish trade where I have a 75% theoretical chance of success. But if price falls below my strike, I must own the stock and could suffer losses below $7.35.
To mitigate the risk that comes with selling naked puts, I can sell a spread instead.
The alternate bet: Sell the Jan 2018 $8/$7 credit put spread, where I have the same odds of success but with limited risk. The spread, if successful, delivers about 20% in yield.
In either case I don’t need a rally to win. I can take full profit as long as ANF stock merely stays above $8 per share through expiration.
Investing in the stock market doesn’t come with guaranteed results, so never risk more than you can afford to lose.
Learn how to generate income from options here. Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @racernic and stocktwits at @racernic.