I feel like a bum picking through trash … The retail stock trash bin, that is. Today I will share a bullish Best Buy Co Inc (NYSE:BBY) trade, but before you reserve me a spot in the insane asylum, I will not buy the stock outright and hope for a rally. Instead, I will use options to bet that the company has some qualities and that the bears will limits in the medium term.
This is not to say that I see rosier pastures for BBY. In fact I’ve been long-time bearish on it and outspoken with my opinion. I think that they are at an extreme disadvantage not only to the all-mighty Amazon.com, Inc. (NASDAQ:AMZN), but to all e-shopping trends in general.
I’ve seen experts present the argument that BBY is ramping its own online sales volume as a sign that they have solved the riddle. To that, I counter that a large portion of the increase is due to store cannibalization. They are mostly shifting sales from their stores to their site.
Click to Enlarge I’ve personally been there twice recently and both times I was ready to buy but the sales assistants suggested that I check for cheaper prices online so they can match that. Great service you say?
Sure, I loved it. But terrible for BBY business since I didn’t even plan on shopping my purchase around. One of them even used her cell phone to do it for me.
Fundamentally, traders were too optimistic since they had BBY trading at a 14 price-to-earnings ratio coming into this earnings report. It sounds cheap, but not when I can buy the best company on the planet Apple Inc. (NASDAQ:AAPL) for 18 price-to-earnings ratio. AAPL is not a comparable competitor but it stands to show relative value for my money.
You’ve heard of the Wall Street phrase cautioning against catching falling knives. Well, this setup is a prime example of that, but where the knife is a machete with a tiny handle. Meaning it’s a speculative trade and should be kept to a size that won’t break the piggy bank. Use today’s fear to sell high premium in BBY.
Technically, traders got overzealous over BBY’s last earnings in May. This time around, they completely priced the entire 24% rally out. Now it’s back in balance from a medium-term perspective. I have to be cautious because from a long-term trend, BBY could have more to fall within its reversion to the mean channel. Although it’s not forecast that it will continue falling, I have to make room for it in my trade.
BBY Stock Trade Idea
The Bet — And This Is a Pure Bet: Sell the BBY Jan $39.55 put and collect 55 cents to open. Here I have an 85% theoretical odds that the price will stay above my strike so I can keep maximum gains. Otherwise, I own the shares at that price and would accrue losses below $39.
To mitigate the naked put risk, I can sell a spread instead.
The Alternative Bet: Sell BBY $41.55/$39.55 credit put spread which has about the same chances of winning and would yield 12%.
In either of these setups, I build a sizable buffer just in case the bears are not finished beating the stock down. This is the advantage of using options; I can leave room for error so I don’t have to be perfect with my timing.
Investing in the stock market carries risk, so I never bet more than I 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 as @racernic on twitter and stocktwits.
