Far from the reaction to the Target Corporation (NYSE:TGT) earnings, Wal-Mart Stores Inc (NYSE:WMT) reported earnings and Wall Street loved what they saw. WMT stock is up 4% on the headline as it beat expectations and raised future guidance. So it would seem that the trader optimism for this stock is alive and well.
In a sector that has been decimated by Amazon.com, Inc. (NASDAQ:AMZN), Walmart is a star.
Coming into the earnings report, WMT stock had been 30% year-to-date. This is an extreme out-performance to the sector. Compare it to the SPDR S&P Retail (ETF) (NYSEARCA:XRT), which was down 10%, or Target, which is down 25% for the same period.
Fundamentally, WMT is not cheap, but given the stock performance one could argue that it’s justified and traders will overlook that fact. After all, you get what you pay for. Cheaper stocks have performed terribly while this one rewarded its investors well. So it’s clearly not expensive from that perspective.
Technically, WMT stock just set a new high. The last time it had been at this level was back in January of 2012. So it took the bulls almost five years to recover from a long swoon. Those are often powerful breakthroughs. My small concern is that there might be investors who have been trapped for a while and they may choose to exit at the first sign of trouble.
Is WMT Stock Worth the Risk?
Today’s thesis is for someone who wants to get on board long WMT stock after realizing that it is somewhat late in the party.
I do have a concern for WMT and that is from the expectations that traders now have in the stock. It is possible that the market expects so much goodness to come that there is surely a disappointment dip coming. Therefore, instead of buying the shares today in my bullish trade, I will use options. There I can build a moat around my risk just in case Wall Street changes its mind about it.
So why do I expect a disappointment? I hear experts talking of innovation and new things that WMT is doing, which warrants it that premium in the stock price. Well, I personally shop at the stores and I have yet to see an improvement to my shopping experience. Store stock is still poor and customer service … Well let’s not say anything if we can’t say anything good about people.
The bottom line is that unless all the changes are behind the scenes that will improve the bottom line. I see nothing new that either makes me spend more, or improves my experience so that I visit more often. If they don’t get the growth they anticipate, analysts may eventually need to dial the enthusiasm down a bit.
Currently, Walmart stock is trading at $94 and 6% above the Wall Street average price target. It is much closer to the top of the range than the bottom. So on paper, much of the run is over unless the experts slide the range higher.
But I really don’t care as long as I choose proper support levels behind which I can sell my risk. Besides the thesis is that I want to own the shares, but I want them at a discount if possible.
The Trade: Sell the WMT Jun 2018 $80 put and collect $1.25 to open. Here, I have an 85% theoretical chance of winning, but if the price falls below my strike ,then I accrue losses starting at $78.75.
Selling naked puts carries big risk, especially in a stock at all time highs. For those who want to mitigate it, they can sell a spread instead.
The Alternate Trade: Sell the WMT Jun 2018 $80/$77.50 credit put spread, which would deliver over 10% in yield but with much smaller risk. Both set ups have about the same odds of success and neither require a rally to win.
Ultimately, regardless of how careful I am, investing in stocks is fraught with danger, so I never risk more than I am willing to lose
Get my newsletter for free 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.