Snap Inc (NYSE:SNAP) has spurred a heated debate on how to not do an IPO. It doubled at first only to crash shortly thereafter. Experts are merely guessing as to what the real potential is for SNAP stock, so I consider this a speculative bet in a conservative portfolio.
The description of the company says: “Snap Inc., formerly Snapchat, Inc., is a camera company.” Management made a colossal mistake with this. They pegged themselves as another GoPro Inc (NASDAQ:GPRO).
Furthermore, they put themselves against every camera in every cell phone on the planet. So, in essence, they are competing with Apple Inc. (NASDAQ:AAPL) and Alphabet Inc (NASDAQ:GOOG). I’ve yet to see a single pair of Snap glasses on the street where I live in a techie part of the country.
Last night, management reported earnings and Wall Street hated it. The stock fell 20%. SNAP missed on revenues and user metrics. Coming into it the options markets suggested extreme exuberance.
When that happens and the company disappoints, the punishment usually is harsh. There is also the issue of traders not liking the personalities that deliver the news — management sounds smug.
Coming into the earnings, Snap stock was down 38% year-to-date. So even if it rallies here there will be many technical hurdles along the recovery. So you’d think that I am prepping for a bearish trade today. No, I am sharing a bullish setup but one that doesn’t need a rally to win.
Fundamentally, since I don’t have tangible value from the price-earnings perspective I’d have to bet on the price action. Price-book is over 11, which is not cheap. So if price goes completely against me and I end up owning the shares, I’d have to manage that scenario tightly to avoid losses. I am comfortable with that, so this is a risk I am willing to take.
As SNAP was falling 20% last night, I was thinking maybe it gets cheap enough to kindle talks of a buyout. Sure enough, this morning we learn that China internet giant Tencent (OTCMKTS:TCEHY) took a 10% stake in Snap Inc. While it’s not obvious as to how this is strategically good for SNAP stock, it does place a bid below the stock. And therein lies my thesis.
Expectations are all over the map. I would not put any stock in expert opinions because nobody really knows what SNAP stock is likely to do over the long term. So I keep my trading of it as bets against the shorter-term price action, not its fundamentals.
Even after this dip, it is now still trading within the price target expectations. Some analysts expect $8, others $30 and the average is $14. And with a “hold” rating on the stock, their opinions are useless to me.
Hatred for SNAP was fierce on its last test in August so I would consider it as a solid floor. This week we get to see if that’s true. Here we are just above it.
Click to Enlarge The bears needed new ammunition to take it lower and management delivered. This earnings miss was a surprise to all so now they need to reset their expectations lower.
Against all these negative comments here, today I want to bet long the stock by selling against those fears.
How to Trade SNAP Stock Here
The Bet (emphasis on “bet”): Sell the Jan $11 put and collect 60 cents to open. This is a bullish trade that has an 80% theoretical chance of winning. Otherwise, I have to own the stock and will compile losses below $10.40.
To mitigate this risk you’d be better off selling a spread instead of naked puts, where the risk is more finite.
The Alternative: Sell the Jan $11/$10 credit put spread. This, too, is a bullish bet but with less risk. Yet, if successful, the spread still yields 35% on risk.
Investing doesn’t come with guaranteed results, 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.