Square Inc (NYSE:SQ) stock is down 25% off its highs in November, but let’s not break out the violins yet since it’s still up 155% on the year. It has fallen out a little out of favor on Wall Street. Recently the stock fell when Morgan Stanley reiterated its equal-weight rating on it even though they raised their price target.
And there lies the opportunity.
Since nothing has changed in SQ fundamentals or the macroeconomic situation, then I attribute the dip to a rising star stock resting after a meteoric rise. So on this dip, I want to add to my long exposure.
No, I won’t risk $35 per share with no room for error; the stock markets are at all time highs after all. Instead I will use options, where I can create a moat around my trade.
Square is a momentum stock and those can be tricky to trade. They move so fast that most investors are scared out of trading them for fear of being too early or too late. I use options, where I can structure my risk in a way to reduce my need to be surgically perfect in my entries.
Fundamentally, Square stock is definitely not cheap especially when you compare it to Visa Inc (NYSE:V), Mastercard Inc (NYSE:MA) and Paypal Holdings Inc (NASDAQ:PYPL). But then again, SQ is up 160% while V and MA are only up 40% and PYPL 80%. So investors in SQ got what they paid for.
This holiday season we got confirmation that spending migration to online is accelerating exponentially, so the future for the sector is rosy. Furthermore, the popularity of blockchain or fin-tech adds to the confirmation of the trend. That means the microeconomics of SQ stock remains healthy.
Click to Enlarge Technically, the stock is near a two-month pivot zone and fast approaching a trend line. Those tend to be sticky, as both sides usually want to fight hard for them, thereby creating a stall in the downside momentum. My strategy is to sell downside risk below support and if SQ holds above it, I would create income out of thin air. Otherwise, I would need to own the shares at a discount, which is something I don’t fear.
Management will report earnings in a couple of months and I bet that they will tell us of good things to come. So temporarily owning the stock at an 17% discount from here is an acceptable scenario for my portfolio.
SQ Stock Charts
The Bet: Sell the SQ Feb $29 put and collect 70 cents per contract to open. Here I have a 85% theoretical chances that the price will stay above my level. Else, I will accrue losses below $28.30.
Selling naked puts carries big risk, especially for a stock as expensive and as volatile as this. For those who want to mitigate it, they can sell a spread instead.
The Alternate Bet: Sell the SQ Feb $29/$28 bull put spread where I have the same odds of winning. Then the spread would yield 25% on risk.
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.