Chipotle Mexican Grill, Inc. (NYSE:CMG) has yet to recover from its headline difficulties. Just yesterday, a new health-related headline broke out and CMG stock fell 4% in minutes. This once Wall Street darling is now a broken thesis of what was a hip restaurant with superior food.
There was a time when Chipotle stock delivered impressive comparable sales percentages and investors flocked to it like bees on honey. But a few years ago, people got seriously sick from their food and not just once. The problem persisted and sporadically resurfaced, so CMG stock fell off the $750-per-share levels to a recent low of $270. Management could have managed the outbreaks better and traders spoke with their bids or lack-there-of.
All along the way, Chipotle stock still had its fans, but I knew it would never recover its shining star status. Yet, I continued trading it from the bullish side on every dip same as I am doing today. I want to profit from what others fear and sell downside risk into support. This way I can generate income through options.
How to Trade CMG Stock
I am not buying CMG stock outright, as I don’t believe in it enough to risk $300-per-share without any room for error. My set up will not even need a rally to profit. all I need is for the price to stay above my risk and I retain maximum gains.
Otherwise, I could end up owning Chipotle stock at a discount.
Fundamentally, the CMG stock’s price-to-earnings is much more reasonable now, but it’s definitely not cheap. It’s still near 60, which is high in relative and absolute terms.
Analysts are mostly in a holding pattern on Chipotle stock, which is understandable. On this dip, there could be a few downgrades, but I bet they continue to wait and see as price hovers below their average price targets. What I would expect is a reset of the upside price expectations. So there is risk going long now, but that’s why there is a reward and that is also why I leave much room for error.
The Bet: Sell the CMG Jan $260 put for $2.10. This is a bullish trade that has an 85% theoretical chance of success. However, I would accrue losses below $257.90.
Selling naked puts carries big risk, especially for a stock as frothy and violent as CMG. For those who want to mitigate it, they can sell a spread instead.
The Alternate Bet: Sell the CMG Jan $265/$260 credit put spread, where I have about the same odds of winning but with much smaller risk. However, the spread would yield 25% if successful.
Ultimately, 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.