Ulta Beauty Inc (NASDAQ:ULTA) is a fallen angel. Wall Street fell out of love with it mid-year and since then, traders don’t miss an opportunity to sell it.
Case in point, last night ULTA management reported earnings and investors hated what they saw. The stock fell 6% in after-hours trading. The report was decent. Ulta reported a double-digit quarter sales increases.
The concern, however, was in shrinking comparable sales to the year-ago quarter. Management blamed the hurricanes like most other businesses, so in my book, Ulta gets a pass for now.
Fundamentally it’s still not a disaster. It has a 29 price-earnings ratio, which is a bargain for a growth company. In fact, Ulta’s P/E is half that of e.l.f. Beauty Inc (NYSE:ELF).
ULTA Salon stock once was the gem of the retail sector. Jim Cramer on CNBC, was a fan of the stock. He constantly noted that it was Amazon.com Inc. (NASDAQ:AMZN) proof, but no longer. The stock suffered a 40% correction that started in June. It was down 13% year-to-date coming into its earnings. The SPDR S&P Retail (ETF) (NYSEARCA:XRT) is flat for the same period.
ULTA stock thrived on its comp sales performance and that asset is in doubt here. In addition, the sector is in doubt, so investors are reluctant to buy. This gives the edge to the bears … but therein lies the opportunity.
Using options and cautious entry levels, I can use the fears to create income out of thin air. I recently closed a scalp win and I am ready to rinse and repeat. I will take advantage of the elevated put premiums on this dip to sell downside risk in ULTA below proven support.
Click to EnlargeTechnically, this dip brings ULTA stock to the most recent pivot point, which should hold again. Although I am confident that the fundamentals will still entice buyers to step in, I want to leave even more room for error.
Expectations from Wall Street analysts are low for ULTA. It is now trading 20% below the average price target.
The Trade: Sell ULTA March 2018 $160 put for $2.75. Here I have an 85% theoretical chance of success. Otherwise, if price falls below my strike, I would accrue losses below $157.25.
Selling naked puts is risky, especially for retail stocks when equities are at all-time highs. For those who want to mitigate some risk, they can sell a spread instead.
The Alternate Trade: Sell the ULTA March 2018 $160/$155 credit put spread, which would deliver over 10% in yield, but with much smaller risk. Both setups 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.