Last night Square Inc (NYSE:SQ) delivered earnings that were a top and bottom line beats. Yet the knee-jerk reaction was for traders to sell Square stock down 5% on the headline. Any weakness on strong performance is most often an opportunity to go long.
In the absence of reasons to expect deterioration in SQ fundamentals, I remain optimistic the stock. So today I am reloading another bullish trade in Square stock knowing I already have profits in hand from prior and similar winning trades.
But I do realize that the stock market, in general, is on pins and needles so it would be prudent to use caution. So instead of buying the SQ shares outright and leave no room for error, I will use options to go long it today. There I can build a moat around my risk.
The fundamental outlook for SQ is rosy. Consumption trends are moving online so most transactions have become electronic. So the whole segment of online payment transactors is reaping the benefits. SQ is not cheap but it is the new exciting entrant.
From a price-earnings perspective the stock is bloated when compared to Visa Inc(NYSE:V), Mastercard Inc (NYSE:MA) and Paypal Holdings Inc (NASDAQ:PYPL). Even the price-to-book is astronomical. But the potential growth trajectory is the exciting part.
There is also the proverbial blue elephant in the room that is bitcoin. Recently, SQ tied itself to the blockchain trade. So for as long as that concept is alive, SQ will benefit from extra levitation. Management just reiterated that bitcoin is transformation technology and they are well engaged.
Click to Enlarge So SQ is learning fast and will grab the opportunities that lie within bitcoin and blockchain. I believe that this goes well towards their efforts of growing their basket of large merchant clients.
This is timely since critics of this earnings report point that large merchant client growth slowed this quarter.
Going long SQ stock has been my way of trading bitcoin without exposing myself to its volatility. Yes, SQ does move in sympathy with BTC but to a degree and then it rejoins its sector trends.
The point today is simple … SQ stock is under pressure for beating expectations but having moderate guidance.
I bet that this is management tempering expectations in a classic case of under-promise so they can over-deliver. In fact, their caution is a sign that they are cautious so they are not likely to hit the potholes.
I don’t look towards Wall Street experts for help. Analyst ratings and price targets are on hold so I trade my own thesis inside a favorable macroeconomic environment.
The Trade: Sell SQ June $32 naked put and collect 75 cents to open. Here I have an 85% theoretical chance that I would retain maximum gains. But if the price falls below my strike then I accrue losses below $31.25.
Selling naked puts carries big risk especially for a stock as frothy as SQ. For those who want to mitigate it, they can sell a spread instead.
The Alternate Trade: Sell SQ June $32/$30 credit put spread. The spread has the same odds but would deliver 15% yield on risk. Neither trade requires a rally to profit.
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.
