The stock market has been held hostage of late by a series of inflammatory headlines that have little to do with the macroeconomic fundamentals. It all started in early February as the stock market indices tumbled on a change in sentiment. The trigger was a very strong January jobs report. These fears have since abated and the irony is that this artificial fear factor died on a February strong jobs report.
Now we are free to trade fundamentals at least for the next two weeks.
Ulta Beauty Inc (NASDAQ:ULTA) reports earnings this coming Thursday. Short-term reactions to earnings reports are always coin flips. We don’t know what the company is going to deliver in terms of results, nor do we know how traders will react to those results. Therefore trading ULTA stock ahead of earnings should be done in a cautious manner.
That’s why instead of risking $206 per share with no room to spare, I will use the ULTA options where I can set a buffer zone between current price in my risk. Furthermore, the CBOE Volatility Index which gauges fear through options pricing is still elevated. So that in combination with the earnings event make for attractive premiums that are higher than normal.
Fundamentally, ULTA has a price-to-earnings ratio of 26 which is not cheap relative to its sector. But in its defense it does deliver better growth than most. Up until recently it was seen seemingly immune to the Amazon.com, Inc. (NASDAQ:AMZN) effect. I think that management has the right tools to combat and win against the online threats.
However, of late, even its most die-hard fans started to doubt it. The threat of AMZN is indeed exerting pressure on the stock. For the last 12 months, ULTA is down 28% while the SPDR S&P Retail (ETF) (NYSEARCA:XRT) is up 7%. The lag is obvious.
But therein lies some of the opportunity. In the absence of mega fans, good results this week may rekindle some of the Wall Street love for the stock. As of now the experts have been on the sideline split between buy-and-hold ratings. And the stock is trading at the bottom of the official analyst price range sot there is plenty of upside for the taking.
Click to Enlarge Technically, ULTA stock has some risk. The weekly chart, insinuates that $188 per share must hold. Else, its loss could invite technical sellers to $target 160. Although this is not a forecast, it is a technical scenario that should concern the Bulls. Luckily $160 and $140 per share each are also pivot levels which should provide support if the stock disappoints on earnings.
In today’s trade I am hopeful for upside potential but that is not the extent of my strategy. I do not need the rally to profit. I merely need price to stay above my strike to win. And if the worst case scenario on unfolds, it is my opinion that owning ULTA shares at a discount from here will in the long run be profitable.
ULTA Stock Trade Idea
The Trade: Sell ULTA June $155 naked put. This is a bullish trade where I collect $2.25 to open. Here I have a 85% theoretical chance of success. But if price falls below my strike then I accrue losses below $152.75.
Selling naked puts is daunting. Those who want to mitigate that risk can sell spreads instead.
The Alternate Trade: Sell ULTA June $155/$150 credit put spread. The spread has the same odds but would deliver 15% yield 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.
