Lowe’s Companies, Inc. (NYSE:LOW) stock had a strong end of the week on Friday. It is now fast approaching its earnings event with a head of steam. So the stock looks frisky, and for good reason. The bulls are trying to recover a giant open gap in pricing that happened at the end of February.
Since its January highs, Lowe’s stock had fallen 15%. But so far in May it’s been recovering and now carries good momentum.
Onus is now on the bears to prove that the February drop was warranted and that they can repeat the dip . In the absence of bad news, the bulls have the advantage as the stock approaches its earnings event.
Tomorrow morning, LOW will have a mini-event as it’s primary rival Home Depot Inc (NYSE:HD) will report earnings before the bell. There will be a sympathetic move as there often is when one of two major competitors reports earnings. HD stock is in the middle of a breakout pattern with another 3-5% left in it. But the earnings events are always a guessing game for the short term.
The stock market has been on edge for a while. Slight earnings problems have resulted in huge stock dips for several companies. So there is plenty for investors worry about — but therein lies the opportunity.
Lowe’s is a quality company that has tangible value. So going long in a bullish market is an easy trade — especially if I use options. There I can take my risk and leave plenty of room for error. This allows me to go into an earnings uncertainty period with little worry.
Fundamentally, Lowe’s stock is not a screaming buy at 21 price-to-earnings ratio but it’s not bloated either. In fact it’s about 20% cheaper than its main rival HD. It could get cheaper on a surprise bad headline but in the long run that would make it an easy win should that happen.
LOW is lagging HD stock year-to-day but it is somewhat in line with the markets in general. So the lag is not indicative of a malignant issue eating away at the stock. With so few competitors, there will be enough room for all to prosper.
Trading Options for Lowe’s Stock
Technically, $88 per share offers LOW an opportunity to breakout. This has been a pivot point of late and could be the doorway for a rally to $96. This would close the gap created on Feb 27. Although not all gaps get filled, I do like the chances for this one.
The Trade: Sell LOW OCT $75 naked put and collect $1.65 to open. Here I have a 85% theoretical chance that I would retain maximum gains. But if price falls below my strike then I accrue losses below $73.35.
Selling naked puts is daunting. Those who want to mitigate that risk can sell spreads instead.
The Alternate Trade: Sell the LOW OCT $77.50/$75 credit put spread where I have about the same odds of winning but with much smaller risk. Yet the spread would yield 18% if successful.
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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.
