The effects of Amazon.com, Inc.(NASDAQ:AMZN) on companies like Macy’s Inc (NYSE:M) has been devastating. M stock is now a fraction of what it once was. It’s down 40% in five years while the S&P 500 gained 60% and AMZN almost 500%.
This morning M stock is falling 3.5% on news of Morgan Stanley downgrade citing an uphill battle ahead for the retailer. They also cut the price target from $27 to $25.
Brick-and-mortar retailers are in full panic mode still. They were late to react and only recently that they’ve clearly taken initiatives to turn the tide. Last year, Wall Street started giving them credit for success but in my opinion, their scope is too narrow.
Most the noted successes from M and its industry have been increases of online sales. But a lot of that can be cannibalization of their existing foot traffic sales. Meaning they are only succeeding at migrating existing clients into online ones. They are not succeeding at taking back customers from AMZN.
Nevertheless, I still see an opportunity to profit from a bullish trade in Macy’s stock in spite of my skeptical view on their business. No, I am not going to buy the stock outright here. This would leave me with no protection and that’s not what I want going into an earnings report.
The short-term reactions to earnings headlines are complete coin flips. So I use options where I can choose where to place my risk. I can build a buffer zone between current price and my risk.
Macy’s case, however, it’s still running a profit. So there is tangible intrinsic value. With a price-earnings ratio under six, I am confident that if I buy shares at a discount from this level I will manage out if for a profit in the long term.
This is key to my strategy today. I don’t want to buy shares and hope for a rally. I would rather bet on downside support to hold. Technically. M stock has several clear levels against which I can sell risk for income. If I am wrong then I will own shares at a steep discount from even today’s low price.
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The Bet: Sell M Aug $24 put for $1. Here I have a 80% theoretical chance of success. Otherwise, and if the price falls below it, I would suffer losses below $23.
Selling naked puts is daunting. Those who want to mitigate that risk can sell spreads instead.
The Alternate Bet: Sell the M Aug $23/$21 bull put spread, which has about the same odds of winning and would yield 15% on risk. Compare this with risking $29 per share here and without any room for error expect a rally profit.
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.
