The major meltdown in Facebook (NASDAQ:FB) stock grabbed headlines yesterday, as FB stock lost $41.24 (18.96%). The earnings rout was courtesy of slowing user growth on both a monthly and daily basis. Considering FB stock’s major rally in front of earnings, a pullback certainly was not unexpected. A pullback of this magnitude, however, was entirely unexpected and overdone. Look for FB stock to find its footing near current levels over the coming weeks.
In a previous post on FB stock, I had a decidedly bearish view. I made the case for shorting Facebook stock above $200. The bear case was based on extremely rich valuations and overbought technicals. Yesterday’s bloodbath in FB stock rectified both of my concerns and then some. My view has subsequently changed to a decidedly more bullish one … because stock price does matter.
Facebook valuations have come down to much more realistic levels following the 19% drop. The current price-earnings ratio (P/E), which previously was approaching 35, now stands at a much more amenable 27.3.
Other traditional valuation metrics, such as price-sales and price-cash-flow, have also tempered dramatically as well. While user growth did slow, it is important to remember that earnings did actually beat consensus at $1.74 per shares versus estimates of $1.72.
From a technical perspective, shares of Facebook went from overbought to oversold in just a single day!
Nine-day RSI is now below 25, marking levels that have signified significant lows in the past. There is major support at the $171 area, which coincided with the gap higher following the privacy issues fiasco in late March. FB stock did break the 200-day moving average at $181.56, which now will likely be a short-term upside target for the stock.
Implied volatility (IV) in FB options remains elevated even following earnings due the massive drop in the stock. Current IV percentile stands at 65%, meaning option prices are still comparatively rich, favoring option selling strategies. So to position to be a buyer of Facebook on further weakness, an out of the money put credit spread makes probabilistic sense.
Trade Idea for FB Stock
Buy FB Sept $155 puts and sell FB Sept $160 puts for a 70 cents net credit
Maximum gain on the trade is $70 per spread with maximum risk of $430 per spread. Return in risk is 16.27%. The short $160 strike is well below the $171 support level and provides a 10% downside cushion to the $176.26 closing price of FB stock.
Tim may hold some of the aforementioned securities in one or more of his newsletters. Anyone interested in finding out more about Tim and his option-based strategies can go to https://marketfy.com/item/options-and-volatility.
