Shares of DraftKings (NASDAQ:DKNG) have now fallen nearly 30% in just the past 10 trading days. DKNG stock closed at an all-time high of $63.78 on Oct. 2 before dropping like a rock to end last week below $44.
Some of the carnage was warranted given that DKNG had gotten extremely overbought. The recent announcement of a secondary offering only added to the pullback pressure. The selling has come too far, too fast however. Time to be a buyer of DraftKings on any further weakness.
The Oct. 5 announcement of a secondary stock offering was expectedly viewed as a short-term negative for DraftKings shares. The dilutive effect of the additional shares priced at $52 rightfully weighed on the stock price. Shares are looking decidedly more attractive given that they are trading at a $7-plus discount to the secondary offering price.
DKNG stock is also priced well below the average analyst rating of $57.35. InvestorPlace contributor Bret Kenwell also is talking bullishly about DKNG in his recent article. Look for DraftKings to head higher once the selling pressure eases.
The shares are getting extremely oversold on a technical basis. MACD is now at the lowest levels since DraftKings went public. Momentum has also crashed to extremes of pessimism. Bollinger Percent B is barely positive — another sign the selling may be nearing a culmination.
Source: The thinkorswim® platform from TD Ameritrade
The stock is still clinging to the 50-day moving average even following the recent drubbing. The longer-term uptrend line is holding as well. There is also major horizontal support at the $40 area. Shares had fallen on eight of the past 10 days and are due for a probabilistic pop. This is especially true given the magnitude of the drop. I expect DKNG stock to begin form a base and regain some of the recent losses over the coming weeks.
In my previous post on DKNG from July 16, I had a similarly bullish outlook for the stock. DraftKings had fallen 30% from the highs back then, almost a carbon copy of the recent pullback. Shares were trading at the $30 level back then so I recommended selling the Jan $20 puts at $2.75 to be a buyer at a big discount.
These options are now trading at 30 cents so the trade worked out well. No harm in closing these out at a nominal price and realizing almost the full gain while eliminating the risk.
Rather than sell naked puts now, though, I prefer using a shorter-term bull put spread strategy to be a position to be a buyer on a pullback. This is a more aggressive trade and is better suited for a defined risk strategy like a spread than a longer term lower risk naked put sale. A lower margin requirement is also an additional benefit of the spread strategy.
How To Trade DKNG Stock Now
Sell DKNG Nov 6 $40 puts and buy DKNG Nov 6 $35 puts for a $120 net credit
Maximum gain on the trade is $120 per spread with maximum risk of $380 per spread, Return on risk is 31.57%. The short $40 strike provides a 11.11% downside cushion to the $45 closing price of DKNG stock. It is also below both the 50 day moving average and trend line which should provide additional safety.
The Nov. 6 expiration is before the earnings release on Nov. 13 which will avoid any earnings related risk. Volatility will likely dampen before the announcement as well.
On the date of publication, Tim Biggam did not have (either directly or indirectly) any positions in any of the securities mentioned in this article.
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