Shares of ROKU (NASDAQ:ROKU) have certainly started off 2021 with a bang. ROKU stock is now up nearly 23% so far this month after rising an astounding 147% in 2020. Certainly some of this incredible run was warranted given the strong growth for ROKU and other stay at home stocks. The massive move has now come too far, too fast however. Time for the red-hot ROKU rally to take a breather.
ROKU reported earnings on Nov. 5 with a massive beat on both the top and bottom lines. Earnings came in at 9 cents per share, handily beating expectations for a loss of 40 cents. It was the first time in the last seven quarters that ROKU reported positive earnings. Revenues were also a big upside surprise 0f $452 million compared to consensus of $366 million. Revenue growth was 73% year over year.
While revenue growth was up 73% from a year ago, ROKU stock price was nearly 2.5 times that with a gain of 183% in that same time frame. This means that the P/S ratio has expanded dramatically. Current P/S now sits at the 34x level and at the highest reading ever.
The market cap now stands at $53 billion — almost double what is was on Nov. 4 before the latest earnings report. Important to also remember that this incredible revenue growth will be harder to come by in future quarters simply due to the law of large numbers. Things are looking a little frothy at these prices.
Certainly the analysts tend to agree that ROKU stock is getting a little stretched on a valuation basis. The average price target for ROKU stock is $323.21, which is 20% lower than the current stock price. Even the highest analysts estimate of $460 implies less than 13% upside from current levels. Momentum can carry a stock only so far. At some point valuations do actually matter.
Technical Take ROKU Stock
Source: The thinkorswim® platform from TD Ameritrade
ROKU is finally showing signs of slowing down after its explosive rally. 9-day RSI breached the extremely overbought reading of 80 before turning lower. Bollinger Percent B was well above 100 but has since tempered.
Momentum rocketed to over 70 — by far the most extreme levels in the past 12 months — but is finally heading back down. ROKU stock is trading at a big premium to the 20-day moving average which has led to pullbacks in the past. Shares once again tried to break above the major resistance area at $425 but failed for the fourth straight day.
More importantly, ROKU stock had a key reversal day on Friday. ROKU broke out to fresh new all-time highs intra-day at $425.99 but subsequently failed to hold on to those gains. Shares ultimately lost 18 points and closed lower. This type of price action is many times emblematic of a short term top in the stock. The buyers have finally become exhausted and the sellers have taken control. It is an even more powerful signal given the magnitude of the previous rally.
Shorting ROKU stock outright is far too dangerous and expensive. Luckily option spreads provide a defined risk, lower cost way to position to be a seller of ROKU stock on a further rally while collecting option now.
Sell ROKU March $460 / $470 call spread for a $2.50 net credit
Maximum gain on the trade is $250 per spread. Maximum risk is $750 per spread. Return on risk is 33%. The short $460 call strike provides a $51.70 upside cushion (12.66%) to the $408.30 closing price of ROKU stock. It is also right at the highest analyst price target of $460.
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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