Alibaba (NYSE:BABA) stock is down about 4.5% on the year and nearly 55% from last February.
BABA stock had started off 2022 in style with a 15% rally from $119 to $137 before succumbing to the selling pressure.
Volatility does beget opportunity, however. Time to be a buyer of an oversold and underloved Alibaba as it nears long-term support.
Alibaba is certainly getting more attractive on a valuation basis after the recent carnage. Its current P/S is under 2.5x and at the lowest multiple of the past decade.
Other valuation metrics such as P/E and Price-to-Free-Cash-Flow are at trough valuations as well. Compare that to the mega-cap NASDAQ names like Apple (NASDQ:AAPL) and Microsoft (NASDAQ:MSFT), which are trading near the highest valuations in the past decade. Hard not to like BABA on a comparative basis.
The analysts certainly are bullish on BABA stock. Alibaba is rated a “strong buy” on TipRanks with 20 of the 23 Wall Street analysts covering Alibaba rate it a “Buy.” The average 12-month price target is $190.46 which implies about a 70% upside. The lowest price target is $140. BABA trades today around $121.
InvestorPlace contributor Chris Tyler agrees with the analysts. His recent article highlights some of the ongoing concerns as well as the underlying potential for BABA stock to shine in 2022.
Muslim Farooque echoes that sentiment and notes that famed investor Charlie Munger just added to his long position in BABA stock.
Technical Take
Friday’s price action was encouraging for the bulls. BABA stock traded down to new recent lows at $110.06. Shares then reversed course sharply to close significantly higher on the day at $115.23.
This type of price action is symbolic of a key reversal in the stock. The sellers have finally become exhausted and the buyers are back in charge. It is an even more powerful signal given the magnitude of the previous pullback and that it took place at an important inflection point.
The $110 mark is major support for BABA stock. It has bounced off that level several times recently. The last time BABA stock closed below $110 was all the way back in April 2017.
I expect Alibaba to continue to bounce over the coming weeks. A rally back to challenge the highs near the $140 area would be my initial price objective.
I didn’t always have a bullish outlook for BABA stock. In my previous article, I had a decidedly negative view. At that time I recommended selling a bearish out-of-the-money call spread with the stock price at $177. Now that BABA stock has fallen over 25% my outlook has changed as well. Price does matter.
Implied volatility (IV) currently stands at the 46th percentile. Option prices are neither comparatively cheap nor expensive. This favors spread strategies when constructing trades.
So to position for a potential pop in BABA stock, a defined risk call debit spread makes probabilistic sense. Limiting risk while still allowing for explosive upside gains is more important than ever in the recent high volatility market environment.
How to Trade BABA Stock Now
Buy BABA July $130 calls and sell BABA July $140 calls for a $3.00 net debit.
The maximum risk on the trade is the net debit paid of $3.50-or $350 per spread. The potential maximum gain is $6.50 ($650) per spread if BABA closes above the short strike price of $140 at July expiration. The possible return on risk is 185%.
Earnings are due Feb. 8 with expectations for $1.92 in EPS on $40.71 billion in revenue.
On the date of publication, Tim Biggam did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Tim spent 13 years as Chief Options Strategist at Man Securities in Chicago, 4 years as Lead Options Strategist at ThinkorSwim and 3 years as a Market Maker for First Options in Chicago. Tim makes weekly appearances on Bloomberg TV “Options Insight”, Business First AM “Trader Talk”, TD Ameritade Network “Morning Trade Live” and CBOE-TV “Vol 411” to discuss everything from volatility and option related. He has also been invited for reoccurring appearances on CNBC’s Volatility Playbook.
