In spite of worries over global tariff wars, the stock market made new highs this week. Momentum stocks are soaring and, most notably, Amazon (NASDAQ:AMZN) recently crossed $2000 per share. This morning, Salesforce (NYSE:CRM) is going the wrong way — down 3% — as knee-jerk traders react to earnings.
But therein lies the opportunity.
For Salesforce stock, this is a technical setback, not a fundamental problem.
Salesforce’s chart was on a steep rise, which created a sharp rising wedge. Those tend to break down to relieve pressure.
These are the bulls testing the footing below before they use the necklines as support for further upside movement. As they say, nothing rises forever.
CRM is a momentum stock that usually over-delivers on promises. Last night, Salesforce guided softer profitability for the third quarter. A small miss on profitability guidance is nothing to fret. Salesforce stock is headed higher for as long as it delivers on growth.
Salesforce has mainstreamed the use of the cloud and remains the dominant force in it. The cloud is where all other companies are chasing. We reward companies like Adobe (NASDAQ:ADBE) and Microsoft (NASDAQ:MSFT) to have made the transition into CRM’s model. So punishing the stock today on one soft guidance is wrong.
CRM stock moves fast because it is a hyper-growth company so a miss on the bottom line is normal. As long as growth is on tap, I don’t mind a few setbacks on the bottom line. It’s supposed to burn cash to grow fast.
Especially when, in this case, management identifies the cause as spikes in some operational expenses. These are problems they can fix in mere weeks.
If you shorted Amazon’s stock based on profitability, you’d have lost your fortunes all the way up to $2,000 per share.
Trading Salesforce Stock
Since stocks are at all-time highs, I will not risk $150 per share to buy CRM stock with no room for error.
Instead, I use options where I can create a buffer between the current price and my level of risk.
Once I see stabilization, I will buy December calls to bet on the long-term upside.
Fundamentally, CRM is not cheap since it sells at a 168 price-earnings (P/E) ratio. So today’s trade is merely a bet on price action. Momentum stocks like Salesforce almost never give us clear entry points, but I don’t want to sit on the sidelines.
Technically, the rising wedge leaves downside room to $142. And I see a months-old pivot support around $135 per share. Think of these as rubber bands and not as hard lines in the sand. Using options is perfect to set a bullish trade with room to breathe.
The Trade: Sell CRM Jan 2019 $125 naked put and collect $2 to open. Here I have an 85% theoretical chance that I would retain maximum gains. But if the price falls below my strike, I own the shares and would suffer losses below $123.
Selling naked puts carries big risk especially for a momentum stock like CRM especially when equities are at all time highs. For those who want to mitigate it, they can sell a spread instead.
The Alternate Trade: Sell the CRM Jan 2019 $130/$125 credit put spread where I have about the same odds of winning, but with much smaller risk. Yet the spread would yield 15% if successful.
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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.
