I’ve never had much of a problem explaining the value of a dollar to my teenage twin sons when it comes to investing, as they’ve been learning right alongside me for many years. But to a lot of long-stock investors, it sometimes requires a new way of thinking to believe that you can pay a dollar or less to initiate successful options positions. But in the spirit of “a penny saved is a penny earned,” we do that more often than not in my ChangeWave Shorts service.
Recently, we learned the value of 99 cents — thanks to the 99 Cents Only Stores (NDN) to be exact.
As early as the fall of 2007, we were positioning our portfolio to cash in on recession rumblings that our ChangeWave Alliance survey research told us about before the news made its way onto Wall Street. At that time, no one on the Street had any idea about the extent of the recession, but for investors, the fear of something is often enough to make waves.
What we did know, thanks to our Alliance survey data released months earlier, was that we were certainly facing slower economic development. In October 2007, this was confirmed when the Federal Open Market Committee released meeting minutes explaining that it saw slow growth through 2009.
I knew there was money to be made from the economic slowdown and, coupled with the critical sales figures that were on the horizon, I made a move to establish a short-side play in the 99 Cents Only stores.
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A ‘DOLLAR’ SHORT
The company is near the bottom rung of the retail ladder because, when consumers start scaling back on their discretionary spending, these types of stores are often the first to be abandoned as groceries and other needs must be met first. I knew that the economic slowdown meant that the 99 Cents Only Stores and retailers of that ilk would be doing anything but celebrating.
Many of the poor and working poor, the deep discounters’ target consumers, are employed by construction and contracting jobs. And with homebuilding drying up and inventories ballooning, even more layoffs were forthcoming. Without paychecks, consumer spending at these stores tends to weaken, as people have to decide between paying the electric bill and spending money on “extras” at the dollar store.
99 Cents Only Stores’ strong presence in the weakest homebuilding markets — California, Texas, Arizona and Nevada — was a sweet spot for us on the short side because of our other plays in ailing homebuilders. I expected the company to suffer greatly when more and more people stared missing mortgage payments and more housing-related layoffs came down the pike.
The best way to play this was buying the NDN February 35 Puts. We got in them in mid-October for 75 cents. For those of you playing at home, that equated to a mere $75 per put option contract (plus commission costs) to start. That’s one of the many things I like about options, and puts in particular — they generally require far less capital than buying a stock outright, and we put WAY less money at risk by buying puts instead of short-selling the stock itself.
Options often take less time to deliver profits, too. And this was especially true of our 99 Cents Only Stores play because, barely a month later on Nov. 12, we sold those February 35 Puts for $1.75, or a $133% profit.
But, just like my wife when she shops at the dollar stores, I said, “I’m not done yet.” After selling our winning puts, I recommended my subscribers take their original investment dollars and “roll” into another put position in this name.
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Rolling simply means pocketing your profit and re-allocating your original investment stake in a new position with either a different strike price or expiration date (or both) to get more leverage.
So, my subscribers bought the NDN March 7.50 Puts at my recommendation for 70 cents. Keep in mind, we were spending less per share than we would have spent on an item in one of these stores, and we were positioning ourselves to earn our money back (and then some!) with our short-side plays. And sure enough, in two months’ time, our put options were worth $1.40 for an easy money-doubler.
But, I still wasn’t done. I recommended rolling again into the June 5 Puts for 75 cents.
While it’s typical to play the same name a couple of times over, I should have left the party sooner because value investors had come to join me, driving the stock price up.
(Value investors are those who look for broken stocks and buy them “on the cheap” in hopes they will be able to ride them back up to their former glory. But just because a stock is trading at bargain-basement prices, doesn’t automatically mean it is a “bargain” — remember, we’re buying puts on broken stocks, while the value guys are “hoping” these busted stocks will make a quick turnaround.)
Many investors thought the retailers built a recession built into their prices and, since many have strong cash flow, they were viewed as cheap. And in the case of 99 Cents Only Stores, the stock “can” go up not because the company has a terrific business model, but an economic stimulus package looks to help the 99 Cents Only chain later in the year. And for us on the short side, it’s better to take the money and run than to wait and see. So, on Feb. 1, it was time to close the position and move on.
Still, our 133% and 100% profits from our first two forays into the 99 Cents Only Stores more than overshadowed our loss in the last trade. To put it in further perspective, our mere $40 loss per contract, or 100 shares, was nothing compared with the loss that traditional shareholders felt in the first days of February.
Had we held 100 shares long, we would have been looking at nearly a $141 loss in a week’s time. Ouch. Fortunately, our lesson about learning the value of 99 cents was much more profitable. Talk about appreciating the value of a dollar (store)!
