Trade Alert: Post-Earnings, 6/17/2024

Betting on a stock with solid fundamentals that got punished for a slight revenue miss.

The Risk Of Buying After A Post-Earnings Drop

Everyone likes a bargain, so it’s tempting to bet on a once high-flying stock when it drops post-earnings. We did that with two stocks in the first quarter, Snowflake (SNOW -0.86%↓) and Lululemon Athletica (LULU 2.16%↑). Both posted double beats (on earnings and revenues), and both tanked after earnings: LULU by 16%, and SNOW by about 18%. We placed bullish options bets on both of them set to expire after their earnings this quarter.

Both of those options trades are going to expire worthless this Friday, even though one of those stocks (LULU) posted another double beat this month. Why?

In hindsight, we made two mistakes there:

1. We placed our post-earnings trades immediately, without waiting for prices to consolidate. Though the stocks were down double-digits post earnings, they kept sliding. LULU is now down 36% from the day it posted its earnings in the 1st quarter, and SNOW is down about 46%.

2. We didn’t pay enough attention to valuation. Even after those steep drops, LULU today has an overall valuation rating of 3 (on a scale of 0 to 10) according to Chartmill, and SNOW has an overall valuation rating of 0 (Chartmill’s overall valuation rating takes into account price/earnings, forward P/E, and other valuation metrics).

What We’re Doing Differently Today

The stock we’re betting on today is another former high-flyer that plummeted post-earnings, dropping about 20% after beating on earnings but slightly missing on revenues. This time, though, we did a few things differently:

1. We didn’t bet on it right after earnings, which were last month. We waited for prices to consolidate a bit. We’re not getting in at the post-earnings bottom, but the stock is still down about 15% from were it was pre-earnings. And we know now that its post-earnings plunge wasn’t the start of an extended slide, as with LULU and SNOW.

2. We paid attention to valuation. This stock had an overall valuation rating of 4 pre-earnings, according to Chartmill, and after that drop it has an overall valuation rating of 6. Its other fundamentals are strong too: a profitability rating of 8, a health rating of 7, a growth rating of 8 (all on a scale of 0-10), and a Piotroski F-Score of 9 (on a scale of 0-9).

3. We waited to get the options prices we wanted, placing a limit order that took over a week to fill.

Our options trade today is a bet that this stock will erase half of its current 15% post-earnings drop after it releases earnings next quarter. If we’re wrong, our maximum loss on this trade will be 100%, and if we’re right, our maximum gain will be about 200%.

Details below.

The company is Salesforce (CRM 0.00%↑), and the trade is a vertical spread expiring on September 20th, buying the $240 strike calls and selling the $250 strike calls for a net debit of $3.30. The max gain on 1 contract is $670, the max loss is $330, and the break even is with CRM at $243.30. This trade filled at $3.30 on 6/17/2024.

Exiting This Trade

I’m going to set a GTC order to exit at a net credit of about $9.50 and lower that price, if necessary, as we approach expiration.