Since the middle of July, shares of the video game maker Electronic Arts Inc. (EA) have been trampled, with the stock falling by nearly 14%. But some options traders are betting its shares will rebound by more than 12%, recouping the majority of the losses by the start of early next year.
The company reported better-than-expected second-quarter results, with earnings topping estimates by more than 2%, and revenue beating estimates by more than 4%. But the company delivered weaker-than-expected guidance, falling short of expectations on both the top and bottom lines, sending shares sharply lower.
EA data by YCharts
Big Bullish Bets
Some options traders are betting the recent pullback may be a bit too much. The $135 call options set to expire on Jan. 18 have seen their open interest levels rise substantially, by nearly 33 times to roughly 33,000 contracts. For the buyer of the calls to break even, the stock would need to rise to $142.90 from its current price around $127.60, a jump of more than 12%, if holding the options until expiration. The wager at the $135 strike price is no small bet either, with a dollar value of roughly $25.7 million, a colossal sum.
The long straddle options strategy is also suggesting the stock rises or falls by nearly 15% from the $130 strike price by January expiration. It places the stock in a trading range of approximately $102.5 to $153.65, a gigantic range.
The weaker-than-expected guidance is resulting in analysts cutting their outlook for the coming third quarter. Earnings estimates have been reduced by nearly 16% over the past month while lowering revenue estimates by almost 4%. Full-year forecasts have remained relatively unchanged.
EA Revenue Estimates for Current Quarter data by YCharts
The weaker guidance hasn’t resulted in analysts cutting their price targets. In fact, since May 1, the average analyst’s price target on the stock has climbed by nearly 12% to $153.27, almost 20% higher than the shares current price.
Fundamental Chart data by YCharts
Despite the bullish optimism of the traders and analysts, shares do not come cheap, when compared to historical valuations, trading at 22.5 times 2019 earnings. From April 2015 until the start of 2018, the stock never traded higher than 24 times one-year forward estimates. Additionally, the stock trades at nearly double its 2019 estimated earnings growth rate of 13%, giving it a PEG ratio of 1.7.
Michael Kramer is the founder of Mott Capital Management LLC, a registered investment adviser, and the manager of the company’s actively managed, long-only Thematic Growth Portfolio. Kramer typically buys and holds stocks for a duration of three to five years. Click here for Kramer’s bio and his portfolio’s holdings. Information presented is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Investments involve risk and unless otherwise stated, are not guaranteed. Be sure to first consult with a qualified financial adviser and/or tax professional before implementing any strategy discussed herein. Upon request, the advisor will provide a list of all recommendations made during the past twelve months. Past performance is not indicative of future performance.
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