Reopening Struggles
Reopening Struggles
The best trade over the last couple of months has been reopening plays. Air traffic is skyrocketing and individuals are going out again. JETS, the US airline ETF, is up 26% year-to-date. USO, the US oil fund ETF, is up nearly 29% in 2021 on expectations of people traveling more often. And several sit-down restaurants chains, like BJ’s Restaurants and Cheesecake Factory, are up more than 50% year-to-date.
However, markets were soft in afternoon trading as potential reopening restrictions have begun to emerge.
New Jersey announced plans to slow down its reopening as COVID cases have surged recently. In addition, New York City mayor Bill De Blasio asked Governor Andrew Cuomo to do the same.
Despite the negative news, this is likely just a hiccup on the road to a massive recovery in airlines, restaurants, hotels, and other reopening plays. States like New Jersey, New York, and others are just looking to buy a couple of weeks to vaccinate more residents. Once mass vaccination is achieved, likely by summer, all COVID-related restrictions will be long gone.
We love volatility. So any short-term noise in the market is an opportunity for our long-term trades.
As an example, JETS is down 3% as of this writing today, which could be a great time to add if you are bullish on airlines. And the trends are looking pretty good — with airline traffic continuing to surge; yesterday (March 21st) was the highest-traffic day of 2021, according to the TSA.
While many of the reopening plays have skyrocketed over the last couple months, it’s definitely not too late to get in. Remember, the tech market rally lasted for several months after many believed it was long past due for a correction — which we believe could happen here as investors rotate into value.
Similarly, these reopening plays have several more positive catalysts ahead of them. Q1 numbers will be good, and Q2 numbers should absolutely blow out all revenue and earnings numbers from 2020.
Even if current Q2 growth is priced in, your long thesis could include the fact that many “FOMO” investors will want to jump in over the next several months. Given the large amounts of liquidity available to investors right now, it’s not a bad bet.
Another angle to take is investing in undervalued small cap reopening plays that the market isn’t pricing correctly. We take a deep dive into undervalued small caps in our premium newsletter; see the footer of this email for info on signing up.
Many reopening stocks are still trading at 0.5 to 2x TTM (trailing twelve month) sales, such as Cheesecake Factory (CAKE) and Red Robin (RRGB). Of course, you’ll want to screen for debt levels and risk of bankruptcy, but many of these companies have received immense relief from the CARES Act and have negotiated lease obligations, so the risk of bankruptcy is not widespread among restaurants at this point.
Our Best Reopening Play
Our current focus to play the reopening trend is small and microcap retailers. Many of these retailers in the small and microcap land have not rebounded like their peers have. In addition, due to an accounting change regulation (ASU 842), retailers are now forced to put operating lease liabilities on their balance sheet, which artificially increases debt levels. This leads to these companies “screening” poorly when investors utilize stock screeners to find potential investment ideas.
We have currently identified a handful of small and microcap retailers which we think will outperform the market over the next 6-12 months. Wall Street is totally missing these retailers given their absolute low market cap, the new ASU 842 regulation, and the general consensus that “retail is dying” — which we frankly find utterly WRONG.
We have released one exclusive stock pick to paying subscribers and plan to drop the second stock pick this afternoon. We have high conviction that the our second stock pick is an easy double over the next 12 months as comps are flat from 2019 levels and operating cost have been slashed in a massive way. The management team has also guided to generate free cash flow this year. For only $10 bucks per month, you can access this high conviction research report when it is released.
Options
Every so often, we’re going to add some information about options strategies to the newsletter. We may even launch an options newsletter if there’s enough interest (comment below if you want one).
Remember, options can be extremely risky. Option trades can see 50% losses in a few minutes, and selling options can lead to losses greater than 100%. If you are new to options, just read this section for a while before jumping into very small options trades. Consider this a basic primer to get you ready for eventually trading options, even if it’s just to hedge your portfolio.
Selling Bear Call Spreads
One of the less risky option strategies involves spreads, either buying or selling. In this case, I’m going to talk about selling spreads. Selling call spreads implies that you’re bearish on a stock, hence the “bear” term added to the front.
You typically want to sell spreads on stocks with higher IV (implied volatility), because that means there is a higher premium to collect. Extremely stable stocks have very low IV, which means there’s almost no profit to be made in selling premiums.
The one thing to be careful of, is why IV is high for a stock. If earnings are coming up, IV may be high because the stock will likely move up or down 5 to 10% after earnings. In those cases, you likely don’t want to be selling premium, because the stock can move against you very easily.
Let’s take Tesla as an example. Its IV is relatively low historically, but is still a fairly high IV stock (70% IV for near-the-money options expiring on Friday March 26th).
Let’s say that you sell a 710/712.5 call spread. This means you’re selling the $710 strike call (currently priced at $12.20), but buying the $712.50 call for $11.30. You immediately pocket the difference between these two prices, which is $90.
Remember, one option contract represents 100 shares, so the $710 strike represents 100 shares x $12.20 = $1,220. You receive $1,220 but pay $1,130 for the higher-priced strike.
Think of the $712.50 strike as your hedge; if the trade moves against you, you are limiting your losses by holding a strike. However, you severely limit your profit potential by not just selling the $710 strike outright.
The ideal outcome of this trade is that Tesla ends below $710 at the close on Friday. If it does, you keep the $90 premium collected, and both options expire worthless.
The breakeven price for this trade is $710.90. This is because you start to lose money if Tesla closes at $710, but your loss will be offset by the $90 premium collected. Above $710.90, you trade loses money. Your loss is capped at $160, which would occur at $712.50. Above $712.50, your loss is capped by the hedge of owning the $712.50 call.
If you wanted to take the opposite side of this trade, you would simply buy the spread for $90. Your max loss would be the $90 paid, but you would profit if Tesla finished above $712.90 on Friday.
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