My last trade idea for a bullish bet on Research In Motion (RIMM) was stopped out after the stock dropped 25% on lower guidance and subsequent analyst downgrades last week. Traders who opted for the safer ratio spread and held over the weekend actually had a small profit -- but hindsight is 20/20 (cashing out Friday would've locked in a 20% loss).
Nevertheless, now more than ever, RIMM looks like a buy, at least for a reaction rally that could last through July expiration:
- Two-year earnings growth remains over 16% annualized, despite a disappointing first quarter;
- RIMM's P/E ratio is screaming "buy" at a mere 4.72;
- With a 44% gross margin and 21% operating margin, the company's profitability is still outstanding;
- Return on equity continues to exceed 90% of companies in the communications-equipment industry;
- Standard & Poor's maintains a "Hold" recommendation and 12-month price target of $36.
Today's pullback challenges the bull thesis, but from a technical perspective, the stock still shows signs that it's stabilizing:
Ardent bulls might consider selling the July 20/25 put vertical for a net credit of about $0.30, with a stop at about $275. If you think RIMM could drop another 50% by July expiration, as unlikely as it may be, the July 20/25 put ratio spread provides protection from an outright crash (although the short-term stop price and loss would be about the same). But the trade I favor is the July 2:1 25/30 put ratio spread, currently paying a net credit of about $1.53.
What makes the latter idea especially attractive is the loss cushion it provides, particularly when considered in proportion to potential profit. At the current credit, the profit if the short put expires out of the money is more than 40%. On the flip side, if RIMM drops $5 in the next week, the estimated loss would be about 30%, and a plunge into the $22.50 range would provide an opportunity to stop out with a profit.
RIMM is clearly undervalued, as noted by Seeking Alpha contributor Jason Merriam in yesterday's post entitled, appropirately, "Research In Motion, Pummeled but Significantly Undervalued." Still, as Alacra Pulse Check also posted yesterday, in plenty of ways RIMM "Doesn't look good for a turnaround." Clearly, this is a time to be cautious with RIMM -- but for anyone bullish over the next three weeks, the July 2:1 25/30 put ratio spread is as good an option (no pun intended) as one can get.