Patience Leads To Higher Profit On Rockwell Collins Short And Lower Entry Price On Seagate

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 |  Includes: COL, STX
by: Dark Horse Traders' Hedge

Shed a tear 'cause I'm missin' you

I'm still alright to smile

Girl, I was thinking about you every day now

But you set my mind at ease

There is no doubt you're in my heart now

Said woman take it slow, and it'll work itself out fine

All we need is just a little patience

Said sugar, make it slow and we'll come together fine

All we need is just a little patience (Patience)

I sit here on the stairs

'Cause I'd rather be alone

If I can't have you right now, I'll wait dear

Sometimes I get so tense but I can't speed up the time

But you know love there's one more thing to consider

Little patience, mm yeah

Need a little patience

-- Guns N' Roses

One element of trading that is too often overlooked is patience. We have discussed putting on a portfolio that can perform "Any Way the Wind Blows" by keeping a balanced exposure to the most overvalued companies on the short side and the most undervalued companies on the long side. Without being completely repetitive from the original post, we manage that balance of exposure based on where the overall indexes are relative to their 50 and 200 day MA (in its simplest form). Lastly, we sprinkle some option selling on top of long positions to lower volatility and earn income from positions that require patience but we don't mind holding. Many times it takes a significant amount of restraint and patience to allow the trend to be your friend, as they say.

Rockwell Collins (NYSE:COL) was discussed in the last post on May 18, 2012 as a short position that required close monitoring. "Said sugar, make it slow and we'll come together fine." The overall market looked like it would test the 200 day MA and 10% correction line which we are did Friday. All traders go through the feeling of "Sometimes I get so tense but I can't speed up the time." Our patience has paid off with COL dropping another $2/share, and I believe the preponderance of evidence is now such that we have more to lose on a rebound than we have to gain from a further break down. I am recommending that we Buy to Close COL at the market for a +15.21% gain since entering the short on January 29, 2012. I still feel there are earnings quality issues going forward with COL and will recommend re-opening the position on any material bounce.

With the market approaching the 200 day MA and 10% correction (from the high), it is prudent for us to look at some value stocks to add to our portfolio. Remember that we want more exposure to long positions when the market is weak and stocks are undervalued.

Seagate Technology (NASDAQ:STX) is a stock that we liked in the same January 29, 2012 article that recommended shorting COL. In that particular trade, we added long exposure to STX along with selling a March $21 call and March $21 put. Both expired allowing us to recognize a quick +14% profit March 19, 2012. Since that time, STX traded as high as $32 in May ("If I can't have you right now, I'll wait dear") but has experienced increased selling pressure and is back at $23.63 today. STX is currently trading at a forward P/E of 2.31, with $761 Million in levered free cash flow and an expected 5-year growth rate of 36%. I believe STX is oversold at this point (this doesn't mean it won't trade lower), and we should add long exposure using our buy/write strategy again. Selling the Sept $24 call and put will bring in approximately $5.87 in option premium.

In conclusion, a little patience has paid off in allowing COL to trade lower and with the market in more of an oversold position (all things being equal) today we can add long exposure into STX at a significantly lower entry price.

Recommendations:

  • Buy to Close, COL, at the market
  • Buy ½ the desired number of shares willing to own, STX, at the market
  • Sell STX Sept $24 call (STX120922C00024000), at the market (approximately $2.67)
  • Sell STX Sept $24 put (STX120922P00024000), at the market (approximately $3.20)
  • Option contracts should equal the size of the ½ position exposure.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.