PepsiCo: Saved By The Bell

Jun.15.12 | About: PepsiCo Inc. (PEP)

PepsiCo (NYSE:PEP) is reminiscent of a prize fighter who is punched just as the bell rings and everything appears normal until he walks to his opponent's corner, after the round is over, due to being disorientated. I believe PepsiCo will be knocked down but not out in the next few weeks. Although everything seems normal, I believe there will be a delayed reaction to the blocks I have included here.

The block matrix I have provided has a filter threshold of 2 million shares. There are many additional trades that were not included. Nevertheless, these are the more significant trades, and I have indexed them in the following chart to illustrate their importance.

As you can surmise, there are serious price consequences that follow trades of this magnitude in this issue. Naturally, it asks the question: How can an issue as well capitalized as PepsiCo be influenced by such a small percentage of the capital? If the average daily volume is 5 million shares, then the 3,675,268-share block that traded on May 31, at $67.85, is pretty important and the 7,242,811-share block that traded on May 24, at $68.81, is all the more significant. The rudder of a super tanker is small in relation to the size of the ship. This is the case with all control surfaces. Their size is not as relevant as their strategic positioning.

I believe that PepsiCo had been extensively distributed by the Designated Market Maker in this issue, and lower prices will follow in the not too distant future. This is in connection with the Dow approaching substantial resistance. I do not believe the Dow will penetrate the resistance. However, if it does, it will not be for any longer than necessary to induce investors to climb aboard, so that the Designated Market Maker can sell short before moving to lower levels. Just from observation, it appears to me that the talking heads are really trying to keep the air from escaping out of the balloon. Metaphorically speaking, they are puckering their lips and blowing pretty hard.

Click to enlarge image.

Click to enlarge

On the basis of the foregoing, these are my views and observations:

The Trade

I recommend establishing a short position in PepsiCo. Open your position with only one-fourth of whatever capital you intend to commit to PepsiCo at $69.75. Purchase the remaining three-fourths of the position at $75.33 and stop out at $78.28. Do not post your stop out. I have said it before, but it is so important that at the risk of being redundant I will say it again: It is too easy for the Designated Market Maker to cash investors out by moving the price above or below your stop out and moving the price right back down or up again. In addition, when a stop out is triggered, it converts into a market order and that could be disastrous if the Designated Market Maker decides to really take advantage. Remember the "Flash Crash"?

I would be looking to exit the trade at a downside price target of $65.48. Do not allow this position to exceed 5% of your overall portfolio. I would seriously consider re-establishing a long position at or near $62.83 and apply the same rules for position sizing. You could also sell some near close-to-expiration puts in the hopes of having the stock put to you. If it is put to you, then the premium will bring the cost basis down and if not then the premium is money in your pocket.

There is always the possibility that the trade may not work out.

Never a Sure Thing (Particularly in a Short)

Investors must realize and recognize that there is never a sure thing. Sometimes events that have a low probability of occurring bring forth very serious consequences should they come into being. Investors must judiciously consider what the inherent practical limits are and how much they stand to gain in relation to the risks involved in establishing any position.

In addition, persistence can become desperate folly by allowing a losing position to become a viable argument for deciding on a new position. Rather, such decisions should be based on the current and soon-to-be circumstances.

Any position in which one unexpected factor has a significant impact on your portfolio is the result of poor planning. It is a fault most commonly associated with people who want to explain away their losses. If you follow the process recommended and the trade does not work, the overall loss in this model is $3,000.00. That amounts to 0.003 of the overall portfolio (theoretically valued at $1,000,000).

Finally, never be a brave and brainless investor, because a fool and his money are soon parted.

A portfolio of $1,000,000 should position size in the following manner:

This is a trade, not an investment. Be ever vigilant.

Disclosure: I have no positions in any stocks mentioned, but may initiate a short position in PEP over the next 72 hours.