Twitter Inc.'s (TWTR) stock may be about to surge by about 20% over the next few months based on some bullish option trades. Additionally, technical analysis suggests the stock is nearing a potential break out, which also points a 12% rise in the coming weeks.
Despite all the bullish optimism among traders and investors, the stock is facing a number headwinds and is not cheap when considering its slowing earnings growth. Perhaps traders and investors are betting that all changes early next year.
Yesterday there was a sizable purchase of the February 15 $37 strike price calls. The open interest for the calls rose by 40,200 open contracts. With the contracts trading at a price of roughly $1.60, the outlay on the trade was about $6.5 million a sizable wager. Additionally, a position on the January $36 calls was closed reducing its open interest to 6,500 open contracts from approximately 47,000 open contracts.
For a buyer of those the $37 calls to earn a profit the price of Twitter's stock would need to rise roughly 24% to $38.40 from its current price around $31.16. The calls are trading around $1.40 per contract around 10 AM on November 29.
The technical chart also suggests that Twitter's stock is poised to rise in the coming weeks. The chart shows a bullish technical pattern forming called a flag. The formation is a continuation of the previous uptrend started in the middle of October. Should the stock break out to the next level of technical resistance come at $36.50.
The relative strength index also has broken a downtrend of its own and is now steadily trending higher. It suggests that the bullish momentum is moving into the stock.
Twitter shocked investors last quarter when the company easily topped analyst estimates. It has prompted analysts to raise their earnings estimates for 2019 to $0.87 per share, up from $0.78 in the middle of October. Additionally, revenue estimates also have increased to $3.4 billion from $3.3 billion.
The bad news is that the stock is still facing an incredible number of headwinds. The first being earnings growth is slowing to 5% in 2019 from 87% in 2018. Meanwhile revenue growth is expected to slow materially to 13% in 2019 from 23% in 2018.
It leaves the stock trading at a lofty valuation of 38.5 times 2019 earnings estimates. Not cheap when adjusting for that slowing earnings growth. But even worse is that the company continues to see its number of monthly active users decline since its peak in the first quarter of 2018.
Engagement growth continues to slow on a year-over-year and quarter over quarter basis.
Meanwhile, the cost per engagement is skyrocketing.
These slowing trends could prove to be a troublesome trend to overcome, especially given all of the negative headline big social media companies are currently getting in the news these around user privacy.
Traders and investors appear to be betting that the company may overcome these trends. After all, the company did shock investors last quarter, which has lead to the stock's recent reversal.
With the company likely reporting results in the at the end of January or beginning of February, the options bets are set to expire after results.
Of course, the biggest danger with this stock going forward are the negative trends as outlined above. Plus it's entirely unclear what the fallout may be from the user privacy concern and if it will cause more user to leave the platform. Additionally, it's still unclear if there will be steeper regulation placed on the industry resulting in even high cost for the company from additional levels of compliance, eating away at profits.
At least, for now, it would seem some are betting that the stock continues to climb and that the recent negative trends are about to change, leading to a more substantial gain for the stock.
Disclaimer: Mott Capital Management, LLC is a registered investment adviser. 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 results
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I am Michael Kramer, the founder of Mott Capital Management and creator of Reading The Markets, an SA Marketplace service. I focus on macro themes and trends, look for long-term thematic growth investments, and use options data to find unusual activity.
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