Snowflake Is A Swing For The Fences
Summary
- Investors have huge expectations for SNOW's potential.
- Wall Street's consensus outlook is for mild price appreciation.
- The annualized option implied volatility, at 62%, is very high.
- The probability of price declines by year's end is high.
- There is also a low probability of huge gains.
Snowflake (NYSE:SNOW) is a cloud-based data management and storage provider that went public on September 16, 2020. The share price has been very volatile since the IPO. The market cap at the current share price is almost $74B. The substantial challenge with a company in such close proximity to the IPO is that there is little track record to go on. An additional complexity in the buy/sell/hold decision is the expiration of share lockups, and a big one occurs in March 2021. The market’s consensus outlook on future earnings, as reflected in the share price, has varied dramatically. From a low of about $217 in its first week of trading, the stock climbed to a high closing price of $380 on December 8, 2020. Since then, the stock has been in a fairly consistent decline and is currently at $272.17. The company reports Q4 2020 earnings on March 3rd.
Price history since going public and basic stats (Source: Seeking Alpha)
Wall Street Analyst Outlook
The outlook from Wall Street analysts is nominally bullish, with a consensus twelve-month price outlook that is 11.4% above the current price. The lowest analyst price target is only three percent below the current price. As is common with tech stocks that are well below a recent peak, the most bullish price target suggests that the price will regain some of its lost ground but rarely goes above previous highs. The biggest thing that jumps out from this consensus chart is the question of why anyone would take on a stock this risky for an expected twelve-month price gain of 11.4%. 
Wall Street analyst consensus rating and price target (Source: eTrade)
The Wall Street consensus outlook assembled by Seeking Alpha has an almost identical price target as eTrade’s. It is notable that sixteen of the twenty six analysts in Seeking Alpha’s cohort rate the stock as neutral, even as the consensus rating is bullish due to the seven analysts who are very bullish.
Wall Street analyst consensus rating and price target (Source: Seeking Alpha)
Outlook from the Options Market
Another way to generate an outlook for a stock is to analyze the prices at which options on the stock are trading. The market prices of options provide information about traders’ consensus outlook on the probability of the price going above a certain level (call options) or below a certain level (put options) over some period of time (from today until the expiration date of the options). By aggregating market prices of call and put options with the same expiration date but different payouts (different strike prices), it is possible to employ a mathematical model to calculate the implied probability of all possible future returns. This strategy is well-established in institutional finance. For some background, see the Minneapolis Fed’s web pages on their implementation. For a review of the literature on how options prices are useful in generating outlooks in general and with examples using my version of this approach, see this presentation.
The option-implied probabilities of expected price returns are charted as a probability distribution. When I chart the option-implied probability distribution for future return, I rotate the negative side of the distribution about the vertical axis so that the relative probabilities of positive and negative returns are easier to see.
The price outlooks derived from options prices are probabilistic rather than a specific forecast of the future price. The options prices may indicate increased or decreased likelihood of gains or losses and this provides insight into the prevailing beliefs of those buying and selling options.
I have used options on SNOW expiring on December 17th to create a price return outlook between now and that date. I chose December 17th options because these expire closest to the end of 2021. This analysis provides a probabilistic price return outlook until almost year end.
Option-implied price return probabilities to December 17, 2021
The single most-probable price return between now and December 17, 2021 is -25%. The range of possible outcomes is very large, however, so the peak in the distribution is not terribly meaningful except as a directional indication. The probability of negative returns is substantially higher than the probability of positive returns of the same magnitude for returns in the range +/- 60%. For larger-magnitude price returns, the probability of positive returns is higher. This reflects the positive skewness in the return outlook implied by options prices. The annualized implied volatility from these options is 62%.
Percentiles of option-implied price return probabilities to December 17, 2021
The positive skewness is even more evident when the price return probabilities are charted as percentiles. The 95th percentile outcome is a price return of +114% and the 5th percentile outcome is a price return of -72%. The crossover between negative and positive price returns occurs at the 62nd percentile, which means that the aggregate options prices assign a 62% probability to price returns less than or equal to zero and a 38% probability of positive price returns.
The option-implied price returns are what one expects for a young company with a lot of potential. Most of the time, the company will fail to take off. In a small fraction of cases, however, the company achieves greatness.
Summary
I have analyzed a number of stocks which exhibit the kind of high positive skewness in option-implied returns that we see with SNOW. The consensus opinion implied by options on SNOW at a range of strike prices is that the most probable outcome to year’s end is to lose money, but that there is also a possibility of massive gains. In the case of SNOW, the consensus opinion of the Wall Street analysts is modestly bullish, with price targets that are only 11% above the current price. With annualized implied volatility from the December 2021 options of 62%, the risk level is very high. A bet with expected return of 11% and volatility (standard deviation of return) of 62% is not attractive. If I believed that the expected gain is 36% (in line with the highest analyst price target from eTrade’s cohort), this would start to look like a reasonable bet. The option-implied price return outlook is tilted towards negative returns, however, which definitely carries some weight. The option-implied price returns paint a ‘go big or go home’ scenario, with a high probability of poor outcomes and a small probability of huge gains. My final rating is neutral because this is a stock that I wouldn’t buy at the current price but I would also be afraid to go short.
This article was written by
Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.
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Comments (22)
Living in Silicon Valley has taught me that there are probably 100 new startups that have a better product then SNOW! They will all trickle in the next few years.
Getting info from the Databases, running ETL's, and then layering in AI have been used for last 50 years, and having worked in the valley, I can tell you, It is not rocket science.
Remember it was all Relational DB, then it was SQL, then it was NO SQL and then it was BIG Data then it was Mongo and then..........A lot of ways to put a lipstick on the pig.
Now it you want something NOT fly by night....There is $ORCL (not a big fan), $MSFT, $GOOGL, $ADBE, $AMZN, $CSCO, $ADSK, $VEEV and tons other really good companies that have stand the test of time.
FYI, I spend over 60-70 hours a week on my portfolio management. So If I make investment beyond these rules, that means that I have read a lot about them and have a strong conviction.
Here is my criteria for choosing a stock. Most of these stock may not qualify. $MDB would not qualify.
Has to have for cut 1:
1) Ten years of stock price in stairstep up trajectory.
2) Two years of Ten years could have 10% or less of a drop in price but not sequentially.
These stocks move to cut 2:
1) I should be able to explain business to my 14 year old.
2) Operating margins over 35%, high operating leverage/efficiency
3) Cash flow yield higher than 30 year bonds
4) Revenue growth year over year
5) No turn arounds
6) No dividend (or less than 1% yield)
7) Low debt
These stocks move to cut 3:
1) Technicals (Elliotwaves and Andrew pitchfork ) should show stock appreciation of 20%-30% in the next 2 years.
These stocks move to cut 4 (Buying)
1) Stock vs Options decision
2) If I buy stock I right away right a call (hurdle rate is 20% ROI)
3) If options have lucrative ROI, I buy leaps vertical bull spread. So I would be buying Jan 2023 leap calls (slightly ITM) and sell Jan 2022 leap calls (OTM 20% or so) for RISK MANAGEMENT . For Diagonals, As long as spread is available for 50% of the length of the spread, I go for it. For Simple vertical bull call spread 33% of the length of the spread is preferable.
I hope this helps!!
For e.g. I got into ADBE in 2016 and have not been unhappy at all.
