RIMM - A Stock Selection Story
October 7th, 2007 by John BrasherToday’s post will take a look at a very popular stock from the viewpoint of one selecting a trade for covered call writing. Blackberry-maker Research In Motion (RIMM) is on quite a roll, closing at $113.87 on Friday, October 5th, pushed by an excellent earnings report on October 4th. RIMM appears on CallWriter’s Nasdaq 100 list for October and November, offering some nice flat returns:
OCT 110 Call $6.15 = 2.5% return (13 days)
OCT 115 Call $3.50 = 3.2% return (13 days)
NOV 110 Call $9.60 = 5.9% return (43 days)
NOV 115 Call $7.00 = 6.6% return (43 days)
Though the November returns are nice, the October returns offer a rate of return far higher. But how to judge RIMM from a call-writing perspective? Fundamentals rule, so let’s start there.
RIMM is highly profitable currently due to the success of its smartphone product. Earnings recently reported were approximately double the same quarter last year, yet they only dropped the P/E ratio to 74 (MSN), versus about 24 for the industry. The blowout quarter aside, though, earnings growth has not been great and earnings are very uneven, which keeps it from being considered a great company. Price to sales is about 8 times the industry average, price to cash flow 3 times the average. This puppy is very overvalued.
Fundamentally the company is strong, with A grades for growth and profitability, and MSN’s StockScouter gives RIMM a 10/10 rank, rating risk fairly low in relation to the stock’s expected return. Six months ago, it’s SS rank was 5/10, and the current change is due in large part to recent earnings, which may not continue.
Historical volatility (30-day) has been running about 50-57% (10-day is 64% due to movement on earnings release), which is not unusual for a mid-cap company, and implied volatility is about 45%; IV was higher before the earnings report, but after the release IV has fallen. The IV level basically is in-line with historical volatility; when it is significantly lower, we are not being paid for the stock’s actual volatility, remember.
Liquidity is good, with over 1,000,000 shares daily traded and over 25,000 open interest in each of the call series (yow). Speculators adore this stock, and with good reason.
Technically, the stock is in a strong uptrend and in the last few days spiked up strongly on the earnings report. In fact, the stock is right at its 52-wk high of $114.76. Whether RIMM can hold the price spike remains to be seen. Financial institutions are selling the stock quite heavy, indicating their view that RIMM has topped. Should future earnings not be so bright, RIMM will sell off, and certain institutions obviously are determined to avoid the rush. Given the high overvaluation, how much higher can RIMM go? That is hard to say, but it has traded with a P/E over 250.
VERDICT: RIMM is not a conservative write, due to the overvaluation, price spike, the uneven-ness of earnings (and possibility they won’t be repeated) and lack of steady earnings growth. I am not a fan of high-technology companies, but they have performed well in 2007. Since earnings were just reported, the next report is three months away and not an immediate risk. But the risk of a sell-off in the short term is definitely there, due both to the extreme overvaluation and the price run-up. RIMM is heavily written, among our members and others, and has produced stellar covered call returns this year. Since it normally packs good call premium, it is a perennial favorite.
The SuperPut strategy could be considered for RIMM. Here is how two selected protective puts compare:
Mar-08 110P $12.55 (cost = $2.09 per exp. month) 6 months
Jan-09 110P $20.40 (cost = $1.28 per exp. month) 16 months
By comparison, the NOV 110P is $5.70. RIMM carries a high premium as a normal thing due to its volatility, making it likely that the stream of premium income will yield a nice profit over the life of the put. A continuing runup in RIMM would make the protective put less protective as the stock rises, however, assuming that the writer is called out of RIMM and re-buys it or rolls the calls up with the stock’s rise.
I hope this is helpful. Don’t hesitate to leave a comment!
October 7th, 2007 at 10:18 pm
Being new to the service, are you saying to buy those puts but sell the Nov110 puts? or are you placing some call move I missed
October 8th, 2007 at 8:02 am
No, the goal is to write the calls for income and buy the puts for protection. The current OCT calls offer the best rate of return. The NOV 110P’s price is mentioned just to give perspective to the cost of the Mar-08 and Jan-09 110 Puts.
October 9th, 2007 at 9:46 pm
John,
Thanks for the analysis. RIMM has been phenomenal for me. I bought it at $84 and have been rolling up and rolling out the calls from Sept , Oct. and November. I currently have sold to open the November 115 calls - .RULKU. I really like this stock. I am up 30% since I bought the stock about Sept. 4.
I also BTC the calls a week before earnings and legged in after earnings and speculated correctly and made a good chunk of change and resold the calls.
I have “fallen in love” with the stock - since I have such great returns and I have bought/sold it several times this year.
Hearing that It is overvalued has made me defensive. I wonder if I should have sold to open the Nov. 115 calls.
I will heed your advice on the puts. I have not bought the puts yet.
My problem with RIMM has been just keeping up with it and rolling up. I’m not complaining since I have made significant amount of money moving up with the stock.
I had not realize so many funds have been selling it.
RIMM has been good to me.
See you in Orlando this weekend. I am looking forward to the seminar.
Thanks Marcos.
October 9th, 2007 at 10:27 pm
RIMM is quite popular among covered writers and speculators both. Keep in mind that if you are called out, you can always but the stock back. It’s OK to keep buying and selling the stock as it moves up. When bullish on a stock, you can always double up, too: buy ATM or slightly ITM calls and either 1) write calls with a strike price $5 or $10 higher, which creates a bull call spread in which the net spread is the maximum profit, and the extra calls written decrease the cost of the long calls; or 2) don’t write calls against the long calls but just hold them for speculation. RIMM is very overvalued, a fad stock now. At $36, it was still valued higher than the industry. What can I say: everybody loves RIMM. If it starts to tank, though, consider buying a multi-month put. If the stock falls and finds support, sell the put for a profit and hold the stock.