Friday, March 23, 2012

FMCN: Ads for the eyeballs of China

Focus Media Holding Ltd. (FMCN) runs an interactive digital media network from its headquarters in Shanghai, China. That's a fancy way of saying sells advertising on its liquid crystal displays. Think "Times Square" and you'll get the picture.

Then think "China" and you'll get an idea of the scale.

Focus media has about 170,000 LCD displays in more than 90,000 commercial buildings in 90 cities. That's a lot of potential eyeballs to trade for advertisers' dollars.

Back in the days of classical Western imperialism (as opposed to the present neo-con variety), businesses sought their fortunes providing oil for the lamps of China, the reasoning being there were lots of Chinese people and so they had a lot of lamps, and that means lots of oil.

Focus Media Holding's business model, ads for the eyeballs of China, follows the same reasoning, but with the added advantage of being a home-grown company, not an imperialist interloper.

FMCN was one of eight companies added today to the Zacks top-buys list. Only two of the companies had any degree of liquidity, and FMCN had the best chart of the two.

I say "best chart", but it is a struggling chart. FMCN's big picture (like every other company on the face of the globe) is a zig-zag from a pre-recession peak to a shocking recession low, and then a recovery that faltered in November 2011 and then resumed its rise.

Where FMCN differs is that its post-low recovery has been weaker than many, as has its post-falter rise.

Momentum traders, always seeing the glass as half empty, will theorize that the weakness is a fatal flaw. Value traders, seeing the glass as half full, will exclaim, "What a bargain!" and try to find a reason to buy.

The resistance ladder looks like this: The post-recession high, before the November falter, was $37.58 in May 2011. The falter, stairstepping down, reached a low of $14.80 in November 2011. (Actually, the low was $8.79 in a one day downward spike and retracement that I'm rejecting as an outlier.

The post-falter high of $30.08, recorded on March 20, pushed above the level of a failed reversal attempt  on Nov. 18 that peaked at $28.60 before tumbling downward with a gap. The present breakout also failed, not with a tumble but with an orderly retreat back below $28.60, and the price is again trying to break above that level.

Other significant resistance levels are $32.93 from September 2011, $34.51 from August 2011, and of course the post-recession high of $37.58.

None of this promises a smooth ride up, but neither does it preclude a rise. It just means that the trader will be required to use the position management skills that we all ought to be using under any circumstances.

FMCN has a return on equity of 16% -- respectable although not growth stock territory. Long-term debt is quite low, amounting to only 8% of equtiy.

Institutions own a bit over half of the shares and have bid up the price to an expensive level; it takes $4.77 in shares to control a dollar in sales.

Focus Media Holding carries with it a degree of news risk. Last fall a report from Muddy Waters Research accused Focus of  "fraudulently overstating" the number of screens in its network by about half.

About 2.2 million shares of FMCN's U.S.-listed shock are traded daily, on average. That liquidity supports a wide selection of options with three- and four-figure open interest and relatively narrow bid/ask spreads.

Focus next publishes earnings on May 24. The stock goes ex-dividend on March 28 for a quarterly payout returning 1.9% annualized.

Implied volatility is at historic lows, at 0.60, implying a 68.2% chance that FMCN will close between $23.85 and $33.77 a month from now.

By the standard playbook, that low implied volatility suggests I should have a net long position in FMCN -- an options spread, for example, that decreases in value as time passes (theta-negative).

On the other hand, with so much resistance, if the price stalls then I want a net short options position, something that gains value as time passes (theta-positive).

One way to play it would be as an iron condor -- a theta-positive construction involving calls and puts at four strike prices. Here is Wikipedia's discussion of the iron condor. The iron condor profits as long as the price remains within a range, and a breakout below or above that range turns the position to losses.

FMCN's resistance ladder suggests that range trading is a strong possibility, and even suggests where the range should be placed, consistent with the implied volatility month-out levels.

I see it as an iron condor play with April expiration, a $33 strike for the high end of max profit, which is above the next higher resistance level, and $26 for the low end, which is at the middle of the most recent near-term stall point.

That gives net credit amounting to about a 22% return on risk. Not too bad.

Decision for my account: I've opened an April iron condor on FMCN, short $33 call and the $26 put, with the wings $2 out on either side.

Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.
No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decision decisions for his or her own account, and take responsibility for the consequences.

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