Tuesday, June 26, 2012

IGT: Betting on a pennant

International Game Technology (IGT) creates, builds and sells games and gaming gear of all sorts, from something played on a the Internet to the boxy things you might see in a casino. Which makes sense for a company headquartered in Las Vegas, Nevada.

The common thread is gambling, which puts the company, to a great extent, at the mercy of state legislatures and the Congress. With the culture having become far friendlier toward gaming in recent decades, odds are that IGT's prospects won't be scuttled by the house.

But it is important to remember that when IGT plays, the house is the governments, and they control the game. If their view of gaming turns sour, so do IGT's odds of winning.

IGT has been on a long, gentle, zig-zagging price slide since September 2009. It is presently in a leg up from the low of $13.12 set June 4 and is trading around $15.14. The previous leg fell from $17.37, a price hit on March 27, and if its past price pattern is prolog, then the current leg up will fall short of that level by a certain amount.

Based on a two-week pause in the decline, I'm betting on $16.60 or so as the main resistance for the uptrend.

However, the uptrend is presently in a pause, a pennant pattern that has so far lasted eight trading days, following a 5.7% opening gap on June 14 that was followed by a 14.5% intra-day rise. A pennant is a continuation pattern, suggesting that the uptrend will continue.

A break below $14.73 would invalidate the pennant pattern, although some chart-readers would allow a fall below $14.50 before getting worried. A break above $15.40 would mean that the uptrend had begun again. A break above $17.37 would suggest the possibility that the downtrend from 2009 was ending.

I'm interested in IGT because of its enthusiasm index, which stands at 11%. That shows analysts are a bit excited about this stock, although not so much that everyone has long ago put their chips on it.

My enthusiasm index gives positive weight to Strong Buy recommendations, negative to Hold, Sell and Strong Sell, and ignores Buy.

International Game Technology has return on equity of 18%, a bit below growth stock territory, and a high level of long-term debt, amounting to 110% of equity.

Institutions own 81% of shares, and have bid up the price so that it takes $2.21 in shares to control a dollar in sales.

Earnings accelerated through most of 2011, faltering in the 4th quarter, which is historically a weak period for the company, recovering during the historically strong 1st quarter.

The company hasn't seen a quarterly loss going to back to at least 2010. It has seen three quarterly downside earnings surprises, two of them in 4th quarters and one in a 2nd quarter. The other quarters have all seen upside surprises.

The only thing wrong with this picture is the long-term debt, and that's more a concern for people who intend to stay in an IGT position for the long term. That's not what I propose for my account.

IGT on average trades 5.9 million shars a day, sufficient to support an outstanding selection of option strike prices with high open interest (in the front month at least) and narrow bid/ask spreads.

Implied volatility stands at 37%, in the top half of the six-month range, and has been rising steadily since early June. Options are pricing in confidence that 68.2% of trades ove rthe next month will fall between $14.35 and $15.91.

Option volume is well below the five-day moving average, with puts further down than calls. I would expect that during a pennant formation or some other holding pattern.

The price is within the upper half of the fair trade zone for the last five days, which ranges from $14.93 to $15.16. Those prices encompass 68.2% of trades measured from the post traded price of the period, $15.09. That suggests that the stock is fairly priced but with traders pushing it higher over the very near term.

The company next publishes earnings on July 25. It goes ex-dividend in September for a quarterly payout yielding 1.59% annualized.

Decision for my account: One aspect of pennant lore in charting is that when the breakout comes, it will be explosive. Given that, I think I would to lay on a very simple position that didn't limit my upside. Shares are one possibility, but that provides no leverage. Long call options are leveraged and are my choice for this trade. 

I've opened a position consisting of $14 calls expiring in October. The chart/based stop/loss levels are based on the pennant, $14.72 or $14.49, depending upon which level the trader thinks will beak the pennant. I'm inclined for my account to the $14.49 level.

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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