Monday, October 28, 2013

SONC: Carhops deliver a bull signal

Update 12/31/2013: SONC took a sharp turn downward on Monday, and upon analyzing the chart, I decided to exit the position. I count SONC as having begun wave 4 on Dec. 9, and I'm exiting during wave C {-1} of that correction.

Click on chart to enlarge.
SONC 20 days 15-minute bars
The bull position was structured as long shares. During the 63-day lifespan of the position, the stock rose 5.9%, for an annualized yield of 33.9%.

SONC hasn't confirmed an exit signal by trading below the 10-day price channel, so I'll keep it on the Watchlist for now.

Update 10/29/2013: SONC regained its momentum and I've opened a bull position, structuring it as long shares. It has yet to exceed its high of $19.30 set on Oct. 28, but the intra-day momentum is sufficient to give me a degree of confidence that it will do so.

Sonic Corp. (SONC) broke above its 20-day price channel on Friday, and the bull signal was confirmed in trading today.

The breakout is part of a rise that began from $6.88 on May 9, 2012 and set a swing high today of $19.30, a level that remains below the all-time high of $26.19 attained in pre-Recession 2007.

The May 9 rise is wave III in an uptrend that began in the post-Great Recession cellar, from $57.78

Like most stocks with lower liquidity, the SONC chart's Elliott wave count is a bit raggedy. The primary ambiguity is the nature of the pull back and subsequent rise that I've labled as a possible 3rd wave extension on the left-hand chart.

SONC 2 years 2-day bars (left), 30 days 1-hour bars (right)

SONC peaked at $18.93 on Sept. 18, and then pulled back, eventually hitting a low of $16.75 on Oct. 22. My first thought was to call the pullback a wave 4 correction in November 2008, and the subsequent rise from $16.75 as wave 5.

However, the correction only lasted a month, and the prior wave 2 correction lasted four months. So there's a question of magnitude -- am I looking at the same degree of price movement in both cases, or is the shorter correction of September and October a degree smaller.

Time, as it always does on charts, will eventually tell. Whichever label is adopted, my conclusion is that SONC is in an uptrend of unpredictable duration.

This is SONC's sixth bull signal since wave 3 began in May 2012. Of the five completed signals, three were successful with an average gain of 16.5% over 65 days. The two unsuccessful trades lost 1.4% on average over 22 days.

In other words, it's a near perfect balance between the two outcomes -- the successes produce big gains and the failure small losses. The win/lose yield spread tells the story: A whopping 15.1%.

SONC was one of seven symbols that survived initial screening over the weekend, after removing stocks that broke out immediately after earnings were announced. (See "Monday's Prospects".)

I removed three from consideration because they had bearish ranks from Zacks: VNQ, LRY and GHL I generally prefer for Zacks' assessments and my trades to be aligned.

Two produced bull signals within bearish trends: MKC and ISCA. I prefer to trade with the trend.

That left SONC and PNR, and I chose SONC because its near-term chart produced a clearer Elliott wave count. The PNR chart looks like the work of an angry child with crayons.

Sonic, headquartered in Oklahoma City, Oklahoma, operates and franchises a line of more than 3,500 drive-in restaurants, owning about 13% of them and franchising out the rest. Sonic's signature practice is to have food delivered by carhops on roller skates; it even has an company-wide competition to find the best skater among its carhops.

Analysts aren't exactly hopping withenthusiasm for Sonic. Collectively, they come down at a negative 69% enthusiasm rating.

Sonic reports return on equity of 70% (not a typo), but with an extremely high level of debt amounting to six times equity (also not a typo). Despite the high returns, this is a not an attractive combination. Even with today's low interest rates, debt at six times equity would be cripping for most companies -- or households.

Earnings tend to be seasonal, peaking in the quarters that cover spring and summer. I mean, who goes to a drive-in restaurant when it's snowing in January?

Those two quarters, treated as a unit, have come in with higher earnings for two years running compared to the year before.

Those quarters, still treating them as a unit, had upside earnings surprises this year and last, and split between upside and downside surprises the year before that.

Institutions own 83% of shares, whose price has been bid up to where it takes $1.96 in shares to control a dollar in sales.

SONC on average trades 713,000 shares a day. It supports a moderate selection of option strike prices spaced $2.50 apart with some three-figure open interest near the money. However, the bid/ask spreads are way too wide for my taste, so I would structure any position I took in SONC as long shares.

But the options are a useful analytical tool. Implied volatility stands at 27% and has collapsed from 41% on Oct. 21. Volatility is just below the mid-point of the six-month range.

Options are pricing in confidence that 68.2% of trades will fall between $17.61 and $20.43 over the next month, for a potential gain or loss of 7.4%, and between $18.34 and $19.70 over the next week.

Contracts are trading at a slow pace, calls at 33% of the five-day average volume and puts at 17%.

Sonic next publishes earnings on Dec. 30.

Decision for my account: I intend to open a bull position in SONC, structured as long shares, if it shows upside momentum in the last half hour before the closing bell and shall update this analysis if I make the trade. Otherwise, I'll add SONC to my Watchlist.


My trading rules can be read here. And the classic Turtle Trading rules on which my rules are based can be read here.

I use the number 68.2% in using applied volatility to calculate the expected trading range. This comes from statistics and refers to the one standard deviation boundaries, which are expected to contain 68.2% of whatever is being studied. Putting it another way, given an item (a trade or whatever), there is a 68.2% chance that it will appear within those boundaries.

Elliott wave analysis tracks patterns in price movements. StockCharts has a good explainer. The principal practioner of Elliott wave analysis is Robert Prechter at Elliott Wave International. His book, Elliott Wave Principle, is a must-read for people interested in this form of analysis, as is his most recent publication, Visual Guide to Elliott Wave Trading

By preference I place my trades in the last half hour before the closing bell in New York. See my essay "When is the best time to trade" for a discussion of the practice.

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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