Monday, March 24, 2014

NKE: Bearish on athletic shoes

Update 5/13/2014: I've removed NKE from the Roll Shelf after it closed above its 10-day price channel, signalling an end to the series.

I only had the one bear position in NKE. The stock lost 1.5% over 28 days, or 19.1% annualized. My bearish options produced a 48.1% yield on risk, or 626.4% annualized. Calculating the results another way, the options showed a 91.7% yield on the debit.

The yield on risk is a bit tricky with synthetic short futures spreads like this one. I wrote up my method for calculating it in a post last March, "Options: Calculating results".

Update 4/21/2014: I've rolled out my bull position after NKE hit its stop/loss point. The symbol remains on the roll shelf and I won't calculate results unless it moves above its 10-day price channel.

Update 3/24/2014: I've opened a bear position in NKE, structuring it as synthetic short futures, long the $75 put and short the $75 call, both expiring July 18.

Nike Inc. (NKE) is working its way down from its December peak in what appears to be the start of a correction that will eventually take back a portion of the rise from June 2012. The uptrend carried the price from $42.55 to the $80.26 peak.

NKE showed that it had downside momentum behind it as it broke below its 20-day price channel on Friday and confirmed the bear signal by trading still lower today.

The Chart

I've hedged my conclusion with "what appears to be" because it is too early to be certain what degree or magnitude of movement my analysis of the decline represents.

NKE was on the rise for 20 years and on Dec. 9, 2013 completed the trend with wave 5 {+4}.

If that peak is not the end of the massive uptrend that began decades past, then NKE is taking the first steps in wave A {+4} to the downside, the beginning of a three-wave correction. If the uptrend is over, then  the present wave is 1 {+4}.

In either case, at one degree smaller the count is the same: A five-wave downtrend at  the {+3} degree.

Click on chart to enlarge.
NKE 2 years daily bars (left), 20 days 15-minute bars (right)
For my chart analysis, I've chosen to assume that the uptrend is still underway, based on the fact that the broader market averages have yet to move into a clear downtrend.

I've labeled the beginnings of the correction at the base degree (1, 2, 3 ...), but that's an arbitrary choice. I don't know the degree yet and won't until the correction has worked its way forward to a significant extent.

Within the correction, NKE is in the middle leg, wave 3, and within the middle subwave, wave 3 {-1}.

Wave 3 must exceed the end of the preceding wave 1 of the same degree, which was $69.85 on Feb. 5. That gives NKE at a minimum 7.5% of downside potential from today's open, and possibly much more.

Internally, wave 3 {-1} has already satisfied its minimum requirement, having moved well beyond the end of wave 1 {-1} at $78.03 on March 12. That means that Wave 3 {-1} could end and be followed by a short-term correction to the upside at any time, taking back a portion of the decline from $80.08 on March 18, the wave 2 {-1} peak. If it does, the degree suggests that we're looking at a correction lasting a week or so at the longest.

A reversal above $59.85 that moves above $80.09 would invalidate my analysis and would mean that waves 5 {+3} and 5 {+4} have not yet ended. For that to happen, NKE would have to rise 6.1% above today's open.

Odds and Yields

NKE clearly hasn't experienced much in the way of downtrends, and the historical odds reflect that fact. In a word, they're awful.

The rise since wave 5 {+4} began produced seven completed bear signals. One succeeded, yielding 2.6% over 43 days. Six were failures, losing 5.1% over 15 days. The resulting win/lose yield spread is a negative 2.5%.

Nearer in time, since the start of wave 5 {+3} NKE has had two bear signals, one successful for a 2.6% yield over 43 days, and the other unsuccessful, losing 5.9% over nine days.

The winning signal came within the correction after the Dec. 9, 2013 peak.

The Company

Nike, headquartered in Beaverton, Oregon, is the world's largest supplier of athletic shoes and apparel. The company's products, branded with the famous Nike Swoosh, are mainly manufactured outside of the United States.

About half of its market capitalization comes from footwear, and about a quarter from shirts, shorts and other apparel.

Analysts on average come down with a negative 14% enthusiasm rating

Return on equity is 24% with debt amounting to 11% of equity. The combination puts NKE in growth-stock territory by my definition.

Nike's earnings tend to peak in the northern-hemisphere summer. The summer quarter of 2013 was higher than its 2012 counterpart, ending a string of at least two declines in corresponding quarters. The peak summer quarter earnings of the last four years were recorded in 2011.

Earnings have surprised to the upside 11 times in the past three years. The one downside surprise came back in 2012.

The earnings yield is 3.96%, lower than 75% of other footwear companies, and the dividend yields 1.28% annualized at current prices. The dividend yield is about a third of the earnings yield.

The stock is priced at 25 times earnings and also sells at a premium to sales. It takes 2.46 in shares to control a dollar in sales.

Institutions own 81% of shares.

The company next publishes earnings on June 23. The stock goes ex-dividend in May for a quarterly payout of 24 cents per share.

Liquidity and Volatility

NKE on average trades 5 million shares a day and supports a wide selection of option strike prices spaced $2.50 apart near the money. The front-month at-the-money bid/ask spread on puts is 1.4%, about double that of the S&P 500 exchange-traded fund SPY.

Implied volatility stands at 21% and has taken a sharp tumble from a near-term peak of 29% on March 17, bringing it in line with historical volatility, which stands at 20%.

NKE's volatility is higher than that of SPY, which is 15%, and stands in the 45th percentile. This is neutral territory, where a short shares position or its equivalent has the best chance of success.

Options are pricing in confidence that 68.2% of trades will fall between $70.28 and $79.24 over the next month, for a potential gain or loss of 6%, and between $72.61 and $76.91 for the next week.

Contracts are trading actively today, with puts running at more than double their five-day average volume and calls at 56% above average.

Decision for My Account

I see NKE as being eligible for a bear play, despite the fact that the downtrend is still in early days. The chart count suggests that the downtrend really has begun.

The financials are aggressively bullish, which runs contrary to my chart analysis, but that's a normal relationship early in a decline. The markets anticipate the financials every time.

I intend to open a bear position today if NKE continues to show downward momentum in the last half hour of trading. I'll structure it as a short-shares equivalent known as a synthetic short future, long the puts and short the calls at or near the money, with both legs having the same strike price and expiration.

If momentum falters, then I'll add NKE to my Watchlist as a potential future trade.


My shorter-term 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. The principal practitioner 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

Several web sites summarize Elliott wave theory, among them, Investopedia, StockCharts and Wikipedia.

See my post "Chart Analysis: Nomenclature" for an explanation of my method for labeling waves on the chart.

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 decisions for his or her own account, and take responsibility for the consequences.

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