Sunday, August 24, 2014

INVN: A slice of the iWatch?

Update 9/23/2014: INVN closed below its 10-day price channel, and I've removed it from the Roll Shelf, ending the trading series.

During the 12 days I held the position the stock declined sharply by 7.7%, or 234.3% annualized. My options position produced a 58.3% loss on risk, or -1,774.3% annualized.

Update 9/10/2014: INVN got no bump out of the Sept. 9 announcement by Apple of the iPhone 6 and Apple Watch. It has fallen below its stop/loss point and I've sold my position, moving the symbol to the Roll Shelf. Under my rules, a move above the 20-day price channel means I consider entering into a new position, and a fall below the 10-day price channel means the series has ended and INVN is removed from the Roll Shelf.  As always, I defer calculating profit or loss until the entire series is complete.

Update 8/29/2014: INVN showed some upward momentum today and I've opened a bull position, timing my entry to have exposure prior to Apple's Sept. 9 iPhone 6 announcement.

I structured the position as a bull call spread expiring in December, long the $25 calls and short the $27 calls, and expiring Dec. 19.

I worked with setting up a non-directional straddle position, but the risk:reward ratio was skewed too heavily toward the risk side for my taste.

The chart is bullish, and that argues for a directional trade, so I'm comfortable with the risk I've assumed.

Rumors have been swirling around InvenSense Inc. (INVN) since last fall about whether the position-sensing chip maker would get a piece of the Next Big Thing from Apple Inc.

The rumormongers were disappointed when the iPhone 5 came out without it (Forbes). The future iPhone 6 and iWatch are the next targets proposed for INVN's future greatness (Wall Street Forensics).

An interminable stock-advice tout presentation (Motley Fool) that hit my Facebook feed on Saturday seems to me that it points toward INVN, but there's no reveal. It ends with a heartfelt cry of Send money! Subscribe! Learn more!

I enjoy good stories, especially those about Apple products. But I trade based on analysis and facts. So let's get down to business.

The Chart

INVN has only a short market history, having gone public in November 2011. As is usual in such cases, the chart jumps into the middle of the story. I've labeled the first major reversal post-IPO as the end of wave 1 {+1} in the Elliott wave framing. It could just as easily be wave 3 {+1}.

Whichever it might be, INVN's correction from the peak ended on May 1, 2013, and it subsequently worked its way upward to a peak of $26.78 on July 24 within wave 3 {-1} within wave 3 of wave 3 {+1}, according to my labeling.

Click on chart to enlarge.
INVN 2 years 9 months daily bars (left), 90 days 2-hour bars (right)
There's nothing I love more on a chart than seeing a string of 3rd waves of progressively higher degree. Even if the top degree's wave 3 {+1}, the middle wave of a trend, is really a final wave, 5 {+1}, the lower degrees suggest much upside potential remains.

Some inferences:
  • I think it's quite possible that the 2012 peak truly is the end of wave 3 {+1}. The following correction is a Flat, and they are more common in 4th waves than in 2nd waves, which tend to be Zig-Zags.
  • The July 24 peak is arguably the end of wave 3 {-1}. At the July 24 peak, wave 3 {+1} to the upside is more than double the length of wave 1 {-1}. The 3rd wave cannot be the shortest wave in the series and is most often the longest. No matter how lengthy the 5th wave turns out to be, wave 3 {-1} will be in conformance to the Elliott wave rules.
  • A counter-argument, that wave 3 {-1} is still underway and that the July 24 peak is actually the end of a subwave, 1 {-3}, can also be made. Wave 3 {-1}, if underway, as of Aug. 24 had lasted for 70 days. The 1st wave lasted 149 days. Typically, 3rds wave take more time to complete than 1st waves do. However, that common occurrence is not a rule.
This chart is bearish for the near term. INVN is in a counter-trend move to the upside within a counter-trend correction to the downside within an uptrend. Wave C {-2} to the downside lies ahead in order to complete wave 4 {-1}.

I don't expect a deep correction. I'm looking toward $22 more or less as the downside target.

In Elliott, corrective waves within a trend tend to alternate in form. Wave 2 {-1} beginning in March was a Zig-Zag, a sharp decline. Alternation suggests that the present wave 4 {-1} to the downside will be a Flat, what is commonly called a sideways correction.

The chart says "Wait!", but the INVN story and upcoming news events add a layer of complexity to the trading decision, as I'll discuss in a section below, "The Company".

Odds and Yields

INVN has completed four bull signals since May 1, 2013, when wave 3 {-1} began.

The results split evenly. Two were profitable, for an average yield of 36.7% over 81 days. Two were unprofitable, on average losing 7.4% over 24 days.

The resulting win/lose yield spread is 29.3%, which is quite large enough to overcome 50:50 odds, or even odds tilted somewhat against success. That's a huge spread.

The Company

InvenSense, headquartered in San Jose, California, makes motion sensing/processing integrated circuits that tell a device whether it has been moved left or right, or is upside down, or is being swung around in a vertigous circle at the end of a string. The tech has application in gaming controllers, robotics and indeed any hardware where motion and position information are required.

The InvenSense story goes sort of like this:

Significantly, in the eyes of some analysts, InvenSense' headquarters is only a few miles away from Apple Inc. HQ in Cupertino, creating an expectation of propinquity, especially in the hothouse community that is Silicon Valley, where all the rich smart people go to the same parties and make snarky remarks behind each others backs.

Activity monitoring has been big on Apple-watchers minds since Nike released its FuelBand  in 2012, given Apple's history of taking good ideas, improving the design, and running to market with its own version.

Motion sensing is a key component in any activity monitoring hardware.

InvenSense makes motion sensors that are considered to be quite capable, therefore . . .

It doesn't hurt that InvenSense was ranked 4th by Forbes last year among the best small companies in the U.S. (Read the write-up here.)

On the Devil's Advocate side, Apple has a broad reach and can go for what it considers to be the best components, which may or may not be those made by InvenSense. Propinquity in business means little in the Age of Globalization.

The activity monitoring craze may have run its course. I mean, I judge my distance by blocks walked along Portland's lovely tree-lined streets, and I know my normal walking and running speeds. Do I really need an expensive iWatch to show off after trading hours to my friends at Wholesome Blends Coffee?

While others consider InvenSense to be capable, Apple may not. Who knows how decisions are REALLY made in Cupertino?!?

The key to the story, really, is the calendar. Apple is said to be ready to announce the iPhone 6 on Sept. 9. There has been talk that the iWatch announcement will follow in October (although, also, other talk that it won't be released until 2015).

So the story suggests a need to trade this coming week; to buy the rumor, as all good traders do.

Analysts are cheering for InvenSense' prospects, coming down collectively with a 40% enthusiasm rating.

The company is profitable, reporting an 8.5% return on equity and with debt amounting to 43% of equity.

It has been consistently profitable throughout the 11 quarters since it began trading. Earnings peaked in the last calendar quarter of 2012, and then dropped off, and peaked again in the 3rd calendar quarter of 2013, subsequently dropping off even more sharply.

Four of the 11 quarters have surprised to the downside, including the most recent three quarters.

The earnings yield is 0.27%. the company pays no dividend.

The "fair" price for INVN, based on forward earnings and growth estimates, is $10.35 per share, making the stock overpriced by 147%. I've marked the "fair" price on the left-hand chart in purple.

Great expectations create great bidding frenzies, and often, great disappointments.

The stock is selling for 375 times earnings, and also at a high multiple to sales. It takes $9 in shares to control a dollar in sales.

Institutions own 78% of shares.

InvenSense next publishes earnings on Oct. 27.

Liquidity and Volatility

INVN on average trades 1.2 million shares a day and supports an extemely wide selection of option strike prices spaced 50 cents apart near the money.

The front-month at-the-money bid/ask spread on calls is 10.8%, compared to 1% on the most liquid symbol on the U.S. markets, the exchange-traded fund SPY.

Implied volatility stands at 44%, compared to 11% for the S&P 500 index, and has fallen sharply from 72% beginning July 29.

INVN's volatility stands in the 6th percentile of its one-year range, meaning option spreads bought with a debit are expected to have the best chance of success.

Options are pricing in confidence the 68.25 of trades will fall between $22.28 and $28.24 over the next month, for a potential gain or loss of 12.8%, and between $23.99 and $27.13 over the next week. I've marked the one-month range on the right-hand chart in blue.

Contract trading on Friday was skewed toward puts, which were running 3% above their five-day average volume. Calls were running 48% below average volume.

Decision for My Account

A classic Heart vs. Head decision. I love the story, and if its true, it would make INVN an excellent vehicle for a targeted play on the iWatch. AAPL shares themselves are fairly diffuse, given the size of the product line.

The story in quite compelling, but most stories are. That's what storytellers do, after all.

The chart is bearish, near-term, which argues against a trade, but bullish longer term, which argues for.

The fundamentals are ho-hum, although the service I use to short-cut my fundamental analysis, Zacks Investment Research, give INVN a bullish rating.

The price is high enough that I have visions of bubbles floating in front of my eyes.

The hedging and leverage provided by the options grid is quite good, and that argues in favor of a trade under my shorter-term rules.

One way to play it would be as a direction neutral options spread, such as a straddle. (That's the beauty of the options bestiary; there's a creature for every occasion.)

I'll make a decision about trading next week and shall update this  post with it.

-- Tim Bovee, Portland, Oregon, Aug. 24, 2014


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

From time to time 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 shorter-term 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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