Tim Bovee, Private Trader: FSLR: No longer a story stock

Update 3/3/2015: FSLR gapped upward significantly on Feb. 24, turning a winning position into one of maximum loss. I lost a few more points waiting to see if there would be turn-around, but with time decay increasing on this long options spread, I have thrown in my cards and closed the bear position.

Share prices rose by 27.4% over the 110-day lifespan of the position, or a 91% annual rate. My options spreads produced a -3,575.0% loss on debit, for a -11,863% annual rate.

The lessons learned from this is the generic that applies to all positions: The longer you hold them, the greater the likelihood that something will happen to magnify the loss, or the profit. Something happened. This position lost.

Update 11/13/2014: I've opened a bear position in FSLR, long the $50 puts and short the $47.50 puts, bought with a debit and expiring in Mar. 20. The risk/reward and leverage are as described in the "Decisions" section below.

First Solar Inc. (FSLR) has moved beyond the realm of story stocks. Having lost her glittering castle, will the one-time fairy princess of eco-friendly energy be beset by raging bulls or roaring bears?

The Chart

FSLR counts reasonably as being in the final Elliott wave of its first downside wave from its peak of $317 in May 2008, the last of the golden days before the Great Recession struck.

I put in the weasel words -- "reasonably" -- because FSLR had its initial public offering in November 2006 at $24.50, one-thirteenth its value at the peak. With so little history, it is impossible to say with any certainty where FSLR fits in with the rest of the market as it continues its corporate journey.

Click on chart to enlarge.

FSLR 8 years 8 months weekly bars (let), 9 months daily bars (right)

Like FSLR, most of the market peaked in 2008, but afterward FSLR diverges. It's post-recession low was in 2012, not 2009, showing a strong reluctance on the part of traders to let go of the solar dream. However, thereafter FSLR has run with the pack -- a strong rise into this year and then a drop off that is not yet sufficiently steep to trigger the bearish alarm bells.

My Elliott wave analysis places the March 2014 peak of $74.84 as the beginning of wave 5 {+3} to the downside, the final wave of a decline from the 2008 high.

The ambiguity comes in considering what that decline represents. FSLR could the A leg of a downtrend correction (A {+4}) within an uptrend of the {+5} degree. Or it could be the first leg down, wave 1 {+4} of a larger downtrend of the {+5} degree.

Only the passage of time will provide the answer.

In the meantime, the count is clear that FSLR is in wave 5 {+3} of the decline, a move that will carry price below the June 2012 low of $11.43 before beginning a significant upside wave B {+4} retracement.

The degrees on the shorter-term chart on the right-hand side is speculative at best. What I've labeled as the base wave may well be a degree higher or lower.

The alternate counts that I've provided for the wave 3 decline have the advantage of allowing FSLR to do greater work to the downside. After all, the minimum target is still 76% below the present level.

Odds and Yields

FSLR has a 75% success rate with bear signals over the past year, for a net yield of 8.3%. This alone makes the stock a probability trade for bears.

The Company

In the days for fracking and another new techniques uncovered new reserves of fossil fuel in the United States, First Solar was a darling among story stocks, on of the companies that would bring solar power into the mainstream and free America from the foreign yoke of energy dependence.

Funny how stories don't always work out as hoped.

Policy as always has followed the path of least resistance, pulling newly available oil and gas from the ground to fuel the existing technologies and infrastructure rather than focusing on environmental issues and the shortages to come in order to get an early grip on the problem.

That's not to say that First Solar is a loser or even a less than stellar longer-term play. It has simply moved out of the realm of stories -- princesses and castles and free, ecologically sound clean energy -- into the hard realities of markets and quarterly profit expectations in a wholly pragmatic world.

First Solar, headquartered in Tempe, Arizona, manufactures photovoltaic solar energy panes and produces utility-scale solar energy for sale. It has more than 8 gigawatts of production capacity installed worldwide.

Outside of North America, it has offices in South America, Europe, Africa and Asia, with manufacturing facilities in Ohio and in Malaysia.

Analysts collectively come down with a negative 23% enthusiasm rating. Return on equity is on the low side, at 6%, with long-term debt equally low, at 3% of equity. The low debt leaves First Solar in a position to take advantage of opportunities, but the low return will tend to hold them back from embarking on adventures on an overly large scale.

Earnings hit their peak of the past three years in the 3rd quarter of 2013 and haven't come close since. Although the last quarterly loss was reported way back in 2012, earnings have shown no trend since.

First Solar has surprised to the downside six times in the last three years, most recently in the 2nd quarter of 2014, and six times to the upside.

Earnings per share have declined at a rate of 12.8% over the past five years. Forward estimates suggest further sharp decline in 2015, although not at such an extreme pace.

The earnings yield is 39.38%, compared to 2.35% on the U.S. Treasury 10-year note. The company pays no dividend.

The stock is priced at 2-1/2 times earnings and is selling at a premium to sales. It takes $1.58 in shares to control a dollar in sales.

First Solar next publishes earnings on Feb. 23.

Liquidity and Volatility

FSLR on average trades 3.7 million shares a day, sufficient to support a wide selection of option strike prices space $2.50 apart and open interest running from three to five figures near the money.

The front-month at-the-money bid/ask spread on puts is 6.5%, compared to 0.5% for the most-traded symbol on the U.S. markets, the exchange-traded fund SPY.

FSLR has Weeklys in addition to the regular monthly contracts.

Implied volatility stands at 46%, compared to 14% for the S&P 500, and has been declining since reaching a peak on Oct. 16. The present level is in the 21st percentile of the rise that culminated in that peak, a low level that implies that the most successful trades will be structured as long option spreads, bought with a debit and expiring in an out month.

Options are pricing in confidence that 68.2% of trades will fall between $41.27 and $53.75 over the next month, for a potential gain or loss of 13.1%, and between $44.51 and $50.51 over the next week.

Contracts are trading more slowly than in recent days, with puts running at 78% of the five-day average volume and calls at 73%.

Decision for My Account

Everything points toward FSLR as being a reasonable bear play. There will be the normal ups and downs, but I'm more confident that the down will be the profitable moves.

I'll structure the trade as a bear put options spread, long the $50 puts and short the $47.50 puts, bought with a credit and expiring Feb. 20.

Leverage is 2:1 and the risk/reward ratio is even, at 1:1.

I intend to open a position in FSLR in the half hour before the closing bell if the downtrend continues.

-- Tim Bovee, Portland, Oregon, Nov. 13, 2014

References

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.

Disclaimer

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.