Name That Trade $EMC: $VMW Stake Weighing On Shares

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We have gotten a few questions of late on EMC, and frankly it is not a name we have done a lot of work on, or kept a close eye on since I had some comments in early Jan prior to their Q4 earnings (read below).   EMC Is particularly interesting after yesterday’s Tech out-performance, particularly in large cap old tech like MSFT, INTC, CSCO & YHOO, which continues today.  Heck even AAPL is up today, and EMC red (was when I started writing at 9:35am), making a fresh new 52 week low this morning.

EMC 5 yr chart from Bloomberg

EMC 5 yr chart from Bloomberg

 

Make no mistake about it, the technical set up here looks dismal, if the stock does not hold long term support we could see a re-test of the next real support at $20.

But here is the thing, u can’t look at EMC without looking at VMW, EMC owns 80% of VMW, and VMW is 50% of EMC’s value.  VMW’s earnings miss in Jan and its subsequent 25% sell off have weighed on EMC shares, despite EMC’s slightly better than expected results.

VMW 1 yr chart from Bloomberg

VMW 1 yr chart from Bloomberg

 

Recently on March 14th, EMC held its annual analyst day and investors have had plenty of time to weigh the potential positives of EMC’s attempts to diversify away from their core hardware business into their growing cloud suite of services, vs the continued slowdown of VMW’s core server virtualization due to high penetration.

EVENT: The street remains very positive on EMC with 37 Buys, 7 Holds and no sells with any avg 12 month price target of ~$30, while short interest only sits at about 2.5% of the float.  The company is set to report their Q1 earnings prior to the open on April 24th, and the options market is pricing about a 3.75% move vs the 4 qtr avg move of about 2.6%.

Options Snapshot: Put open interest is greater than call open interest by 1.15x, with the most open interest for both calls and puts out in Jan14 expiry.  Recent option volumes over the past month have been quite light relative to total open interest.

From a volatility standpoint, implied volatility (red line) has slowly started to rise ahead of Apr 24th earnings, while realized volatility (blue) has been around 20 for most of the year.

1 year chart of 30 day IV vs. 30 day RV, Courtesy of Bloomberg

1 year chart of 30 day IV vs. 30 day RV, Courtesy of Bloomberg

Options are priced fairly on a pure volatility basis.

My View:  EMC’s near term will be determined by VMW’s Q1 results and guidance on Apr 23rd after the close and by their own Q1 results and guidance on Apr 24th before the open.  With some its old tech peers rallying on seemingly no real fundamental news this week, it strikes me as odd that EMC has not joined the party.  Are we about to get a poorly kept secret of an earnings warning by one or both??  I obviously have no clue what the results will be and given some of the commentary we have seen from enterprise tech firms so far (ORCL and FFIV) it does nor exactly feel like a robust spending environment.

From purely a technical perspective, the $23 to $25 level is massive, and if I am going to play this is the exact support / resistance levels I want to isolate.

EMC 1 yr chart from Bloomberg

EMC 1 yr chart from Bloomberg

IN the past I have flagged EMC as one of the few large cap tech stocks that have projected earnings growth of about 10% the next 3 yrs and revenue growth in the high single digits that trade below a market multiple.   Despite MSFT and INTC’s weaker expected growth, both pay healthy dividends that yield more than 3%, which could be one large reason value tech investors have shunned the stock of late.  I suspect this may be a topic of conversation for investors despite the company’s need to continue to make acquisitions to augment growth.

So in sum, It feels like a fairly mixed fundamental picture for EMC at the moment, with many of the drivers of the stock out of their control (VMW).  But with animal spirits working their way back into old tech, this one could set up nicely for a defined risk long play into Q1 earnings.

With the SPX at fresh highs, I am not gonna chase anything right here, but if I were I think In The Money Call Butterflies could make sense.  The one that I am looking at is:

Hypothetical Trade: EMC ($23.25) June 22/25/28 Call Butterfly for 1.10

-Buying 1 June 22 call for 1.85

-Sell 2 June 25 call for total of .80 or .40 each

-Buy 1 June 28 call for .05

Break-Even On June Expiration:

Profits of up to 1.90 btwn 23.10 and 26.90, max profit of 1.90 at 25

Losses of up to 1.10 btwn 22 and 23.10 and btwn 26.90 and 28, max loss of 1.10 below 22 and above 28

Trade Rationale:   If the stock is going to bounce either on a broad market rally or stock specific news, isolating a technical levels to inform our strikes makes sense.  The $25/$26 level should be significant short term resistance.  But as you know we are not in the business of catching falling knives, and therefore we are inclined to define our risk in a manner that offers an attractive risk reward structure that could make money on just a mild move higher do to the in the money nature of the call fly.

I THINK ONE MORE RE-TEST OF THIS MORNINGS LOWS, AND A HOLD OF THOSE LOWS COULD OFFER AN ATTRACTIVE ENTRY FOR SUCH A STRUCTURE.

 


MorningWord 1/04/13: Payrolls Yawn, $EMC Price Action Pointing To Continued Weak Enterprise Spending?

9:19 AM EDT – JANUARY 4, 2013 BY  (EDIT)

MorningWord 1/04/13:   On the single stock front, with the Nasdaq Composite up 2.68% out of the gates in 2013, it is hard to find too many large cap tech stocks that are actually down on the year.

EMC’s weak performance ytd (down 3.68%) is in fairly stark contrast to IBM, ORCL, MSFT & CSCO’s gains of anywhere btwn 2% & 4%.  One cause for the under-performance is likely the result of a couple cautious analyst calls on the storage supplier suggesting that the company will miss Q4 estimates as a result of “fiscal uncertainty” and that 2013 guidance could be in jeopardy.  What I find so interesting about the weak price action is that EMC is a stock that is fairly well loved among Wall Street analysts with 39 Buy ratings, only 6 Holds and NO Sells, and there appears to be a fairly large disconnect btwn the analyst community and that of investors with the stock only about 12%   off of the 52 week lows from last January.

EMC has been on my short list of large cap tech stocks that trade with a PEG (PE to expected Growth Rate) of about 1 or lower (EMC has a forward PE of ~12.7 and expected earnings growth of 13% in 2013).  I don’t use this metric to soley make investment/trading decisions but merely as an input, and a way to identify quality companies that may screen as cheap on other metrics.  It is hard to come by too many stocks in large cap tech that have expected eps growth of 10% plus that trade at that multiple (which also happens to be at a market multiple ~13x for 2013), IBM is also one of them but IBM is only expected to grow sales at about 2% a year for the next 2 years, while analysts expect EMC to grow sales at 9% and 12% respectively   The company has about $2.5b of cash per share on its balance sheet, but does not pay a dividend, could this be a catalyst for the stock or will they continue to buy back stock and use the cash for acquisitions?  EMC’s large stake in faster-growing VMW is also looked at as an under appreciated asset, but both companies are highly susceptible to slowdowns in enterprise tech spending…..currently it appears that EMC investors are expecting a continued slowdown.  We will be doing more work on the name as we head into their Q4 report on Jan 29th.