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Bullish On Twitter; What About A Cash-Secured Put Option?

Bullish On Twitter; What About A Cash-Secured Put Option?

Investors who own stock in the micro-blogging and social media platform Twitter (NYSE:TWTR), have seen strong returns in the past 12 months. Since June 2020, the shares are up around 6%.

In February, TWTR stock hit an all-time high of $80.75. Currently, the stock is hovering around $58.00.

Bullish On Twitter; What About A Cash-Secured Put Option?
Twitter Weekly Chart.

Some investors are now debating whether further profit-taking could pressure the stock in the summer months. Meanwhile, others who didn’t get in to Twitter earlier in the year, are wondering if they might have a chance to buy in at an even cheaper level in the near future.

Today we look at Twitter stock in light of the most recent Q1 earnings and examine how investors may consider selling cash-secured put options on Twitter. Such a trade could especially appeal to those who want to receive premiums (from put selling) or to potentially own TWTR stock for less than its current market price of $58.09, as we write on Tuesday.

We previously discussed the mechanics of cash-secured put selling using ExxonMobil (NYSE:XOM) stock. Readers who are new to put selling may want to consider reviewing that article.

Twitter Q1 Earnings

  • Intraday Price: $58.09
  • 52-Week Range: $28.23 – $80.75

San Francisco-based Twitter released Q1 2021 figures at the end of April. Revenues rose by 28% year-over-year (YoY) to $1.04 billion. Twitter generates revenue from advertising (more than 85%) and licensing the user data that it compiles.

Monetizable daily active usage (mDAU) reached 199 million, an increase of 20% YoY. Net income was $68 million and diluted EPS came at 8 cents. These figures compare to a net loss of $8 million in Q1 2020. Net cash from operating activities in the quarter was $390 million.

CFO Ned Segal commented:

“Q1 was a solid start to 2021, with total revenue of $1.04 billion up 28% YOY, reflecting accelerating YOY growth in MAP revenue and brand advertising that improved throughout the quarter. Advertisers continue to benefit from updated ad formats, improved measurement, and new brand safety controls, contributing to 32% YOY growth in ad revenue in Q1.”

Management now expects total revenue to be between $980 million and $1.08 billion in Q2 2021.GAAP operating loss is expected to be between $170 million and $120 million. Twitter will likely release financial results for the second quarter on July 22, after market close.

So far in 2021, TWTR stock is up about 7%. Forward P/E and P/S ratios are 68.17 and12.03, respectively. Despite the recent decline in price, these metrics point to a frothy valuation level by historical standards.

Selling Cash-Secured Puts On TWTR Stock

Investors who write cash-secured puts are typically bullish on a stock during the timeframe that extends to the option expiry date. They generally want one of two things, i.e., either to:

  • Generate income (through the premium received by selling the put), or
  • Own a particular stock, but find the current market price per share (i.e., $58.09 for TWTR now) higher than what they’d like to pay.

One put option contract on Twitter stock is the option to sell 100 shares. Cash-secured means the investor has enough money in the brokerage account to purchase the security if the price of the stock falls and the option is assigned.

This cash reserve must remain in the account until the option position is closed, expires, or the option is assigned (meaning ownership has been transferred).

Let’s assume an investor wants to buy TWTR stock, but does not want to pay the full price of $58.09 per share. Instead, the investor would prefer buying the shares at a discount in the next 6-10 weeks.

One possibility is to wait for Twitter stock to fall, which it might or might not do. The other possibility is to sell one contract of a cash-secured TWTR put option.

As a result, the put seller would take on the obligation to potentially buy 100 shares of TWTR at a certain price (the strike price) by the expiry date, and get paid a certain amount of premium now for taking on that obligation.

So the trader would typically write an at-the-money (ATM) or out-of-the-money (OTM) TWTR put option and simultaneously set aside enough cash to buy 100 shares of Twitter stock.

Let’s assume the trader is putting on this trade until the option expiry date of Aug. 20. As Twitter stock is currently $58.09, an OTM put option would have a strike of 55. The seller would have to buy 100 shares of TWTR at $55.00 if the option buyer were to exercise the option to assign it to the seller.

The TWTR Aug. 20, 2021, 55.00-strike put option is currently offered at a price (or premium) of $3.38.

An option buyer would have to pay $3.38 X 100, or $338, in premium to the option seller. This premium amount belongs to the option writer (seller) no matter what happens in the future, i.e. until or on the day of expiry. This put option will stop trading on Friday, Aug. 20, 2021.

Risk/Reward Profile For Unmonitored Cash-Secured Put Selling

Assuming a trader would now enter this cash-secured put option trade at $58.09, at expiration on Aug. 20, the maximum return for the seller would be $338, excluding trading commissions and costs.

The seller’s maximum gain is this premium amount if TWTR stock closes above the strike price of $55.00. In that case, the option expires worthless.

If the put option is in the money (meaning the market price of Twitter stock is lower than the strike price of $55.00) any time before or at expiration on Aug. 20, this put option can be assigned, and the seller would be obligated to buy 100 shares of Twitter stock at the put option’s strike price of $55.00 (i.e., at a total of $5,500).

The break-even point for our example is the strike price ($55.00) less the option premium received ($3.38), i.e., $51.62. This is the price at which the seller would start to incur a loss.

On a final note, the calculation of the maximum loss assumes the put seller was assigned the option and purchased 100 shares of TWTR at the strike price of $55.00. Then, in theory Twitter stock could fall to zero.

If the put seller gets assigned the option, the maximum risk is similar to that of stock ownership, but partially offset by the premium (of $338) received.

Bottom Line

Cash-secured put selling is a moderately more conservative strategy than buying shares of a stock outright at the current market price. This strategy might be appropriate for investors who want to buy (or at least do not mind buying) high-quality companies, like Twitter, at a price that is lower than the current price.


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