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We are looking at Spotify (SPOT) today.
Shares of Spotify were up more than 12% on Thursday. The music streaming platform has been betting on the future of podcasts for a while. And, it was the podcast category that drove the stock price. An exclusive deal with Warner Bros. would bring a series of narrative-style podcasts featuring superheroes such as Batman and Wonder Women. It didn't hurt either that a new podcast with Kim Kardashian's involvement was announced. The company is unprofitable and doesn't have an impressive gross margin. However, it generates free cash flow and has no debt, which means it can fund its future without worrying about money too much. Content is the savvier of streaming services. We've seen a similar strategy working for video streaming platforms. Superheroes are doing their thing and saving streaming services, once again. It sure seems that Spotify is on to something with original podcast content. It is worth watching the stock.
If you don't have a brokerage account, here is one of the best we have found. We like the M1 Finance app that has an easy-to-use interface. Give it a try if you are in the market for a new brokerage account to invest in your well-researched stocks:
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We are looking at Texas Roadhouse today.
Shares of Texas Roadhouse were down more than 3% on Wednesday, Jun 6th 2020. The restaurant chain wasn't the only stock that lost some value on Wednesday. Earlier in June, quite a lot of hedge funds started to load up on restaurant stocks to take advantage of the lower prices. It seems that investors want to lock their gain and are still not 100% sure about the future of restaurants. Therefore, short-term gain suffices for now. The company is among restaurants with a strong balance sheet. It's got no debt, and has stopped paying dividends for now. Assuming that at some point the society goes back to normal, and people woudl go out to eat, this is a stock that can go back to stable oeprations and growing revenue.
If you don't have a brokerage account, here is one of the best we have found. We like the M1 Finance app that has an easy-to-use interface. Give it a try if you are in the market for a new brokerage account to invest in your well-researched stocks:
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Several of our users, professional investors, and to my surprise, venture capitalists and angel investors that I deal with are surprised by the unprecedented and unique upward movement of the stock market prices compared to the grim state of the economic outlook. For example, within our private user community, The Intelligent Stock Market Investors group, almost every day, we go through heated discussions about the irrational exuberance of the so-called perma-bulls and the doom and gloom view of the future by the more rational bears of the community. Who is on the right side of the debate? Is the dichotomy of eroding economy and growing stock market as surprising as it appears? I have been reading voraciously and reflecting on the arguments shared by both sides of the aisle. From clicking on Howard Marks' memos as soon as they land in my inbox, to venturing into the deep end of historical data, and re-listening to Nasim Taleb's Blackswan for the gazillionth time, I now have a few takeaways to share with our community.
Are we living in an unprecedented time?
No, we are not! My Dad was telling me about the malaria outbreak when he was a young man. He clearly remembers government officials visiting their house and spraying every nook and corner of the yard, even in the most rural areas. The vivid pictures he drew in my mind resembled the scenes from social media, showing vigorous disinfecting of the BART cars and buses in the Bay Area. My Dad's childhood stories were complemented by the diaries of Benjamin Roth from the Great Depression era. Roth was a lawyer living in Youngstown during that time and took detailed notes on the state of the society, the job market, and the stock market as he lived through the 1930s and the ensuing decades. The COVID-19 pandemic is nothing new. It does have its unique characteristics such as the minute by minute media coverage of the death toll. Still, not even the wearing of facemask is a new social experience unique to the COVID-19 era. The below photo is courtesy of nytimes.com and shows women wearing masks during the 1918 flu pandemic in NYC.
Is the stock market being uniquely and unprecedently irrational?
No, the stock market's upward movement is not a new phenomenon unique to the COVID-19 pandemic's impact on the stock market. The stock market has always been irrational. The dichotomy of declining economic output and upward stock prices is nothing new and rather common in the history of the stock market. The confusion comes from the widespread assumption that the stock market follows some economic theory and is bound by the mathematical models we economists tend to use to explain the market's movement. The stock market has nothing to do with the modern economic theories, neither does it follow a perfect cycle of boom and bust. John Templeton had put it the best in his letter to his clients in 1958 when the Dow index rose from 257 to 343 in a matter of a few months while the industrial production declined from 137 to 123, during the same time period.
Is there no reason for the stock market to go up when the economy goes down?
Of course, there is. If all other factors were equal, stock prices might move in the same direction as the economic output. However, the stock market is influenced by a variety of factors, including the overall market sentiment and investors' expectations for the future output of the economy compared to the current prices. The stock market prices have been going up for the same reason as the stock price of a nearly-bankrupt company jumps double-digit in one day. More important than the impact of sentiment and exceptions is the "market" nature of the stock market. As in any market, when there is more demand than supply, it pushes the prices up. When there is idle cash sitting around, exacerbated by historically low to zero interest rate, money pours in.
Final takeaway
There is no point in being bullish or bearish about the stock market. There is no absolute bullishness or bearishness. Even in the most bearish of environments, you can find bullish movements and opportunities and vice versa. Instead of debating to nausea that the market is going to go down or fly to the sky, the goal should be to step back away from the frenzy and look for the opportunities that reveal themselves.
The two books mentioned in this blog post are:
Risk-taking is an art! Not every risky stock is worth investing in. It's prevalent among stock market investors to justify a wrong decision as a risky one. However, a well-researched and informed risky decision can generate an outsized return, while being protected from total ruin. In this blog post, we explain a simple set of criteria we use to discover stocks worthy of your attention if you are a risk-taker. The list of Stocks for Risk-Takers can be a starting point for those who understand only some risks are worth taking.
Launching Stock Card's "Stocks For Risk-Takers" collection
We started the process by looking for smaller companies using the market capitalization of less than $10 billion. Doubling a $100 billion company is much harder than doubling a $2 billion company. Therefore, when it comes to risk-taking, small is more beautiful than big.
By just only one filter, the universe of publicly-traded stocks in the U.S. stock exchanges shrinks to a list of slightly a few more companies than 4,000.
Not every small-cap stock is worth your attention!
Finding noteworthy risky stocks is not just about searching for smaller companies. It would help if you also weed out those companies that cannot grow their revenue. Notice that we didn't talk about profitability. When companies are small and profitable, the chances are the stock market algorithms have already found them, and prices are adjusted to reflect the positive earnings. Therefore, stocks with growing revenue in the last 12 months to 3 years can narrow the list to a more manageable list.
If not profitable, then what?
While being profitable is good, being able to generate free cash flow is better. Earnings and profit are metrics heavily influenced by accounting principals. Highly profitable operations can become unprofitable if the management decides to reinvest the money it makes back into the company. However, a reliable, rapidly-growing company are typically cash flow positive before they are profitable.
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What else?
The last criterion to consider is the company's ability to survive a period of economic hardship (such as the economic slowdown induced by the COVID-19 pandemic in 2020) or possible fluctuations and cyclicality in demand (such as demand cycles for chip technology). A reliable, risky company has enough cash to fund its operating expenses easily without the need to raise additional money or borrow.
Final results
The result of the above screening is a list of 189 reliable but risky stocks worthy of the attention of a risk-taker investor. We added them to Stock Card's collections, and you can access them for free by typing "Stocks for Risk Takers" in the search box on our website. Log in and check the list!
Without a doubt, the U.S. stock market has staged a historical “recovery rally” since late March, regardless of the drastic price drop mid-June. The S&P 500 index erased all its losses for the year as of June 8. The Nasdaq index hit an all-time high past the 10,000 level the following day. There are various conjectures about what has fueled the rally. Some associate it with a possible wave of FOMO by the so-called Robinhood bros. Others believe that the optimism about the reopening of the economy has driven the rally. Regardless of what the catalyst is, a prevailing sentiment in our private Facebook community recently has been caution. What are the available choices to investors as they navigate the V-shape recovery, so far, and another possible sharp decline moving forward? How does an investor protect her gains, without sitting on the sidelines to let the volatility subside? In this blog post, Stock Card's Head of Data Science and a technical trader, Karen Sheng shares her thoughts and strategies that could be employed to address these questions, mainly using one general and three specific options strategies. PART ONE: FOR ALL INVESTORS Cash is also a position! Cash is also a position - This is lingo that is commonly used in the traders' community. When a trader has low conviction about either direction of the market, one of the choices available is "going flat." This rule applies to investors who "buy and hold" as well. Doing nothing is a strategy worth considering, especially when there is doubt. Holding cash or selling to have cash come with a few important considerations:
This strategy is specifically important and easy-to-use by starter investors. However, for those willing to put the time and effort required to learn more sophisticated approaches, I'm sharing three possible hedge strategies using options. If you are a more advanced investor, read along. Before sharing the more advanced hedging strategies, have you heard of Public, one of the easiest and best-looking brokerage apps out there? PART TWO: FOR MORE ADVANCED INVESTORS Protect long-term investments with three options strategies Many investors use options as a "hedge" strategy. This strategy allows the investor to continue investing while having the fallback option to recover possible losses in case the market takes the reverse direction, as it has done so in mid-June. For the rest of this post, I will focus on hedging with various options strategies, all of which have defined maximum risk and risk/reward ratios. All these options strategies assume that you are willing to lose all the premium paid for the trade. Consider it a premium that you pay for insurance to protect your investments against a downturn of the market. If the market keeps rallying, your long-term investments are safe for the time being, and yet you may lose all the debit you have paid for hedging. On the other hand, in the case of a correction or crash, the gains from the hedging trade may offset the losses from the long-term investments. Compared to the "staying in cash" approach, you get to keep the stock holdings in your portfolio for long-term investments. For illustration purposes, I'm going to use options of SPY for the reviews below. The prices of both stocks and options reflect close prices as of the end of June 9. Furthermore, I want to limit the premium paid to each trade, as this is the money that I'm committed to losing completely. In practice, I usually set the maximum in the range of $150-$250 per trade. For illustration purposes, though, I'm going to set the maximum at a much higher level, $1000, because I would like to compare the P&L for comparable Delta. I'm assuming that you have some basic understanding of the components of options pricing. With that, let's get to it! Strategy one: A naked put option
Example one - Buy an ATM (at-the-money) put option with 10 DTE (days to expire): I added two screenshots to explain how you go about buying this put option. The screenshot on the left shows a portion of the option chains. The maximum loss of this trade is the debit I'd pay - $582 plus any commission. The screenshot on the right is the projected P&L as of June 9. Note that if SPY starts to consolidate around the 320 level and doesn't make a significant downward movement, by 7 DTE (4 days from June 9), the trade would start to turn into a loss. Example two - Buy an ATM (at-the-money) put option with 31 DTE (days to expire): The debit required for this trade per contract is $931, as the extrinsic value (time value) has almost doubled relative to the 10 DTE ATM contract. Recall the time-decay chart shown above. The time decay in this 31 DTE trade does not accelerate as fast as in the 10 DTE trade. Again, this is the projected P&L as of June 9. Notably, it's a break-even trade (zero loss, zero profit) if SPY consolidates around the 320 level by 22 DTE (9 days from June 9). The additional premium I'd pay gives me more time to wait for a pullback of the market. Strategy two: Construct theta-positive options trades Theta-positive, in plain English, means that the passage of time works in our favor. I'm going to review two theta-positive strategies - put debit spread and put calendar spread. Example - Buy a put debit spread with 10 DTE (days to expire): I'd buy the 320 SPY put option and, at the same time, sell the 315 SPY put option. The debit required for this trade is $186, and the risk/reward ratio is approximately 1:1.7. Note that the premium paid is significantly less than buying a naked put option. Furthermore, since the trade benefits from time decay, I don't mind placing a trade with fewer days to expiration.
Strategy three: Buy an OTM (out-of-the-money) put calendar spread
Final words I hope you find these strategies and examples helpful. Don't forget the first thing I shared with you. Cash is a position too. You can always keep some money and only invest the money that will not endanger your financial well-being if you lose it all.
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