Micron Technology (NASDAQ:MU), which provides semiconductor systems, has had a difficult time since June. So far in October, it has suffered further along with other technology stocks. While high volatility in the broader technology market is likely to continue for several more weeks, there are two mildly bearish plays in MU stock that I want to share with you, as each play could lead to impressive profits.
Year-to-date, MU shares are up over 3%. When Micron reported earnings on Sept. 20, it beat on revenue, sales and earnings; however, management gave a somewhat subdued outlook, citing concerns over trade wars with China, where it has considerable exposure, as well as over falling memory prices, which have a direct effect on Micron’s revenue pie and hence share price. Analysts are also noting that the semiconductor industry, which is highly cyclical, has entered a bear-market territory.
However, it is not all doom and gloom for Micron Technology: Despite the headwinds in the industry, MU has managed to increase margins and revenue, is regarded as one of the top players in the SATA SSD market and has an upcoming regular $1.5 billion stock purchase program each quarter, which is likely to provide support for the share price.
Micron is set to report earnings around Dec. 18. However, between now and mid-December, many of Micron’s competitors, such as Intel (NASDAQ:INTC), Nvidia (NASDAQ:NVDA) and Advanced Micro Devices (NASDAQ:AMD), are also set to report earnings. Any weakness in their actual earnings or the outlook for the industry could negatively affect the rest of the industry, including MU stock. Therefore, it might still be too early to hit the buy button on Micron Technology.
Furthermore, the volatility in the broader tech sector — and thus the setback in MU shares — is likely to continue for several more weeks. Micron stock’s 52-week price range has been $37.52 to $64.66. Within the next two months, I expect MU stock to trade between $47.50 and $37.50.
Those investors who pay attention to moving averages and oscillators should note that MU’s technical message is a “sell.” Micron’s price has fallen in seven of the last 10 days, another sign of weakness from a technical perspective. MU stock will need to stabilize and build a base again before a long-term sustained leg up can occur. Short-term support for MU is ﬁrst at $41.30 and then at $39; meanwhile, short-term resistance in Micron stock is ﬁrst at $43.70 and then at $45.50.
In the next few weeks, trading in MU stock is likely to be choppy, with major up and down days. However, up moves will probably be short-lived. Any up move possibly on Monday or Tuesday would offer investors better entry prices in the bearish trades below.
If you also believe that there might be more weakness in Micron stock before its earnings call in mid-December, here are the two trades set up for the stock (prices are based on MU stock’s closing price of $42.47 on Oct. 12):
Two Bearish Strategies on Micron Stock
1. If you already own Micron stock, consider using a deep-in-the-money covered call to protect your portfolio. For every 100 shares of MU stock you own, sell a MU Dec $37 call option, which currently trades at $7.23. The $37 option is deep in-the-money (ITM), offering more downside protection in case of volatility and a further decline in MU stock.
The call option would stop trading on Dec. 21, 2018 and expire on Dec. 22.
This covered call setup would offer you considerable stock protection. Please note that MU is expected to report earnings around Dec 18 and you may want to close the short call position prior depending on your earning call views. If you feel the weakness in MU stock will continue at or after reporting too, you can also consider selling another in-the-money covered call before the reporting on Dec. 18.
Assuming you had entered this covered call trade at the closing prices on Friday, at expiry the maximum return would be $176 — i.e., ($7.23 – ($42.47-$37))*100 — excluding trading commissions and costs.
A covered call’s maximum profit is equal to the extrinsic value of the short call option. The trader realizes this gain as long as the price of MU stock at expiry remains above the strike price of the call option (i.e., $37).
2. Set up a bear call spread in Micron stock based on MU’s closing price of $42.47 on Oct. 12, whereby you would purchase an out-of-the-money call while also selling the same number of at-the-money calls with the same expiration date. In other words, the strike price of the short (sold) MU call is below the strike of the long (bought) call.
While the short (sold) call generates income, the long call (bought) restricts the upside risk and sets a limit for the maximum loss the investor is willing to take. Traders use this strategy when they expect no meaningful upside in stock within a given period. The ideal case for the investor would be if MU stock traded sideways or went down moderately while the investor kept the position.
Therefore, as the first leg of the bear call spread, I would consider buying a MU Dec $48 call option, which currently trades at $1.15. At the same time, for the second leg of the bear call spread, sell a MU Dec $42 call option, which currently trades at $3.55.
Your maximum return would be $240 at a price of $42 at expiry (excluding trading commissions and costs), which is the difference (or net credit) between the two option prices at trade initiation.
Your maximum risk would be equal to (high strike – low strike – net premium received) * 100. In other words, ($48-$42-$2.40) * 100 = $360, at a price of $48 at expiry (excluding trading commissions and costs).
You can close this options spread at any time before expiry.
The Bottom Line on Micron Technology Stock
Although Micron stock offers long-term investment opportunities on a strong fundamental basis, the next few weeks may bring more volatility in technology stocks like MU. Through the use of various trade strategies involving options, investors will be able to weather this volatility until stability returns to the broader market.
As of this writing, Tezcan Gecgil did not hold a position in any of the aforementioned securities.
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