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Traders Can Ride This Momentum Play for a Potential 15% Pop

Jim Woods

There's been a lot of action in the software security space. The biggest news in the sector came on July 23, when networking giant Cisco Systems (CSCO) announced that it was acquiring software maker Sourcefire (FIRE) for $2.7 billion, or $76 a share. That $76 price tag was a huge premium to the July 22 closing price of $59.08, and the offer sent shares surging 28% to close the following day at $75.49.

And this week we saw another bright light for the security software space in the form of Sourcefire earnings. On Monday, July 29, the company reported second-quarter revenue of $65.1 million, a stellar 29% increase from the same quarter last year. Adjusted earnings came in at $0.20 per share, an increase of 25% year over year. The consensus estimate was for revenue of $62 million and earnings of $0.15 per share.

The increased top and bottom lines from Sourcefire are encouraging for the industry as a whole, as the company's first-quarter results were lackluster due in part to the federal government's sequester cuts and the hold that put on buying and upgrading government software security systems.

According to FBR & Co. analyst Daniel Ives, the Q2 earnings bode well for the security software sector going into the second half of 2013. Sourcefire is "a very good barometer for security spending overall," he said.

Now, due to the buyout by Cisco, any notion of a trade in Sourcefire here doesn't seem wise, as the money has already been made. However, that doesn't mean that traders can't find big gains ahead in the space with another, even more prominent company -- Check Point Software Technologies (CHKP).

While the buzz has been around Sourcefire and Cisco, Check Point actually was the first of the software security firms to report Q2 earnings this year, and it did so with a bang.

On July 18, the largest firm in the space reported adjusted earnings per share (EPS) of $0.83, an 8% boost from the same quarter a year ago. The company also said revenue increased 4% over the prior year to an impressive $340.2 million in Q2. Consensus forecasts were calling for EPS of just $0.02 and revenue of $337.2 million.

The earnings beat came with a 5% rise in CHKP shares on July 18, which sent the stock to a new 52-week high. CHKP fell on the Cisco/Sourcefire news, but in the days following that announcement, the stock is back up near its highs.

CHKP Stock Chart

For traders, the rebound in CHKP despite the consolidation of a rival means Wall Street is bullish on the stock. Along with the strong earnings from the company, and from Sourcefire, the stage is being set for a very good second half of the year for the sector. That makes CHKP a great momentum trade here for those looking to ride the security software rally for the next several months.

Recommended Trade Setup:

-- Buy CHKP at the market price
-- Set stop-loss at $52, approximately 8% below the current price
-- Set initial price target at $65 for a potential 15% gain in three months

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