Monday, March 24, 2014

Netflix (NFLX) - How the Option Market Totally Blew It... And We Knew it a Month Ago. Momentum Stocks are Deflating... Right Now.

NFLX is trading $374.02, down 7.9% with IV30™ up 25.3%. The Symbol Summary is included below.

Provided by Livevol

DISCLOSURE: At the time of this writing I am long a Put Spread in NFLX.

First Blog (2-13-2014):

Provided by Livevol

UPDATE 4-4-2014:

Provided by Livevol

UPDATE 4-15-2014:

Provided by Livevol

Note the price AND the IV30™.

I have written extensively about NFLX, almost compulsively. I love the company and I love the management. Their turnaround has been one of the most unbelievable success stories I have ever seen. In fact, I published a final note in a long series on 9-10-2013. That note is included below:

9-10-2013: Netflix (NFLX) - Is this the Most Powerful Firm in Entertainment? Some Things I Bet You Didn't Know... But Want to.

I say all of that, because what I'm about to say is not about the company or the management, it's about that thing we call a stock price. In my opinion, on March 11 2014, the momentum (or 'MOMO') stock bubble began to deflate and it will continue to deflate a rather large amount in the next six months.

On 3-11-2014, I tweeted:
I wrote a note on the US Bubble (if there is one or not).  You can read that note here:

Is the US in a Bubble? Absolutely Definitive Charts That Will Tell You... Whatever You Want to Believe

So, while this note will focus on NFLX, it is really meant simply as a case study on the rest of the momentum stocks. For anyone reading that has a personal connection to these stocks, please save the hate mail and hate tweets, this is my forum, this is my opinion, if you disagree, just don't read it. I respect that decision. Please respect mine. I have no ax to grind; don't give me one.

On Feb 13th, I wrote rather loudly that the volatility in NFLX was simply wrong.  It was way too low, and it had been for far too long.  That post in included below:

2-13-2014: Netflix (NFLX) - Unprecedented Low Risk?... How Many Times Will the Option Market Prove Wrong? And is it Right This Time?

I have included the Symbol Summary from that date, below:

Provided by Livevol

Now, let's turn to today, or rather the last three weeks.  Starting 3-5-2014, NFLX had 11 consecutive down days, then had an up day, and since has seen multiple more down days.  In total the stock has dropped from $453.50 to now ~$370.  That short-term chart is included below.

Provided by Livevol

Of course, that's less than a month, and a broader look at NFLX shows a remarkably good investment. The Charts Tab (two-years) is below. The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20™ - blue vs HV180™ - pink).

Provided by Livevol

Check out that rise from ~$120 two-years ago, a truly spectacular return.  But here's the thing, and this goes for the majority of momentum stocks, it's too high.  It's too fast.  It's too much driven by equity margin (which is at its highest levels ever and has broken a record five consecutive months).

I note that while NFLX (and other MOMOs) has fallen sharply in March, the broader market has not. The option market has been pricing the volatility in NFLX (and other MOMOs) as though they have the same risk (ish) as the market.  That's wrong.  We saw it in TWTR, we see it in NFLX, just peruse the blog archive, there're two a week for the last three months.

Let's turn to the IV30™ chart in isolation, below.

Provided by Livevol

We can see how the implied volatility ebbs and flows into earnings, but in general the trend has been down.  We see lower highs into earnings (the blue "E" icons represent earnings), and lower lows after earnings.

But then there's the last few weeks, where NFLX vol has risen from ~31% to now ~45% (that would be ~50% rise).  I think it could get higher, and I really think the stock prices are going to get lower.  Not forever, but for now.

The Skew Tab snap (below) illustrates the vols by strike by month.

Provided by Livevol

Note how all of the near-term expiries show parabolic skew.  That is, the option market reflects equal two-tailed risk.  That's actually "not normal."  The two-sided tail risk seems appropriate to me, as NFLX will whip-saw (probably?).

To read more about skew, what is and why it exists you can click the title below:
Understanding Option Skew -- What it is and Why it Exists.

Finally, the Options Tab is included below.

Provided by Livevol

Note the volatility in the Apr expiry is over 40%.  I think NFLX has a bit more risk than that, but time will tell.  In any case, the 33% vol in Feb (the latest NFLX installment) was far too low and now we see a stock $75 lower.

I'll repeat that I really do love NFLX as a company.  The firm takes up about 25% of Internet bandwidth in the US and is creating phenomenal original content, I mean, how can you not love that story?  But momentum has taken us too high in a few names, and they will fall, if only for the short/intermediate -term.  Or such is my opinion.

This is trade analysis, not a recommendation.

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1 comment:

  1. Such an interesting article…. That is quite helpful thanks for sharing.