For Low Risk, This Trade Could Provide a Triple Digit Gain
Traders often associate risk and reward. But that’s not always true. Recent news highlighted a relatively low risk trade.
“Bottomline Technologies (Nasdaq: EPAY), a leading provider of financial technology that helps make complex business payments simple, smart and secure, today reported financial results for the first quarter ended September 30, 2019.”
EPAY is engaged in providing a set of cloud-based business payment, digital banking, fraud prevention, payment and financial document solutions.
The company helps businesses pay and get paid. It offers hosted or Software as a Service (SaaS) solutions, as well as software designed to run on-site at the customer’s location. It operates through four segments: Cloud Solutions, Banking Solutions, Payments and Transactional Documents, and Other.
The Payments and Transactional Documents segment is a supplier of software products that provide a range of financial business process management solutions, including making and collecting payments and generating and storing business documents.
The Cloud Solutions segment provides customers with SaaS technology offerings. The Banking Solutions segment provides solutions to banking and financial institution customers. The Other segment consists of its healthcare and cyber fraud and risk management operating segments.
The stock climbed on the news.
The news release continued, “Subscriptions revenue was $80.1 million for the first quarter, up 15%, or 16% on a constant currency basis, as compared to the first quarter of last year. Subscriptions revenue was 74% of total revenues, up 6 percentage points from 68% a year prior.
Total revenues for the first quarter were $108.2 million. Constant currency growth is calculated as discussed in the “Non-GAAP Financial Measures” section that follows.
GAAP net loss for the first quarter was $1.4 million, which was -1% of overall revenue. GAAP net loss per share was $0.03 in the first quarter.
Adjusted EBITDA for the first quarter was $23.6 million, which was 22% of overall revenue. Core earnings per share was $0.30 for the first quarter. Adjusted EBITDA and core earnings per share are calculated as discussed in the “Non-GAAP Financial Measures” section that follows.
“Bottomline delivered strong results in the first quarter with 16% growth in subscriptions revenue on a constant currency basis,” said Rob Eberle, CEO.
“We have a large market opportunity and a leading product set which we are continuing to advance. We’ve targeted 15-20% subscriptions revenue growth per year, and our backlog, pipeline and predictable business model give us a high degree of confidence in achieving our goals.
Our business results and market leadership position us to drive sustained business results and shareholder value for years to come.”
The break out could mark the completion of a months long consolidation pattern.
A Trade for Short Term Bulls
As with the ownership of any stock, buying EPAY could require a significant amount of capital and exposes the investor to standard risks of owning a stock.
To reduce the risks of a trade, an investor could purchase a call option. This allows them to benefit from upside moves in the stock while limiting risk to the amount paid for the options. However, buying a call option can also require a significant amount of capital and includes the risk of a 100% loss.
Whenever an option is bought, the maximum risk is always equal to 100% of the amount of spent to purchase the option. Since options cost significantly less than a stock, the risk in dollar terms will usually be relatively small to own an option.
To further limit the risks of the trade, an investor could use a bull call spread. This strategy consists of buying one call option and selling another at a higher strike price to help pay for the cost of buying the first call. The spread strategy always reduces the risk of an options trade.
This strategy is designed to profit from a gain in the underlying stock’s price but has the benefit of avoiding the large up-front capital outlay and downside risk of outright stock ownership. The potential risks and rewards of this strategy are summarized in the chart below.
Source: The Options Industry Council
Both the potential profit and loss for the bull call spread are limited. The maximum loss is equal to the net premium paid when the trade is opened. The maximum profit is limited to the difference between the strike prices, less the debit paid to put on the position.
This strategy could be especially appealing with high priced stocks where the share price and options premiums are often a significant commitment of capital for smaller investors.
A Specific Trade for EPAY
Every day, we scan the markets looking for trades with low risk and high potential rewards. These trades are available almost every day and we share them with you as we find them. Now, it’s important to remember these are trading opportunities in volatile stocks.
When we find a potential opportunity, we evaluate it with real market data. But because the trades are volatile, the opportunities may differ by the time you read this. To help you evaluate the current opportunity, we show our math and explain the strategy.
For EPAY, the December 20 options allow a trader to gain exposure to the stock.
A December 20 $45 call option can be bought for about $2.05 and the December 20 $50 call could be sold for about $0.54. This trade would cost $1.51 to open, or $151 since each contract covers 100 shares of stock.
The amount paid to enter the trade is the largest possible loss on the trade. This is generally true whenever a trader is creating a debit to enter an options trade. “Creating a debit” means there is a cost to enter the trade. You could create a debit by simply buying puts or calls to open a directional trade.
In this trade, the maximum loss would be equal to the amount spent to open the trade, or $151.
The maximum gain on the trade is equal to the difference in exercise prices less the amount of the premium paid to open the trade.
For this trade in EPAY the maximum gain is $3.49 ($50 – $45= $5; $5 – $1.51 = $3.49). This represents $349 per contract since each contract covers 100 shares.
Most brokers will require minimum trading capital equal to the risk on the trade, or $151 to open this trade.
That is a potential gain of about 131% based on the amount risked in the trade. The trade could be closed early if the maximum gain is realized before the options expire.