Good News Makes Analysts Bullish In This High Risk Stock
Trade summary: A bull call spread in Veeva Systems Inc. (NYSE: VEEV) using the September $280 call option which can be bought for about $12 and the September $290 call could be sold for about $7.10. This trade would cost $4.90 to open, or $490 since each contract covers 100 shares of stock.
In this trade, the maximum loss would be equal to the amount spent to open the trade, or $490. The maximum gain is $510 per contract. That is a potential gain of about 104% based on the amount risked in the trade.
Now, let’s look at the details.
VEEV reported solid quarterly results. Traders seemed to like the news and pushed the stock up.
Veeva Systems provides cloud-based software solutions for the global life sciences industry.
The company offers solutions for a range of requirements within life sciences companies, including multichannel customer relationship management, regulated content and information management, master data management and customer data.
Benzinga reported that a BofA Securities analyst reiterated a Buy rating on Veeva Systems and upped the price target from $230 to $302.
Piper Sandler’s analyst has an Overweight rating and increased the price target from $220 to $310.
Needham’s analyst maintained a Buy rating and increased the price target from $235 to $310.
A Raymond James analyst reiterated an Outperform rating and hiked the price target from $230 to $285.
The report expanded on a note released by BofA:
“BofA Confident In Veeva Systems’ Revenue Growth: Veeva’s key second-quarter metrics such as revenues, in both subscriptions and services, and billings beat estimates, and the company raised its fiscal year 2021 guidance….
The billings upside stemmed primarily from broad strength across both Commercial and Vault, thanks in part due to some business pulled in from the third quarter and contract duration, the analyst said.
The 10%-plus subscriber growth in commercial points to a growing value proposition in the life sciences CRM offering to manage pandemic-related sales force displacement, he said.
“Broad Vault strength across the major clinical, regulatory and quality categories underscores the value of an end to end workflow automation offering spanning the entire drug lifecycle.”
[The analyst] expressed confidence in the ability of the company to sustain 20-25% growth long term, with a best-in-class 35%-plus operating margin.”
The longer-term chart below shows that the stock is in a strong up trend.
Shares moved more than 140% above their March low. After a run up like that, a pullback is possible. The move also leads to questions about value with VEEV trading at about 90 times this year’s expected earnings.
Traders might be wary of the stock and managing risk could be a priority. A spread trade could help manage risk.
A Specific Trade for VEEV
For VEEV, the September options allow a trader to gain exposure to the stock. This trade will be open for about six weeks and allows for traders to turn over capital quickly, potentially compounding gains several times a year.
A September $280 call option can be bought for about $12 and the September $290 call could be sold for about $7.10. This trade would cost $4.90 to open, or $490 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 $490.
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 VEEV, the maximum gain is $510 ($290- $280= $10; 10- $4.90 = $5.10). This represents $510 per contract since each contract covers 100 shares.
Most brokers will require minimum trading capital equal to the risk on the trade, or $490 to open this trade.
That is a potential gain of about 104% based on the amount risked in the trade. The trade could be closed early if the maximum gain is realized before the options expire.
A Trade for Short Term Bulls
As with the ownership of any stock, buying VEEV 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 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 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.