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Hasbro’s Deal Might Not Be an Ideal Match

Hasbro’s Deal Might Not Be an Ideal Match

Shares of Hasbro (Nasdaq: HAS) are under pressure as traders seem to question the value of an announced deal.

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  • HAS daily chart

    As Bloomberg reported,

    ”At first glance, Entertainment One Ltd. and Hasbro Inc. make for ideal bedfellows. The former makes kids TV hit Peppa Pig, the latter is the world’s biggest toymaker. Merge one with the other and you get a combined video and merchandising giant.

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    That’s why there’s sound strategic rationale for Hasbro’s planned 3.3 billion-pound ($4 billion) acquisition of the Toronto-based studio.

    It gets its trotters on some valuable kids’ franchises that it can turn into more toys, and it can use eOne’s TV and film production chops to exploit its own catalog of games, which span from Monopoly to Buckaroo! to Jenga.

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  • Hasbro has a decent if not stellar track record of turning its game franchises into films. The Transformers and G.I. Joe movies have done well at the box office, though no one would accuse them of being critical successes.

    That’s where reservations about the eOne deal come in. While it might be known as the firm behind Peppa Pig, the cartoon represents just 10% of its total revenue.

    The company’s family and brands business is expanding quickly, but its film and television division, which has made films such as Green Book and TV shows including The Walking Dead, contributes more sales and profit. It has something that Hasbro lacks: prestige.

    Darren Throop, the eOne chief executive, prides himself on the quality of the film and TV productions. It’s easy to see how eOne stalwarts might find the prospect of churning out spinoffs from Hasbro’s board games and toys hard to stomach.

    Sure, the deal logic holds up on paper: 130 million pounds of anticipated synergies by 2022 could lead to returns from the deal nearing 8% based on analyst earnings forecasts, just about covering the cost of capital. And that’s before any upside from selling more toys or making more films.

    But are these firms as good a cultural fit as they insist? That might be the biggest hurdle to realizing the deal’s potential. That’s assuming it even completes. Right now, that’s in doubt.

    The stock traded as high as 5.90 pounds on Friday, above Hasbro’s 5.60 pounds-per-share bid, suggesting investors anticipate either an activist pushing the purchase price higher, or a counterbidder sticking their snout in.

    Rivals might include the Walt Disney Co., John Malone’s Liberty Global Plc, Vincent Bollore’s Vivendi SA, Comcast Corp. or even toymaking rival Mattel Inc.

    The plethora of competing TV and film streaming services has sparked a fight for high-quality content, and eOne has some of the best, helped by relationships with Steven Spielberg, with whom it has a production joint venture, and super-producer Mark Gordon.

    Disney expanded from a production company into a merchandising and theme park giant, and its success under CEO Bob Iger has been built around recognizable franchises such as Star Wars, Marvel and Pixar’s output.

    Hasbro is making a play to do the same but in the opposite direction. High-quality content is increasingly scarce and expensive, though. That might make eOne an equally tasty morsel for someone else.”

    This deal is just one question hanging over HAS, including concerns of a trade war, after the stock reached new highs.

    HAS weekly chart

    A Trading Strategy To Benefit From Weakness

    A price decline often results in higher than average options premiums. That means option buyers will be forced to pay higher than average prices for trades, But, sellers could benefit from the higher premiums.

    In this case, with a bearish outlook for the short term, a call option should be sold. The call should decline in value if the stock declines and sellers of calls benefit from this decline.

    Selling options can involve a great deal of risk. A spread options strategy can be used to limit the potential risk of the trade.

    One strategy that traders can consider is the bear call spread. This is a trade that uses two calls with the same expiration date but different exercise prices.

    Traders buy one call and sell another call. The exercise price of the call you sell will be below the exercise price of the long call. The call is sold to limit the risk of the trade. So, this strategy will always generate a credit when it is opened and will always have limited risk.

    The risk profile of this trading strategy is summarized in the diagram below which shows the limited risk and reward.

    bear call spread

    Source: The Options Industry Council

    While risks and rewards are limited, this strategy will allow traders to generate potential gains in a stock they might otherwise find too risky to trade. Many individuals ignore bearish strategies because of the risks.

    You’ll know the maximum potential gain with this strategy as soon as it’s opened. It is equal to the amount of premium received when the trade is opened. The maximum loss is equal to the difference between the exercise price of the options contracts less the premium received and is also known.

    Every day, we scan the markets looking for trades that carry 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.

    A Bear Call Spread in HAS

    For HAS, we could sell a September 20 $105 call for about $4.20 and buy a September 20 $110 call for about $2.15. This trade generates a credit of $2.05, which is the difference in the amount of premium for the call that is sold and the call.

    Remember that each contract covers 100 shares, opening this position results in immediate income of $205. The credit received when the trade is opened, $205 in this case, is also the maximum potential profit on the trade.

    The maximum risk on the trade is about $295. The risk can be found by subtracting the difference in the strike prices ($500 or $5.00 times 100 since each contract covers 100 shares) and then subtracting the premium received ($205).

    This trade offers a potential return of about 69% of the amount risked for a holding period that is relatively brief. This is a significant return on the amount of money at risk. This trade delivers the maximum gain if HAS is below $105 when the options expire, a likely event given the stock’s trend.

    Call spreads can be used to generate high returns on small amounts of capital several times a year, offering larger percentage gains for small investors willing to accept the risks of this strategy. Those risks, in dollar terms, are relatively small, about $295 for this trade in HAS.

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