There’s Always a Bull Market Somewhere
Serious investors tend to avoid advice from popular analysts who target the typical retail investor. But, there are times when those analysts offer sound advice.
Jim Cramer, for example, is a star on CNB known for antics that include adding sound effects to stock recommendations. Lost in the morning radio shock jock atmosphere is the fact that Cramer has repeatedly demonstrated his skill as a stock picker.
Even if we ignore his stock tips, it’s important to remember one piece of advice he frequently shares is that there’s always a bull market somewhere.
Another popular analyst, Jim Rogers, seems to disagree with that when we consider only his sound bites. Rogers is perennially bearish and seems to frequently predict a market crash and high inflation. But, reading his full analysis, we learn there is an industry he believes in.
Rogers is an expert on emerging markets and he frequently writes that when he makes his first investment in a new country, he always considers local beer breweries. The truth is individuals around the world enjoy a beer and the breweries are often great investments.
Craft Brewers Are Growing in the US
According to the Brewers Association, craft brewers are “small, independent and traditional.” But some brewers that sound large are included in this category.
Six of the 10 largest U.S. breweries by volume are craft brewers. The Boston Beer Co. (NYSE: SAM) makes Sam Adams and is a $2 billion company.
Shares of Boston Beer fell after the company reported disappointing financial results in February but have rallied sharply since then.
In part, the recovery is due to a research report from Macquarie Research which shows growth in sales resumed after the earnings announcement. The report also shows Angry Orchard ciders, Twisted Tea, and the company’s line of spiked sparkling water performed well.
The data, Macquarie wrote, “confirmed our conversations with a large beer distributor last week that SAM is improving.” One thing those conversations didn’t suggest: The idea that Boston Beer’s (SAM) Sam ‘76 lager-ale hybrid, which debuted earlier this year, might be a long-term success.
Potential catalysts for the stock now include the fact Boston Beer will get a new CEO sometime in the second quarter, with Martin Roper to be succeeded by longtime director and beverage industry executive Dave Burwick.
Some industry analysts believe Burwick might look to add even more products to the company’s lineup through acquisition.
A Trade for Short Term Bulls
As with the ownership of any stock, buying SAM 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 prices stocks where the share price and options premiums are often a significant commitment of capital for smaller investors.
A Specific Trade for SAM
For SAM, the April 20 options allow a trader to gain exposure to the stock.
An April 20 $200 call option can be bought for about $5.00 and the April 20 $205 call could be sold for about $2.00. This trade would cost $3.00 to open, or $300 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 $200.
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 SAM the maximum gain is $3.00 ($205 – $200 = $5.00; $5.00 – $2.00 = $3.00). This represents $300 per contract since each contract covers 100 shares.
Most brokers will require minimum trading capital equal to the risk on the trade, or $200 to open this trade.
That is a potential gain of about 150% based on the amount risked in the trade. The trade could be closed early if the maximum gain is realized before the options expire.
In this trade, options provide income and defined risk. These are the type of strategies that are explained and used in TradingTips.com’s Extreme Profits Calendar service. This service uses seasonals as one indicator in its trade selection process. To learn more about how options can be used to meet your goals, click here for details on Extreme Profits Calendar.