Thursday, August 23, 2007

Thank You, Thank You, Thank You

A regular reader has purchased January 2009 $35 call options. My family has a substantial position in this strike. These are very risky securities. The current price is $650 per one hundred shares. If the stock is selling at $35 or below on the third Friday of January 2009, the value of these options will be zero.

Members of my family have made a substantial bet on our belief that CAL will be selling for much more than $35. Indeed, the breakeven point at the current price is $41.50 which is the sum of the current price of the option plus the strike price. Looked at on a breakeven basis as of January 2009, the stock has to go up 36%. As I said, this is a risky bet.

Should the stock have a great run, the upside is huge. The stock is selling for about 6 times projected earnings. Should sentiment shift in the airlines favor, the stock should sell for at least 15 times earnings. In other words, if the stock were currently selling at an "average" price, it would be selling for $63 per share. Based on the average analyst estimate for earnings in 2008, the company is selling for only 6 times earnings and a reasonable price target based on these estimates is around $75 per share.

Investors should always look forward when making investments but taking a look back can give one an indication of the future. For the past 12 quarters, the analyst have underestimated CAL earnings by an average of .24. Add 24 cents to the forward projections and the stock is only selling at 5 times earnings. A reasonable adjustment to the price target would be an additional $14 per share or $89. The beauty is that should the above happen, the momentum buyers would join the party. They would likely drive the stock to 20 times earnings, taking the price up to $120. Again, based on history, during the "prosperity" phase of the economic cycle, which is the phase we just entered, the earnings will grow dramatically more than the projections. My family hopes to exercise the options before January 2009 so that we can continue to ride these share to the $150 level.


Using the first target price of $63, the option that currently sells for $6.50 would be worth $63 - $35 or $28. The gain would be $28 - $6.50 or $21.50. Of course, the gain would be much larger if the other target prices are used. An $89 price would make for a gain of $47.50 off a $6.50 investment.

I do not recommend option trading. It is too risky as one has to be right about a big move in a stock in a relatively short period of time. It is hard enough to be in a stock that increases 15% in value over a year or two. Betting that a stock will do better than 35% is a gamble.

Still, I am thankful to the reader who purchased options. This bucking bronco has shaken a lot of people off at exactly the wrong time. Stocks are cheap and the economy is strong.


We have entered a time similar to 1995 to 2000. This time, the tech stock boom will not nearly as crazy but it will be real. Business travel will continue to set all time records.

Yesterday, American Airlines announced new daily service from Chicago to Buenos Aires, Argentina. Boy, I would love to have the franchise for that one daily flight. Think of the incremental revenues produced. Some low ball numbers show how much international demand is adding to the bottom lines of major carriers. For example, if the plane carries only 120 passengers per day and if the average ticket price is only $400, the daily revenues would be $48,000. Assuming 6 flights per week, the annual revenues would be $15,000,000. This does not count all the continuations to places other than Chicago. My numbers could easily be half the actual numbers. Continental will add 30 new planes in 2008. Revenues should grow by 20% or more. Profits could easily grow by 50% or more. GO CAL GO! BUY BUY BUY, MULTIPLE CARRIERS.

My family does not have all its airline eggs in one basket. The rumors about consolidation continue. The old saw about buying the rumor often works. I do not know who will buy whom. By owning shares in AMR, LCC, DAL and UAUA my bets are hedged.


Google announces new deals and new services daily. Google continues to take market share, in the USA and around the world. Even where it has been weak, China, it is making deals and gaining share.

The latest neat service offered by Google is a virtual telescope view of the universe. Neat stuff.

The big play is still on the horizon. Phone companies continue to spend billions annually to prepare for high speed mobile Internet service. Google will probably bid on wireless spectrum in the upcoming auction. I believe the US Government will take in a huge amount of money. Google suggested earlier that the company would bid at least $4.6 billion. The total bids will likely be much higher. Good timing for the politicians and good news for America. New high speed mobile services are going to spur productivity and change the way you live.


The mid cycle turn, turn, turn is here. Japan did not raise short rates today but its economy is expected to grow by better than 2.5% this quarter. Japan's economy will strengthen over the next several years. Growth in emerging markets will slow. The politicians who have bashed China for accumulated trade surpluses will be surprised to know that much of that trade deficit will disappear as China pays for the construction of 40 nuclear power plants. It is pretty amazing that Japan will actually build some of the plants in China. Who would have believed these two would be in business together?


The turn does not mean that the US housing market is about to collapse. Despite the pounding the housing market has gotten in the news, the market is ready to recover. Yes, many of those who fall victim to the "news" will panic and sell at any price. Many a rent house will be auctioned off. This is not the beginning of the problem but the end. The market has been weakening for almost 2 years. The worst of the down turn is over. Bargains are available for the careful shopper. It is a buyers market. The seeds of recovery have already been planted. The supply of homes on the market will soon start to decline. By next spring or summer, the "news" of the housing recovery will be all around.

Mortgages will still be available from banks and credit unions. Terms will not be as good as 2003 terms but even a 3% spread over the one year treasury index does not look bad. The one year index has fallen over the past couple of weeks. Throughout most of my life, mortgage rates were higher than what is currently available. Don't get suckered in by the hype. It is time to be an aggressive investor.



Anonymous said...

CAL lost my bags. I hate them.