Before we dive into this week’s idea, we need to move on from our PBF Energy (PBF) position as the stock broke below our stop this morning.
To execute this trade, you need to:
Sell PBF Stock
Buy to Close the November 50 call for $0.10 (approximately)
How quickly the market can change directions as one week we are on the verge of a steep decline, and the next week the indexes explode higher. This last week fell into the big winner camp as the S&P 500 gained 5.35%, the Dow rallied 5.07% and the Nasdaq added 6.61%.
The Stock – DraftKings (DKNG)
Why the Strength
DraftKings is the top dog in the online gambling and online casino markets, where legalization has become the norm in recent years as states are eager for more revenue — the firm says it has a whopping 33% gross revenue share in both industries, and better yet, that share is increasing, up three percentage points each of the past two quarters.
Of course, some still think of the sector as the wild west, but as is often the case, a bunch of competitors have been whittled down after the initial land grab phase a couple of years ago, and that’s led to less customer churn even with tamer marketing and promotional expenses, which results in increased cash flow even as growth remains rapid.
The Q3 report and early Q4 outlook last week was fantastic: Not only did sales (up 57%) soar and top expectations thanks to a continued leap in active users (up 40%) and revenue per user (up 14%), but those results came despite some worse-than-expected gaming results. Moreover, the bottom line continues to improve—the top brass expects a $105 million EBITDA loss this year (up from prior expectations of a $210 million loss), and for next year, it now sees $400 million of positive EBITDA, which is well above estimates and should prove conservative.
Near term, the ESPN/Penn National offering is set to launch soon and DraftKings also has an Analyst Day on November 14, where it will reveal some longer-term guidance, both potential stock-moving events. But every quarter that goes by reinforces the view that (a) the online sports betting and casino sector has transitioned to a lower cost, higher profitability phase, and (b) DraftKings is the top dog, not just holding but expanding its market share. We like it.
Technical Analysis
DKNG broke out in May from a big bottoming formation and ran up nicely to a high near 34 after Q2 earnings—but then the Penn/ESPN tie-up and the market correction pulled shares sharply lower, to nearly 25 within three weeks. Still, that low held during the next couple of months even during the market’s maelstrom (much stronger than the lower lows seen in the indexes), and last week’s Q3 report brought the stock back to its old high. Stop — 28.5
The Covered Call Trade
Buy DraftKings (DKNG) Stock at 35, Sell to Open December 35 Strike Calls (exp. 12/15) for $2, or a Net Price of 33 or less
Static Return: $200 per covered call (6.06%)
Breakeven: 33
Covered Call Return (if assigned): $200 per covered call (6.06%)
Please note, the stock and options prices will be moving throughout the day, so these prices are simply an approximation of prices that you should be able to achieve.
However, the important component of this equation is that the stock price paid, minus the premium received via the call sale, equals the Net Price, or 33 or less. (In this case 35 minus 2 = 33. Or another example is you could pay 34.80 for the stock and sell the call for 1.80, which also equals 33)
For every 100 shares of stock you buy, you can sell 1 call. For every 200 shares of stock you buy, you can sell 2 calls. And so on …
Open Positions
If our stop is hit, I will send an alert giving detailed instructions on how to exit the trade. But don’t get too worried about setting the stop. I will manage that for you.
The next Cabot Profit Booster issue will be published on November 14, 2023.
