Summer Shopping Recovery Spurs Bets on Wal-Mart Rally: Options

May 29, 2014 9:49 am ET

(For an options column news alert: SALT OMA.)

May 29 (Bloomberg) -- Warmer weather and forecasts for stronger economic growth are spurring options traders to bet Wal-Mart Stores Inc. will rebound from this month’s slump.

Bullish contracts cost the most in eight years relative to bearish ones, according to data compiled by Bloomberg. The stock has fallen 5.2 percent in May, headed for the worst month since August, after Wal-Mart missed quarterly profit estimates by the most ever.

Almost half the retailers in the Standard & Poor’s 500 Index posted weaker-than-expected earnings last quarter as the coldest winter in three decades kept shoppers indoors. As U.S. temperatures begin to rise and the labor market improves, pent- up demand will boost Wal-Mart shares, according to Gary Bradshaw, a Dallas-based fund manager with Hodges Capital Management Inc.

“I gave Wal-Mart a pass in earnings due to the brutal cold weather,” Bradshaw said by phone yesterday. Hodges oversees $2 billion, including Wal-Mart shares. “The stock seems cheap to us. We just need a to see a continually improving economy and the consumer doing a little bit better.”

Wal-Mart, the world’s largest retailer, trades at 14.5 times estimated earnings, 30 percent below the valuation for companies in the S&P 500 Retailers Index. The stock fell 2.4 percent May 15 after the company said the harsh winter weather reduced profit by 3 cents a share in the quarter ended April 30.

Bullish Bets

Calls betting on a 10 percent advance in the shares cost 2.33 points less than puts wagering on a 10 percent drop, according to data on six-month options compiled by Bloomberg. That’s the narrowest spread since 2006.

The top three most-owned Wal-Mart options are bullish. Calls with a strike price of $80 expiring in June and July had the highest open interest. The shares, which have fallen over 10 of the past 12 days, slipped 0.1 percent to $75.53 yesterday.

Wal-Mart spokesman Randy Hargrove said the company didn’t have any comment on the options trading.

Spending at U.S. retailers held steady in April after a surge in the previous month put economic growth on track to pick up in the second quarter. Job gains helped sustain household purchases last month, as payrolls rose by the most in more than two years. Wal-Mart said earlier this month that same-store sales would be “relatively flat” in the current quarter.

Store Sales

Same-store sales at Wal-Mart “north of 1 percent will get the stock going,” Brian Yarbrough, an analyst at Edward Jones & Co. in St. Louis, said by phone May 27. Yarbrough, who rates the company a buy, said the company’s forecast may be conservative given signs that growth is picking up.

U.S. gross domestic product is projected to increase 3.5 percent in the second quarter, according to the median of economists’ estimates compiled by Bloomberg. Data today may show the economy contracted at a rate of 0.5 percent in the first three months of the year.

Retailers such as Wal-Mart benefit less than other stores from faster growth because there is less impetus for consumers to seek out deep discounts, Scott Mushkin, an analyst at Wolfe Research Securities, said in a phone interview May 27 from New York.

“A better economy isn’t always great for them,” said Mushkin, who rates the shares underperform, the equivalent of sell. “When you have an expansion, more people are working again so that means less time and convenience becomes more important. The outlook isn’t great.”

More Spending

Wal-Mart said in February it was increasing its capital spending by an additional $600 million this year to add more Neighborhood Market and Express stores. Those smaller-format outlets have outperformed its supercenters and Sam’s Club locations. The company also is looking to e-commerce to help fuel growth. Online sales grew about 27 percent worldwide last quarter.

“The U.S. consumer is the most important thing that’s going to drive the numbers,” Richard Cook, co-founder of Cook & Bynum Capital Management LLC, which oversees $325 million, said by phone May 27. The Birmingham, Alabama-based firm manages Wal- Mart shares. “The U.S. consumer is going to improve primarily when the macroeconomic environment improves.”