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Exercising your Options

Richard Croft
March 26, 2012
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The old adage “buy on the rumor, sell on the news” might not be a very solid principle on which to build a longer term portfolio. However, it often presents interesting opportunities for short-term speculators who might want to bet on a quick turn in a company’s share price, particularly after a sharp run-up.

Such a case might well be Lululemon Athletica Inc. (TSX: LLL, Friday’s close $75.80), the Vancouver-based retailer of yoga and athletic-wear. The company reported consensus-beating fourth quarter financials last week, hitting $1 billion in annual sales for the first time in its history. Who’d have thought that demand for colorful leggings and athletic tops would be so strong that some stores simply did not have enough supply?

So, for the final quarter of 2011, the company posted US$0.51 earnings per share, as same-store sales surged 26% from a year ago. Analysts’ consensus had been for an eps of US$0.49. The company estimated full-year earnings to be in a range between US$1.50 and US$1.57 per share for the current fiscal year. It plans to open 37 new stores this year, adding to its current chain of 174 stores worldwide, and spending up to US$75 million in the process.

Lululemon shares have advanced 67% since last December, in what could be seen as a classic case of a powerful sentiment-driven, “buy-on-the-rumor” gain. But now, with fourth-quarter financials out of the way, an argument could be made that the company’s trailing P/E at 65 and forward P/E at 47 might be too aggressive, setting the stage for a pullback in share price.

If you believe the share price is a bit too aggressive and are inclined to execute a “sell-on-the-news” type of trade, you light look at a speculative short term put position. For example, buying the LLL May 74 puts at $3.25 look interesting.

Richard Croft
Richard Croft http://www.croftgroup.com/

President, CIO & Portfolio Manager

Croft Financial Group

Richard Croft has been in the securities business since 1975. Since February 1993, Mr. Croft has been licensed as an investment counselor/portfolio manager, operating under the corporate name R. N. Croft Financial Group Inc. Richard has written extensively on utilizing individual stocks, mutual funds and exchangetraded funds within a portfolio model. His work includes nine books and thousands of articles and commentaries for Canada’s largest media channels. In 1998, Richard co‐developed three FPX Indexes geared to average Canadian investors for the National Post. In 2004, he extended that concept to include three RealWorld portfolio indexes, which demonstrate the performance of the FPX portfolio indexes adjusted for real-world costs. He also developed two option writing indexes for the Montreal Exchange, and developed the FundLine methodology, which is a graphic interpretation of portfolio diversification. Richard has also developed a Manager Value Added Index for rating the performance of fund managers on a risk adjusted basis relative to a benchmark. And In 1999, he co-developed a portfolio management system for Charles Schwab Canada. As global portfolio manager who focuses on risk-adjusted performance. Richard believes that performance is not just about return, it is about how that return was achieved.

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