It’s show time.
Facebook CEO Mark Zuckerberg’s appearance on Capitol Hill this week caps several weeks of rough sailing for the social media giant, during which the company admitted it let data from nearly 90 million users fall into the hands of Cambridge Analytica, a political consulting firm hired by the Trump campaign in 2016.
Facebook (FB) shares, which had already dropped more than 10% from their all-time high of $195.32 during the February market correction, tumbled around 20% from March 12 to March 26, when prices dipped below $150 before steadying. But by yesterday, minutes before Zuckerberg was scheduled to appear on the Hill, FB was up more than 2% on the day and trading around $161.5—right around the high of the stock’s two-week consolidation.
For all the vitriol thrown Facebook’s way recently, cooler heads might take note of the fact that there’s been no evidence of a user mass exodus because of the current scandal. (Over the past year, the platform has had well-documented challenges in retaining younger users, which is an entirely different story.1) If you have around two billion customers and only a statistically insignificant portion of them disappear when you’re going through what looks like a world-class crisis, you may be feeling pretty good, all things considered. In other words, stock is way down, user base…not so much.
That’s not to say Facebook is out of the woods, but from a trading perspective, the point is not whether FB will still be a market-leading company 10 years from now, it’s whether current conditions present a market opportunity.
Given Zuckerberg’s appearance on the Hill is part of a larger public relations blitz to assure users and advertisers, a trader may decide the stock’s position presents an opportunity to capitalize on at least a short-term “relief” rally.
Instead of buying stock, a trader could also consider selling put options in such a situation. Although the two positions are essentially equivalent, there are reasons a trader may choose the former rather than the latter.
First, current conditions appear in favor of short options positions in general. As of yesterday, implied volatility in FB options was still around 32%—below its peak levels this year, but above its 100-day average around 28%. The higher an option’s implied volatility—which is the market’s estimate of future price movement—the higher its value, which means FB options were arguably relatively richly priced relative to their historical levels.
There’s also the advantage that the short put position is a credit position—i.e., you take in the option premium instead of paying for the stock. Also, options are wasting assets, so time is on your side even if the stock doesn’t initially go the way you expect.
For argument’s sake, let’s say a trader was looking out no further than a month from now, and anticipated Facebook shares rallying modestly, or at least continuing to move sideways. One possibility would be to sell some out-of-the-money put options—say, $140 May puts. This strike provides some breathing room in the event of a test of the late-March low. (The strike price could also be chosen on the basis of the price level the trader wouldn’t mind owning the stock.) The chart above shows the position’s risk/reward profile—losses are theoretically unlimited while the profit is capped at the option’s premium.
The “Spectral Analysis” shown below provides more detail of the position’s performance over time given changes in market conditions. For example, the top left portion of the chart shows FB’s recent price history, while the top right portion shows the profit (green) or loss (red) of the put position (in this case if FB continues to trade around $160).
Regardless of Facebook’s long-term prospects, the perceived success or failure of Zuckerberg’s appearance in Washington could go a long way in dictating the course of the company’s shares in the near future.
1 Recode.net. Facebook lost around 2.8 million U.S. users under 25 last year. 2018 won’t be much better..2/12/18.