Memory Shortage Creates 186% Profit Potential

When most people think about Samsung, they think of the ongoing battle between the smartphone and mobile tech companies (Apple, Google and Samsung). But there’s still much more to each of these companies… Samsung is no different.

At its core, Samsung is still an electronic “component” company. Sure, it has its own line of consumer products — everything from phones to smart watches. But it is, and always has been, in the business of making the chips and hardware behind such innovative devices.

About 49% of its sales still comes from semiconductors and memory products; think PC RAM and USB flash drives.

Well, it by no means has a monopoly on those products. In fact, one of its chief competitors is a company few hear about… simply because it does not have a robust consumer products division.

Micron Technology (MU) controls about one-third of its memory markets. Unfortunately, as bad as recent reports from the electronic consumer products world have been (like Apple’s recent iPhone launches), Micron’s memory business has been equally abysmal.

With lower demand for extremely high-priced items like smartphones venturing into the four-digit territory, chip and memory companies have suffered. Worse, they have not scaled down their supply to keep pace with demand.

Now, all across the industry, the semiconductor market is riddled with too high of inventories. Intel, AMD and NVIDIA on the graphics and processors side… and Samsung and Micron on the memory side have all been culprits.

In one way, this is partly because of the ongoing trade war too. Materials and manufacturing in this industry need open markets between China and the U.S. With tariffs still flying all over the place, many companies have been frontloading orders and increasing volumes to negate what they can of this increased cost.

Still, lower demand and higher input costs have wracked the industry of late. The numbers show. Micron has been hit especially hard.

The company reported its second fiscal quarter yesterday after the bell. It saw revenue of $5.8 billion, down from $7.4 billion the year prior. That’s more than a 20% year-over-year decrease. Income too fell drastically by 39.4% on a non-GAAP basis and 46.8% on a GAAP accounting basis.

Yet, despite this terrible quarter and weak near-term outlook, shares are up more than 8% today. How can that be?

For starters, the company actually beat analyst expectations… at least on an adjusted basis. Meaning, analysts have been so down on the company’s – and industry in total’s – prospects that very bad results can still beat horrible ones.

The other reason the company is up today is because of its outlook. It still expects the next few months to be difficult. But it sees growth in the second half of the year.

It is also slowing its current production significantly to let demand catch back up with supply. One analyst compares this to how OPEC –the oil consortium – has historically operated.

When prices and demand are low, OPEC cuts production until prices pick back up. That, as we’ve seen in recent history, doesn’t always work so well. When you have competitors that undermine that by continuing to produce at high levels (like the United States oil boom over the last decade), those competitors chew up market share.

The same could be happening in this tech field too. This analyst, Action Alerts PLUS’ Zev Fima, notes that smaller South Korean competitors are likely to continue producing memory products to undercut Samsung and Micron. South Korea, after all, isn’t affected by the US-China trade issues. So input costs haven’t risen to the same degree.

How all of this plays out remains to be seen. But the one thing we do know, right now, is that Micron’s stock is too hot.

Since its poor 2018 performance, MU has been on fire so far this year:


Today’s 8%-plus performance seals the deal. A near-term correction is due. As you can see, each time it’s done this in recent history, those spikes were followed with rapid declines. This is no different.

Whether or not the competition will tear through Micron’s market share, the near-term future still looks bleak… at least for its share price.

Fortunately, there’s a great way to play that. And today’s rally makes it even more lucrative.

Let’s get right into it.

A Strategy For Micron’s Near Term Weakness

A bear put spread is a type of trade that involves two put options. The way it works is by buying a near-the-money put option and selling an out-of-the-money put with a lower strike price.

The out-of-the-money put helps offset some of the cost of the purchased one. This still results in a net debit. But it does make a big difference.

This offset lowers the amount at risk. Since the only amount the trader of this strategy has at risk for the whole duration of the trade is the entry cost, this offset reduces his risk.

In exchange for that offset, that second put option – the short put – does cap the maximum potential profit. But that’s often a worthy trade off.


Source: The Options Industry Council

As we noted, Micron is due for a bit of a correction following the overenthusiastic rally we’ve seen the last few months. But it is not due for a devastating crash. At least, there’s no indication of one.

It still controls one-third of its industry. And that’s not something that’s likely to change significantly, even with increased South Korean competition.

But instead of just telling you why this kind of trade is so appealing to use on MU, let’s show you.

A Specific Trade For MU

To use a bear put spread strategy on MU, a trader could buy a May 17 $43 put option for $2.27 per share and sell a May 17 $40 put for $1.22 per share. That results in a net debit of $1.05 per share or $105 total on the 100 shares each put control.

That $105 will come out of the trader’s account at the beginning of the trade and is the only amount at risk. That’s the benefit of this strategy over simply buying the put by itself. Instead of $227 at risk, this trade reduces that to just $105.

It does cap profit potential, though. To find out what the maximum return for this trade could be, take the difference in strike prices ($43 – $40 = $3), and subtract the entry cost ($3 – $1.05 = $1.95). That’s $195 in total.

So, this trader would be looking at a potential profit of $195 in exchange for the $105 he puts at risk upfront. In other words, that’s a 186% potential return on the amount at risk.

That’s a pretty good trade off if you ask us. We don’t know exactly how Micron will perform by year-end. But the chance of cashing in a solid short-term return on its near-term share price movements with this trade is good.

— The Option Specialist

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About the Author: The Option Specialist