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VMW: Ray of Light in Cloud Space

The stock market has had a mythical-like "nifty-fifty" stock list of sorts since the 1960's. To qualify for this illustrious list a stock must have both a very high relative price earnings ratio as well as trending annual sales growth to match that ratio.

This moniker became famous in the bull runs of the 1960s into the early 1970s. These nifty-fifty stocks were the quintessential "buy and hold" type stocks, a strategy that by now has more detractors than supporters. I for one am very happy for that fact! That happiness stems from the fact that the long term is a Wall Street myth dreamed up by funds and their managers who need you to believe in the long term. Meanwhile they are busily trading your money in the short term. For proof of that fact, just look at any growth stock mutual fund's annual turnover ratio. A reading of 100% or more equates to a total turnover of their portfolio in the last 12 months of trading.

VMWare (VMW - Get Report) could be considered a nouveau "nifty-fifty" stock, given the fact that its annual sales growth rate has been and should continue to be well above 20% year over year. You would be correct to assume that VMW, due to this rate of growth, trades for a very high price earnings multiple. For VMW, the trailing P/E ratio is 69 and its forward P/E ratio is 36. For this current stock market that is "fundamentals" nosebleed territory!

Let's take a look at the T3/OP video with Jill and Scott. They review the techincal and fundamental case for VMW as well as the overall market, following yesterday's surge into the close on speculation that China may be buying Italian bonds.

Link to SDS Trade from August 23

I have an old rule about stocks like VMW: if the stock is doing something that it should not be doing, go with that direction. Yesterday was looking like it was going to be another stock market down day, a triple digit drubbing once again for the Dow. VMW was bucking that decline! Price action like that is a possible "tell" in poker lingo, VMW suggesting it is sold out and ready to rally.

This trade is a vertical call spread, a trade of medium to high risk and medium reward. The risk is totally controlled while the reward is capped by the hedged side of the trade. The risk is higher than normal due to the shortened time to expiration, that being October. However, in a volatile market such as we have experienced almost this entire year, time to expiry is not quite the same as when the volatility is much lower than where it is now! Thus once again, the perception of time is inversely relative to chaos or the lack of! Just don't tell anyone. Let's keep that our little secret.

Trades: Buy to open 5 VMW October 90 calls for $6.80 and sell to open 5 VMW October 95 calls at $4.70.

The total risk for the trade is $2.10, or, $1050.

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