Turn a Stock's Bad News Into Your Investing Advantage

Discount retailer Kohl's shocked the market on Thursday by radically cutting guidance for fiscal 2022 and beyond. Shares that were already inexpensive became ever cheaper as a consensus estimate of about $4.10 for the current year was dropped down to $3.00 or so. Does that mean KSS should be avoided? At south of $32 per share? Not really. A typical multiple for Kohl's has averaged from 13-times to 15-times during normal times. Pre-Covid, from fiscal 2012 through fiscal 2020 KSS posted average EPS of $4.35. In the post-Covid year (fiscal 2021) KSS earned a staggering $7.33 per share. The shares fetched as high as $64.38 last January as a three separate potential buyers of the company were competing to take it over. KSS is not expensively valued even on a subpar $3 year. Fiscal 2023 still figures to get back to at least $4 per share based on somewhat conservative assumptions. Prior to Thursday's announcement, research house Morningstar called KSS a 5-star Buy at $33.92. The shares never got below $26.07 even during the worst of this year's considerable selling panics. Morningstar's old present-day fair value estimate for KSS was $58. That figure is likely to be revised downward to something closer to $40 - $45 based on management's negative guidance for fiscal 2022. That still looks tempting for buyers right now as KSS pays a $0.50 quarterly dividend which management has committed to maintain. At $31.91 that comes to a generous 6.27% yield. FastGraphs sees things similarly. They call Kohl's typical price-to-earnings as 15.5. I'm a bit skeptical of that, although KSS has commanded well above that on occasion. Prior years' EPS and annual price ranges are shown below. Simply reverting back to a 12.5-times multiple suggests $37.50 as logical as a low-ball goal by next January, rising to perhaps $51.25 per share by Jan. 31, 2024. Most people were either dumping KSS on the bad news or simply holding on to previous positions. True contrarians might have been buyers. Option-savvy investors like me got busy shorting long-term equity anticipation securities puts out to Jan. 19, 2024 at fabulous worst-case buying prices. They also might have deigned it a good time to set up buy/write combinations as well. Here were the actual bid-ask spreads on KSS out to January 2024 with the stock at $31.88. Simply selling very conservative $25 or $30 puts out to January 2024 was bringing in huge premiums. Worst-case, forced purchase would only take place at either $20.10 or $22.50 providing outstanding downside protection in case things don't go as expected. Shorting 10 contracts of the $25 puts would provide $4,900 in upfront payment with almost a 37% margin of safety. The if exercised net price of $20.10 appears very attractive. Traders with margin accounts with free buying power could set up the following $30 buy/write combination on any 100-share multiple of KSS shares. The money collected from the call and put sales helps pay for the shares purchased, lowering the out-of-pocket outlay dramatically. If held through expiration day there are just two ways things can happen. KSS will either close at $30 or better, or below $30. If the former situation plays out the best-case scenario detailed next would be in effect. Barring any change in the dividend rate you'd make about 104% over just 591-days. That equates to around 73% annualized on a stock that did not even need to go up from the trade inception price. How cool is that? What if KSS fails to hold $30? If so the worst-case scenario shown below would unfold. Barring a major collapse, though, even that situation is far from scary. You'd end up with a double-sized position in KSS, but at a very low average cost of $21.59 per share. Any decline of less than 32.2% from the trade inception price would still allow at least a small profit, and perhaps a quite large one. Future stock market action can never be guaranteed. That said, I can tell you with 100% certainty that owning KSS at $21.59 would have been a winning position every single day dating back to before Dec. 1, 2020. Don't be scared to buy when others are panic selling. That's typically when you get the best buys. Selling naked puts on significantly down days snags the best put premiums. Setting up buy/write combinations similarly allows for favorable premiums based on increased volatility due to the selloff. Buy some KSS on the dip. Collect the juicy yield and wait for the next almost inevitable upturn. It usually doesn't take all that long to see a nice rebound.

Turn a Stock's Bad News Into Your Investing Advantage

Let me show you how with the shares of discount retailer Kohl's, which just cut guidance.

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