Extending One’s Trading Horizon In Search Of Profits – Tesla

By Greg Tolpigin | More Articles by Greg Tolpigin

As a proprietary trader whose income solely relies on the accumulation of profits it is important to be able to continually find new trading opportunities AND profit for them. A great trading idea doesn’t necessarily translate into profits if it isn’t executed well. Yes in my earlier years (and even still now) I have had great trade ideas that were right, but I executed poorly and lost money.

Part of the key to consistent profits is not only continually finding trading opportunities but also having the discipline to turn them down if they are not the right fit for the portfolio, cause too much skew to one asset class or just carries too much risk. As Gordon Gecko in the movie Wall St said, “I look at a hundred deals a day, I choose one”.

So looking for consistently good profitable trading opportunities is difficult and will often mean that my focus turns to markets outside Australia. With the birth of new trading platforms that gives retail investors access to futures, options, CFDs and equities from virtually anywhere in the world and from one account, it is now as easy as ever to be able to access and profit from almost any trading idea. Some of my best trading results have been from trading offshore where one can escape the very narrow breadth of stocks and low volumes that plague the local bourse.

One of the most recent was actually home grown and evolved into a very profitable one. In one of my earliest columns I wrote about often the best investments are those that you can actually see and feel. Well my most recent one is likely to resonate with most readers, especially those with young children – McDonalds. I am sure by now that everyone is aware that McDonalds has changed a lot of its menu and products to now include healthier options but also “create your own taste”. In addition the company implemented the all-day breakfast and a significant lift in the service of its restaurants. As the ad said, “how very un-McDonald’s”.

Nothing spells share price re-rating to me more than a change of products, branding, marketing and a new CEO – especially after a prolonged period of the share price being in the doldrums. Below I show the 10-year history of McDonalds and it can be seen at the time of these changes the share price had spent four whole years in a tight consolidation below $105. These tight multi-year consolidations are one of my favourite technical set-ups particularly when it can be combined with a company that has a history of performing well and a new fundamental story that can be the driver to a re-rating. McDonald’s had all of these and from late last year the share price has gained almost 30% while the S&P 500 hasn’t moved. An idea that stemmed from treating my children to the occasional junk food.

Now most would be fine with just buying the stock and holding it. But as I have been stressing in recent months, to be a true professional and profit from almost all market outcomes we need to be able to cover the risk that markets fall sharply. In the case of a market rout then everything discussed above may help McDonalds outperform the market but it will still mean outright losses.

While researching McDonalds sales numbers and comparing it to its peers, I looked at Chipotle – a Mexican fast food restaurant. For those that may not know, Chipotle has been one of the real success stories in the past 10 years as it has expanded its stores throughout America and internationally. Its share price increased from $50 in 2006 to $750 late last year. The meteoric rise was stopped by a series of E. Coli breakouts linked to the restaurant chain with 55 people infected and 21 being hospitalized across 9 states. Yes nine states. This wasn’t just one rogue restaurant. 43 stores were closed as a result of the breakout. The FDA audited all of its 2000 restaurants to ensure proper health standards were being adhered to.

Now we have all heard of the stories of someone finding a rat’s tail in pie or a taco, but none of us actually know anybody that this has happened to. However, here is a real nation-wide health scare that does long-lasting damage to a brand. The damage is even greater for a company that has been priced to perfection with a sky high share price.

So below we can see that from late last year the share price has been falling sharply in line with a double digit decline in sales. So where are these consumers going to eat instead? Now all of them won’t end up at a McDonalds store but it certainly improves the relative outlook for McDonald’s.

So that’s exactly what I did. I went long McDonald’s and as a hedge I shorted Chipotle. The relative outlook McDonalds is far superior to Chipotle and in the event markets collapse I am confident that McDonalds will outperform thereby covering the risk of unforeseen market volatility. McDonalds is up 20% and Chipotle is down roughly 25%.

This now turns me to my next trading idea – Tesla. Now I actually haven’t concluded yet whether the trade is long or short, but I know there is a big one brewing here. The new Model 3 was launched a couple of weeks ago and some 300,000+ orders have been taken on the car. This was far beyond anyone’s projections creating a catch-22 situation for founder Elon Musk. To meet demand he may need to raise cash to fast track production. Flip side if he tries to fund it internally and hits a snag, customers may get frustrated, walk away and profits slow.

The big trade here is whether the shorters will be right or wrong. You see approximately 30% of the free float of the stock is sold short. That is gigantuous – if that’s even a real word. Supporting the view of the shorters the market cap of Tesla is the equivalent of approximately $1 million per car sold. Ford and General Motors trade at about $6K to $8K per vehicle sold. Furthermore their price/earnings multiples are below 10. Tesla is 135. So purely on numbers Tesla looks like a perfect short sell.

But as we know trading is not what it seems and it is rarely about the numbers. Take for example the biggest short squeeze I can remember in my lifetime – Volkswagen. Back in 2008, Porsche was secretly accumulating VW stock (75% of issued shares) and when the attempted takeover bid was made public, short sellers were forced to cover their shares driving the share price even higher. At one point VW was largest company in the world and its share price rose – in the midst of the GFC – from $150 to over $600 in a couple of months. Now that’s a short squeeze. Rumor is that short sellers lost $24 billion on the trade.

While there is no takeover for Tesla that could drive such a short squeeze (there have been rumors of Apple), the sheer size of the short positions AND the ongoing success of the company does pose a recipe for a massive short squeeze. While Tesla has seen it fall short on its forecasted deliveries in recent quarters, the share price reaction has been very mute. Any dips are quickly bought and the upward trajectory resumes.

I am not convinced either way just yet of whether the shorters will be victorious or be burned badly. While Tesla is expensive fundamentally the unique situation here does mean that this can be irrelevant if everyone looks to cover at the same time. What could a trigger point be? Sales or an earnings beat, further strong sales, corporate action or partnership are all factors that could cause it.

If the share price starts to move through $270 I think it’s certainly a trade that could evolve into a very profitable one as above that point nearly all shorts will be wearing a lot of pain. I have no trade yet but if I do I will certainly share it here. In the meantime keep an eye on the company, visit a store and see if you can gain any insight as to who will win this battle – Elon Musk vs The Shorters. Would make a great movie.

Greg Tolpigin

About Greg Tolpigin

Greg Tolpigin has over 20 years of experience as a proprietary trader and high-level strategist for the major investment banks including Citigroup, Bankers Trust and Macquarie Bank.

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