3TL Alert: Advance Auto Parts (AAP)

By Jim Pearce • December 28, 2016

TRADE INSTRUCTIONS
Date: December 28, 2016
Name: Advance Auto Parts
Symbol: AAP
Type: Short Sale or Long Put
Limit: N/A

With the stock market at record highs and the new year getting underway next week, I don’t think this week is a propitious time for opening new long positions. I’d like to see how next week unfolds first, so in the meantime I am offering another bonus “3TL” shorting opportunity since our previous one for Cintas performed so well.

Remember, 3TL stand for 3-Time Loser, which means AAP is a stock that I think is at risk of declining in value soon so the appropriate trade would be either a short sale or long put, but DO NOT GO LONG! And since you can play it a number of ways with put options in terms of strike prices and expiration dates I’m leaving it up to each of you to decide what, if anything, you want to do with it.

For that reasons it will not be tracked in our portfolio. This trade is not a substitute for our usual buy recommendation, but is simply an extra “bonus pick” for you to consider. Here’s why AAP qualifies as a 3-Time Loser according to my system.

TRADE RATIONALE
First, AAP has the lowest possible IDEAL score of 0 (on a scale of 0 – 10), meaning it appears grossly overvalued from a long term perspective based on dividend yield, cash flow and relative valuation.

Second, AAP has been trading above its 50DMA (50-day moving average) since November 15^th, and three weeks ago its lower Bollinger Band moved above the 50DMA so it also appears overvalued from a short term perspective.

Third, its momentum seems to be dying out. After a big spike in November after the election, trading volume has slowly receded while 7 of the past 12 days have been negative even though the opposite ratio has been true for the S&P 500.

And similar to Cintas, it appears AAP’s institutional shareholders are abandoning the stock as they sold 7.4 million shares during the previous quarter. When you consider the fact that more than 100% of AAP’s float is institutionally owned (thanks to the additional shares resulting from its 9% short float), any meaningful uptick in selling volume by these huge shareholders could disrupt the trading equilibrium in the stock in a very negative way.

However, unlike Cintas which reported earnings the week after I issued that 3TL alert, there will not be a quarterly earnings report out of AAP until early February so the timing on this trade may be a bit longer. But if we get a quick drop in the stock market next week, overvalued momentum stocks like AAP should be leading the downward charge so you may want to buy your puts this week instead of waiting until later in January to do so.

GIVE ME YOUR FEEDBACK
Systematic Wealth primarily intends to give you long recommendations on stocks. But I’m happy to give you more picks like this to play market downturns as well. I can also give you more specific options recommendations on both short and long opportunities. Let me know what you want by posting to this Forum discussion.

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Gompps

12/28/16 ‐ 11:07am ET December 28, 2016 at 11:07am ET

Bought the AAP 01/20/2017 170.00 P for $3.30 at Schwab. Thanks Jim! Hoping it works out.

Kevin W

12/28/16 ‐ 11:16am ET December 28, 2016 at 11:16am ET

Good morning, thank you for this opportunity. What should be put strike price be or what should be short sale price be entered at?

black arrow

12/28/16 ‐ 11:28am ET December 28, 2016 at 11:28am ET

Hi here is a link to a candlestick chart with Bollinger bands remember the mid dashed line is same as the 20 Day moving average. I have highlighted an area of support this is an important thing to Candlestick traders look back to Nov 14-15 That was a ‘rising window’ or in us based jargon a gap up open. Moving averages after this will just say MA are important. When a stock has lost support at the 20 MA [dashed BB line in red next step down is the 50 day MA in blue. %0 day is important WHY? Because traders think it is. The support zone I highlighted is around lows that clustered together. Look to upper left it tells us 50 day is 158.88, it could well go there according to what Jim has informed us. Back to the Bollinger Bands a minute I have mentioned ‘the Squeeze’ before, it portends an increase in volatility and we have to wait for price action to see which way. We have quite a good hunch which way thanks to Jim! I have changed RSI to a 5 time period you can see the relative strength has dropped 45-48 is a support area so support is waning. MACD histogram is down, this is negative [good for us] same with price % oscillator the blue is short ter. Pink in next pane down is mid term which has dipped below black – long term also negative. Chaiken money flow in brown points to as Jim said institutional money leaving. Art hill at stock charts calls StochRSI ‘RSI on steroids it moves faster than the typical RSI.
Here is a chart showing pivot points http://schrts.co/yQCsHf
P is the pivot currently159.32 an area where once it hits then it will move quickerS1 is first support area at 144 .38 right now. added a chandelier exit in red this is actually a stop, but I can see where it could be useful in thinking about a put also.

Happy New Year folks
http://schrts.co/RnVGCX

Derek: Las Vegas, NV

12/28/16 ‐ 2:53pm ET December 28, 2016 at 2:53pm ET

Awesome charts and technical analysis. Happy New Year to you as well!

Derek

black arrow

12/31/16 ‐ 3:42pm ET December 31, 2016 at 3:42pm ET

Derek, Here is a quick observation on AAP; the last 2 days combined have formed a Bearish Engulfing Candle. The rectangular real Body of previous day is inside the last trading days candle. What this typically is telling us there will be several down days likely commoner way soon.
Cheers- just got back from the Gym but they apparently were calling it a year, door was locked – Cie le Vie

Rick

12/31/16 ‐ 5:52pm ET December 31, 2016 at 5:52pm ET

Similar experience tonight Black Arrow. My wife and I thought we would be efficient and go to Saturday night church. We got there, got a great parking space and found the door locked.

black arrow

12/31/16 ‐ 10:42pm ET December 31, 2016 at 10:42pm ET

I replied but something went wrong with it anyway here is what I wrote back Derek:
Subject: Re: Your comment at Investing Daily has a new reply
I dropped off coffee to several nurse and hour and a half ago at the local Hospital. She texted me she left another 12 hour day UGHH, and another tomorrow then next day weather permitting we may go X-c skiing.

I feel great from the first ski of the season we did yesterday.
I am marinating Ahi Tuna, and defrosted some Beef Bourguinon I made over Christmas.

Cheers to you and your wife,
Hope you are successful this coming year, I hope we both clean up on the Silver Trade.
Looks like there is one on [CAT] I did not notice the other day.

Roger Dehring

12/28/16 ‐ 12:42pm ET December 28, 2016 at 12:42pm ET

Did something similar to what I did with CTAS, Jim,

Just bought JAN 165/160 puts, while selling a half position of JAN 175/180 calls. Paid a net debit of -$65 for each 2:1 combo.

Will monitor and should we get a nice move down in the next week or two, will close half the puts and the short call. Doubt this can be as good as CTAS, but can see a reasonable return should AAP drop $4-$5 in the next couple weeks.

Thanks, Jim,

Roger

Jim Pearce

12/28/16 ‐ 2:02pm ET December 28, 2016 at 2:02pm ET

Great suggestion Roger, hopefully others may follow your example. Thank you for sharing it with us.

black arrow

12/28/16 ‐ 2:25pm ET December 28, 2016 at 2:25pm ET

Hi Roger,
I am curious, did you buy or sell the 165 put in the put spread.
Thanks

Roger Dehring

12/28/16 ‐ 2:37pm ET December 28, 2016 at 2:37pm ET

In each combo, black arrow,

I did a debit put spread, buying 2 JAN 165 puts and sold 2 JAN 160 puts for a -$0.96 debit on each spread. I also sold a credit call spread, selling 1 JAN 175 call and bought 1 JAN 180 call for a $1.27 credit. The net cost was -$65 for each 2:1 combo.

Roger

black arrow

12/28/16 ‐ 2:49pm ET December 28, 2016 at 2:49pm ET

Phew, I entered it correctly I just did the debit put spread, but got interrupted and wanted to be sure I had entered it correctly. Thanks Roger now I don’t need to worry about if I was correct or not.
And most of all thanks for sharing
And thank you too Jim.

Derek: Las Vegas, NV

12/28/16 ‐ 2:55pm ET December 28, 2016 at 2:55pm ET

Thanks for your trade idea Roger, I like the strategy.

Derek

Roger Hill

12/28/16 ‐ 7:14pm ET December 28, 2016 at 7:14pm ET

Roger,
Thank you for sharing this strategy with us. I can see why, from the point of view of cash flow in your account, it is interesting to offset a put debit spread with some call credit spreads. Assuming, for example, you bought 10 put spreads for- $960 (10@$0.96) and offset that by 5 call spreads for $635 (5@$1.27) your account would be down only -$325.

However, the cost basis of this trade, at least the way I’ve been calculating it, has to include the risk of the $5 call spread so that the cost basis would be $325+$2500=$2,825. And I have been calculating total return as (proceeds/cost basis). Using these definitions, I have been comparing your spread strategy with the returns from a simple Long Put strategy.

Right now the cost of a simple AAP170120P170 contract is $3.25 so I can buy 9 such contracts for a cost basis of 900×3.25 = $2,925. If I assume that AAP will drop to $166 on Jan 9 and using the Fidelity Profit/Loss Calculator (without including commissions), I find the 9 long put contracts would have a profit of $1,621 giving a total return of 1621/2925=55%.

Using the same calculator, and again assuming a price of $166 on Jan 9, the 5 call spreads would show a profit of $542 and the profit for ALL 10 of the put spread contracts would be $478 for a total return of (((542+478)/2825)=36%. If this analysis is correct, then increasing the risk by only $100 has increased the return from 36% to 55%.

Since you are obviously a very experienced trader I am wondering whether these profit numbers make sense to you (I’ve only be at this for seven months and still have a lot to learn.) Again, I understand why cash-flow could be more of an issue than margin requirements or total return. But in my case, I think I will stick to the simple long put strategy and hope for the best.

Happy New Year to you and all our fellow investors.

Roger Dehring

12/29/16 ‐ 10:53am ET December 29, 2016 at 10:53am ET

All of your assumptions are correct, Roger,

I don’t worry all that much about percentage returns, rather preferring to look at cash-on-cash. Yes, if AAP goes down you are going to make more with a long 170 put. I am willing to accept smaller returns as well as dealing with the risk of working out of the calls should Jim not be right.

I have been in a AAP LEAP for nearly two years, thus, am very familiar with the company and how much it can move and do so quickly (It has a weekly ATR of nearly $8.00). Should AAP go up, you would be out your $2,925 cash investment, whereas, I would be out only $325 and need to work my way out of 5 contracts of JAN 175/180 calls. I could just close the calls for a maximum cost of $2,500, resulting in a smaller total cost ($2,825 vs. $2,925)…although I likely wouldn’t do that as I am confident I could work out of the calls for a smaller cost than $2,500.

Nothing wrong with what you are proposing. I just prefer to keep my cash investment at a minimum when doing trades like this.

And you have a Happy New Year also!

Roger

black arrow

12/29/16 ‐ 12:11pm ET December 29, 2016 at 12:11pm ET

Roger,
Interesting and enlightening as always! Thanks so much for sharing about the strikes you used – myself I just did the 165/160 spread – thanks to you.

Cheers

HowieA

12/28/16 ‐ 8:12pm ET December 28, 2016 at 8:12pm ET

Sold the Feb 175/180 call spread for $1.85. I think it is more conservative than either of the Roger’s trades since I make maximum profit so long as AAP stays under 175. I risk $5.00 less the $1.85 I have received = $3.15. $1.85/$3.15 = 58.7% profit for 51 days. Even if AAP goes up to 175 from its current price of $170.42, I keep my profit. What do you think?

Roger Hill

12/29/16 ‐ 1:32am ET December 29, 2016 at 1:32am ET

Howie,
This is indeed a much more conservative trade: you’re almost guaranteed (if Jim is right) a 58.7% return if you hold to expiration (51 days), a nice 420% annualized return
But, IF the price drops to $166 by Jan 9, the Jan 170 call can be closed out for a 55% return after only 11 days, a 1825% annualized return. If the price is above $170 on Jan 20, all is lost.
I guess it’s always the rule: more return requires more risk.
Thanks for sharing your strategy – it’s a good one.

black arrow

12/28/16 ‐ 11:00pm ET December 28, 2016 at 11:00pm ET

Howie,
I think you get to keep your profit!
Way to go
Through your fingers don’t let it flow.

black arrow

01/04/17 ‐ 10:37am ET January 4, 2017 at 10:37am ET

I noticed AAP was heading up in price so I exited. Check it out

black arrow

01/04/17 ‐ 12:17pm ET January 4, 2017 at 12:17pm ET

Hi Jim,

While AAP may not have their hi-beams on, it has come to my attention others are shining! Like GM, F, BWA, MGA, KMX, TEN and $DJUSAU is breaking to the upside.

VVRMMM, VVRRREM!

Roger Dehring

01/11/17 ‐ 10:33am ET January 11, 2017 at 10:33am ET

With AAP running up the past few days and only 7 more trading days until JAN expiration, I closed the JAN 175/180 call spread this morning for a -$1.12 debit. Will keep the puts in place for a few more days as they wouldn’t return a great deal today.

Roger

Larry Johnson

01/11/17 ‐ 4:40pm ET January 11, 2017 at 4:40pm ET

Up over $3.50 again today…..insane.
When it falls, it’s gonna fall HARD.

Roger Hill

01/11/17 ‐ 5:05pm ET January 11, 2017 at 5:05pm ET

I originally bought the AAP170120P170 for $3.30.If the stock closes above 170 on Jan 20 I would face a loss of $330 per contract. Following Roger Dehring’s lead I decided not to take that chance.
So, I “rolled” AAP by selling the long put and selling a call credit spread AAP170217C180/175 in a 3 legged trade for a net credit of, coincidentally, $3.30.
This means that if the stock closes below $175 on Feb 17, I will at least break even (except for the commissions). Not what I was hoping for but at least not a loss.
Howie A had the right idea for this one.

Larry Johnson

01/12/17 ‐ 4:08pm ET January 12, 2017 at 4:08pm ET

Not a bad strategy, Roger.
Yeah, you’re right: Howie pretty much nailed this one.
It’s up another $1.04 on a down market day??? “The Force is strong in this one….”.
There is no way on this green earth that AAP is worth $174.47…..LOL…grossly overvalued by a factor of 2, IMHO.
Someone thinks worth it though as it went up over a dollar in the last hour of the market today.

Karl

01/13/17 ‐ 7:33am ET January 13, 2017 at 7:33am ET

Perhpas AAP is up because it is a takeover target?
http://www.cnbc.com/2017/01/12/cramer-argues-why-aap-is-ready-to-catch-a-juicy-takeover-bid.html?__source=yahoo%7Cfinance%7Cheadline%7Cheadline%7Cstory&par=yahoo&doc=104215631&yptr=yahoo

Jim Pearce

01/13/17 ‐ 8:55am ET January 13, 2017 at 8:55am ET

That’s about the only thing I can think that could push its share price appreciably higher, but a lot of M&A deals may be put on hold for a few months to see how Trump’s administration roles out its legislative agenda. In the meantime, AAP reports earnings the second week of February which should determine which way this trade ultimately turns out.

Karl

01/13/17 ‐ 10:06am ET January 13, 2017 at 10:06am ET

AAP is up again. So i decided to close out my Jan. 170/175 call spread with a loss of 1.96 per spread.

Larry Johnson

01/13/17 ‐ 1:54pm ET January 13, 2017 at 1:54pm ET

I had a couple of PUTs on it and closed them out first thing this morning.
Will watch it over the next few weeks and maybe do them again sometime just before the earnings statement.

Larry Johnson

01/13/17 ‐ 9:51am ET January 13, 2017 at 9:51am ET

Appreciate the “heads up” on a potential takeover news, Karl.
I figured there had to be a reason for the big push upwards.

Jim Pearce

01/23/17 ‐ 9:44am ET January 23, 2017 at 9:44am ET

For those of you still tracking this alert: I haven’t seen any news yet, but looks like we are starting to see some pronounced downward movement in AAP over the past week, and it was down sharply at the open this morning. Somebody is getting out of it, but don’t know who yet. Is anyone still following this one? If so, I will continue to follow it and keep you apprised.

Rick W.

01/23/17 ‐ 4:41pm ET January 23, 2017 at 4:41pm ET

I am in it Jim so I would appreciate your keeping at least me apprised. I can hardly believe I am the only one in it! Thanks.
Rick

Jim Pearce

01/23/17 ‐ 4:51pm ET January 23, 2017 at 4:51pm ET

Will do. I think a lot of people bailed when AAP started to move up, even though I stated in the alert that this trade might take longer to pay off than for CTAS (which paid off right away, and may have created an unrealistic expectation for the ones to follow).

Rick W.

01/23/17 ‐ 5:05pm ET January 23, 2017 at 5:05pm ET

Lord give me patience and give it to me now!

Rick W.

01/23/17 ‐ 4:49pm ET January 23, 2017 at 4:49pm ET

Do you have a target? Possibly $149 area to close the gap?

Jim Pearce

01/23/17 ‐ 4:56pm ET January 23, 2017 at 4:56pm ET

The upper Bollinger Band bottomed out around $146 in November at the same time the 50DMA crossed through it, is so I’d guess that’s about as low as it could go in the near term (but there is some support around $162 that it will need to get through first).

black arrow

01/23/17 ‐ 10:00pm ET January 23, 2017 at 10:00pm ET

Hi Rick W.,
I am sending you a chart I have definitely labored over, but hope can be helpful for you.
http://schrts.co/tw4qk8 I highlighted the gap or window area in a pink tone. Tight now its just a Tad below the 50 day EMA – next stop 200 day at about 160.
Note the zero horizontal line in the price percentage oscillator? if you are hoping it dives watch for it to crash down through zero. Notice looking to left in RSI pane we see a oversold are below the 30 line? note how low prices were. So watch to the right for upcoming days see if RSI remains in the oversold area. And in the ppo viewing pane you won’t want the black line rising above the red signal line.
Hoping it falls like an anvil tossed out of a plane for you.

Rick W.

01/24/17 ‐ 3:24pm ET January 24, 2017 at 3:24pm ET

Thanks for the input BA. Is there another name for the price percentage oscillator? I can’t seem to find it on TOS? Thanks again!

black arrow

01/24/17 ‐ 3:40pm ET January 24, 2017 at 3:40pm ET

I get it from Stockcharts.com It is made by same person that made MACD, it is similar but measures per cent. you could use MACD instead and go by that.
Cheers

black arrow

01/24/17 ‐ 5:30pm ET January 24, 2017 at 5:30pm ET

Rick W., I have a new chart style that may be better for you.
http://schrts.co/k9plxA
this uses MACD 5,30,5 histogram turns positive when it moves above 0.0 and negative moving below 0.0 red lines tip you that RSI 5 turned to oversold. This has a 50 day EMA and is showing an overall uptrend because 50 is above the 200 note it had a golden cross. MACD measures absolute difference between the 2 EMA’s. You can use MACD instead of PPO.
hope this helps you measure directional progress.

Rick W.

01/24/17 ‐ 7:11pm ET January 24, 2017 at 7:11pm ET

The 5,30,5 is too finicky for me BA, too many false signals in my humble opinion.
Jim Pearce, do you have a preference for your MACD and RSI settings for the time periods we are working with in your program?

Jim Pearce

01/23/17 ‐ 4:57pm ET January 23, 2017 at 4:57pm ET

Looks like this is the reason why: http://finance.yahoo.com/news/amazon-expands-auto-parts-industry-155524974.html. Will be interesting to see how the company responds to this news, and to what extent it influences their forward guidance when they release earnings in a couple weeks.

Walter

01/24/17 ‐ 11:06am ET January 24, 2017 at 11:06am ET

I still have a long AAP PUT 3/17/17 170.00 P. Please contunue to follow, it is up again today.
Will wait to see their earning report.

Larry Johnson

02/01/17 ‐ 11:19am ET February 1, 2017 at 11:19am ET

It’s taking a royal pounding today….down $3.77 as I type this.

Jim Pearce

02/01/17 ‐ 11:43am ET February 1, 2017 at 11:43am ET

It just broke through its lower Bollinger Band, will be interesting to see where it hits support. May not find it until it gets below $150.

Larry Johnson

02/01/17 ‐ 2:35pm ET February 1, 2017 at 2:35pm ET

Yep….been watching it most of the day in between chores around here.
I held a Feb $165 PUT that I just unloaded a little bit ago for a 25% profit.
I didn’t want to hold the Feb PUT much longer and the money was there so I unloaded it.
I suspect it may do a little bit of a rally before earnings. IF so, I may pick up another PUT depending on price just before the earning come out.

Rick W.

02/10/17 ‐ 9:52am ET February 10, 2017 at 9:52am ET

Hi Jim,
FYI. I closed AAP out for a small gain of 2.79% or 22.17% annualized. Better than a poke in the eye with a sharp stick! Thanks.
Rick

Jim Pearce

02/10/17 ‐ 10:47am ET February 10, 2017 at 10:47am ET

Well done; as the old saying goes, you’ll never go broke taking a profit! AAP reports on February 21, so will be interesting to see which way it goes after that.

Larry Johnson

02/10/17 ‐ 12:04pm ET February 10, 2017 at 12:04pm ET

I bought another PUT yesterday on that late-in-the-day run up. That is the 3rd PUT I’ve bought on AAP. I sold the other two on some big daily drops (actually day traded one of them) for a small 2-5% gain after commisons each time. Like Rick, I’ll take those small gains rather than the sharp stick in the eye….LOL. This 3rd one I plan on holding till earnings come out….unless it really drops beforehand to allow me to pick up another gain….we shall see.

Jim Pearce

05/25/17 ‐ 1:53pm ET May 25, 2017 at 1:53pm ET

Larry – I hoped you hung on to that last put! https://finance.yahoo.com/news/advance-auto-parts-misses-street-103626426.html. 🙂

Jim Pearce

02/21/17 ‐ 2:31pm ET February 21, 2017 at 2:31pm ET

AAP released earnings today, and they came in below estimates as I expected (http://finance.yahoo.com/news/advance-auto-parts-misses-4q-114038485.html). But the stock didn’t move much as a result, not surprising since it had already dropped heading up to the announcement (a little insider trading, anyone?). Since this is not an official portfolio holding to begin with there is no position to close out, but at this point we have probably realized most of the short term gain there is to be had so I will discontinue coverage of this alert as of today.

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