Virtually all investors aim to identify stocks that offer growth potential while being reasonably priced relative to their fundamentals. This approach is often associated with legendary investor Peter Lynch, who advocated for a balanced approach to investing. I have found an example of one such stock and how to play it with options. To characterize a company as “growing,” I generally have two criteria. First, revenues must grow faster than nominal GDP growth (non-inflation adjusted), or in the rare case that real GDP shrinks, revenue growth must outpace inflation. If revenues aren’t growing as fast as the economy or inflation, then it is shrinking in real terms. Second, I look for net income or adjusted earnings per share growth to exceed that of the S & P 500 comfortably. The S & P has delivered remarkable long-term earnings growth, doubling in the past 10 years, a compound annual growth rate (CAGR) of nearly 8%. Most companies don’t have the inherent benefits of diversification that an index has or the expected lifespan, so a decent track record of greater than 10% annual earnings growth is probably a suitable starting point. Adobe (ADBE) — known for brands such as Acrobat and Photoshop and their creative cloud offering — is one of the largest diversified software companies. The company reports after the bell next Wednesday. Over the past 10 years, revenues have increased nearly fivefold, and earnings have risen from just under $750 million in fiscal 2014 to almost 6.3 billion over the last four reported quarters. The Street consensus is that the company will report more than $8.2 billion in adjusted net income next week when they report fiscal 2024 results. ADBE remains at the epicenter of digital transformation with a comprehensive suite of products. AI play The challenge is that technology evolves rapidly, meaning new competitors are entering the scene. AI is the catchphrase, as it is in almost every industry these days. Adobe’s entrant in GenAI (Generative Artificial Intelligence), a system designed to generate new content, such as images or other forms of data, based on prompts or inputs, is “Firefly.” Still, it’s clear that the AI landscape we see is evolving at astonishing speed, and there’s likely far more currently operating in “stealth mode” that we haven’t seen yet that may be released at any moment. If Adobe can monetize Firefly and the company’s growth can be sustained, it is reasonably valued at 26 times forward earnings estimates. There is a fly in the ointment: the price action. Adobe has fallen more than 10% this year, more than 23% lower than its all-time high three years ago. ADBE YTD mountain Adobe, YTD Traders looking at that price action following earnings over the past eight quarters are unlikely to be reassured; three of the past four reported quarters have seen significant post-earnings declines. As of this writing, the options market is anticipating an earnings-related move of nearly 8%. The trade With these two contradictory considerations, a trade positioned to profit on a move higher, consistent with our longer-term fundamental view, but still have a satisfactory outcome if the recent weakness persists through earnings makes sense, such as a “strangle swap”, which is effectively the combination of a downside bearish calendar put spread and an upside bullish calendar call spread. The December/March $480/$600 strangle swap in this example uses strikes approximately 1 standard deviation from the current stock price, and the longer-dated March options will capture the company’s Q1 2025 quarterly earnings release which they are estimated to report around March 14th. Sell ADBE Dec. 20 $480 put Buy ADBE March 21 $480 put Sell ADBE Dec. 20 $600 call Buy ADBE March 21 $600 call DISCLOSURES: (None) All opinions expressed by the CNBC Pro contributors are solely their opinions and do not reflect the opinions of CNBC, NBC UNIVERSAL, their parent company or affiliates, and may have been previously disseminated by them on television, radio, internet or another medium. THE ABOVE CONTENT IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY . THIS CONTENT IS PROVIDED FOR INFORMATIONAL PURPOSES ONLY AND DOES NOT CONSITUTE FINANCIAL, INVESTMENT, TAX OR LEGAL ADVICE OR A RECOMMENDATION TO BUY ANY SECURITY OR OTHER FINANCIAL ASSET. THE CONTENT IS GENERAL IN NATURE AND DOES NOT REFLECT ANY INDIVIDUAL’S UNIQUE PERSONAL CIRCUMSTANCES. THE ABOVE CONTENT MIGHT NOT BE SUITABLE FOR YOUR PARTICULAR CIRCUMSTANCES. BEFORE MAKING ANY FINANCIAL DECISIONS, YOU SHOULD STRONGLY CONSIDER SEEKING ADVICE FROM YOUR OWN FINANCIAL OR INVESTMENT ADVISOR. Click here for the full disclaimer.
