Palo Alto Networks Stock Looks Cheap Ahead of Earnings - Shorting PANW Puts Works

Palo Alto Networks Inc (PANW) stock has moved up from its recent low prices, but still looks undervalued. It could be worth $198 per share. One way to play PANW stock and to set a lower potential buy-in price is to sell short out-of-the-money (OTM) put options.

PANW closed at $169.56 on Monday, but it's up from a recent low of $147.02 on March 27. It could be worth significantly more.

What PANW is Worth

I discussed its valuation in a March 20 Barchart article, “Palo Alto Networks Stock Is Still Deeply Undervalued Based on its FCF - How to Play PANW.”

I showed that PANW could be worth $162.5 billion, based on a projected $4.6 billion in free cash flow over the next 12 months. This was taken from management's forecasts that it will generate 37% FCF margins this fiscal year and next.

That implies that PANW stock could be worth 17.4% more than its present market cap of $138.36 billion, as calculated by Yahoo! Finance. In other words, the price target (PT) for PANW is:

  $169.45 stock price x 1.174 = $198.93 PT

Moreover, analysts surveyed by Yahoo! Finance have an average PT of $205.96 per share, and Barchart's mean survey price is $208.02. Similarly, AnaChart's survey of 39 analysts shows an average PT of $218.91 per share.

The bottom line is that PANW stock still looks cheap here, even after its recent runup.

However, there is no guarantee it will not fall from here. Therefore, one useful way to play it is to sell short out-of-the-money (OTM) puts (i.e., at lower strike prices than today's price). That way, an investor can get paid while waiting to buy in at a lower breakeven price.

Shorting OTM PAWN Puts

I discussed this in my last article on Palo Alto Networks stock on March 20. I discussed shorting $150 strike price puts expiring this Friday, April 24. The premium received was $2.78, for a 1.853% yield over one month (i.e., $2.78/$150.00).

Today, the $150.00 put price is down to just 9 cents at the midpoint. That shows this has been a successful short play. Therefore, it makes sense to do this again.

For example, the May 22 expiry $155 put options strike price has a midpoint premium of $2.86. That gives a short-seller a 1.845% one-month yield (i.e., $2.86/$155.00).

This means that an investor who secures $15,500 in cash with their brokerage firm can make $286 after entering an order to “Sell to Open” 1 put contract at $155.00.

This is attractive to investors since the put strike price is over 8% lower. Note also that the delta ratio is very low: -21.62%. That implies less than a 22% chance that PANW stock will drop to $155.00 before May 22.

Moreover, even if that happens, the breakeven point is even lower:

  $155.00 - $2.86 = $152.14, i.e., 10.2% lower than Monday's closing price

The bottom line is that PANW stock looks cheap, and one attractive way to play it is to sell short out-of-the-money (OTM) puts.