Down 21% in the Last Month, MP Materials Stock Just Might Be a Discount Buy Here

With the U.S. and its western allies locked in a fierce geopolitical competition for critical resources, it’s not that much of a stretch to say that MP Materials (MP) is permanently relevant. As a producer of rare earth materials primarily in the western hemisphere, MP stock offers a clear long-term investment case. However, a quantitative signal also allows options traders to potentially extract quick profits.

Very quickly, the macro thesis for MP stock centers on its execution-driven infrastructure story. Primarily, the company owns and operates the Mountain Pass mine in California — the only scaled, active rare earth mining and processing site in North America. With China controlling about 70% of global mining extraction and close to 90% of the downstream magnet manufacturing capacity, MP Materials offers a much-needed counterweight.

In addition, MP is transitioning from a raw, low-margin miner to a vertically integrated magnet manufacturer. Not only has this shift ramped up the enterprise’s relevance, shareholders have also benefited from a sizable increase in revenue and earnings. Ultimately, MP stock should continue to attract eyeballs as advances in technology consume greater amounts of rare earths.

While these and other elements represent strong talking points, they’re almost surely reflected in the current MP stock price. I’m going to veer away from the common assessment that shares are undervalued because the market hasn’t fully priced in the good news. Unless there’s clear evidence to suggest that is the case, the arguably smarter move is to assume that the publicly available risk-reward profile has been fully digested.

If that’s the case, what’s this talk about MP stock being a discount? Conditioned for a specific quantitative setup, buying MP stock at this juncture may offer more favorable odds rather than buying it randomly.

Using Pattern Recognition to Trade MP Stock

Despite MP Materials generally being considered a solid investment, the security suffers from a 48% Sell rating by the Barchart Technical Opinion indicator. Why? In the trailing 30 days, MP stock has suffered a 21% drop in market value — and I think you know where I’m going with this.

Basically, most contrarian traders believe in the mean-reversion theory. After a fundamentally relevant stock has been beaten down, the bears may be exhausted. Further, for the security to continue falling, the new information that comes in needs to be significantly poor. However, any positive news can have a disproportionate impact, thus sparking the aforementioned mean reversion.

Of course, to act on this phenomenon, the signal must generate a performance that is superior to what would be expected from a random baseline; otherwise, if the signal did not provide superior performance, the incentive to trade vanishes.

As a reference point, if we were to buy MP stock today (at $54.74) and hold it for a 10 weeks, at the end of the period, we would expect a forward distribution landing between $53 and $56. With most of the probability mass of the distribution falling behind the starting price, MP historically suffers from a slight negative bias.

As mentioned earlier, though, we’re not interested in buying MP stock at random. Instead, we’re targeting a specific signal. In the last 10 weeks, MP printed only four up weeks, leading to a downward slope. Conditioned for this 4-6-D sequence, the security’s forward 10-week distribution would be expected to land between $51 and $62.50, with probability density peaking at $57.50.

In other words, under the present condition, MP stock has tended to yield much more positive results than would be expected from a random exposure. Therefore, the risk-reward profile may be favorable to aggressive bullish speculators.

Identifying a Specific Trading Idea

Just how much can MP stock rise from the aforementioned signal? As a median target, the resultant pathway has tended to reach around $57 over the next seven weeks, with the 75^th percentile pathway reaching about $64. Given this data, the 55/60 bull call spread expiring Aug. 21 might not be unreasonable.

First, the $60 strike is a realistic target given the expected forward distribution of MP stock. Second, the breakeven price of $57.10 provides some margin for error. Should the trade pan out — meaning that MP rises through the second-leg strike at expiration — the maximum payout would stand at over 138%.

Before you dive head-first into this trade, a word of caution is necessary. All inductive models threaten to run afoul of the black swan risk. Colloquially, just because you see a thousand white swans doesn’t mean all swans are white. As soon as a black swan enters the frame, the underlying presupposition evaporates.

That said, with the inductive model, we’re using pattern recognition from real empirical data. Stated simply, when MP stock’s forward distribution is conditioned for the 4-6-D sequence, it tends to have a bullish profile — that’s a historical, statistical fact.

Will this sequence turn true for the bulls this time around? I can’t guarantee that. But if you’re a believer that markets aren’t totally random, there may be a signal to exploit.