Ugly STMicroelectronics Stock May Have Just Signaled a Turnaround

Let’s just face the brutal reality: STMicroelectronics (STM) is currently one of the uglier tech names on Wall Street. In the trailing month, STM stock has suffered a decline of nearly 21%, a byproduct of disappointing forward guidance. Subsequently, the ticker is only considered an 8% Weak Buy per the Barchart Technical Opinion indicator.

At the same time, for those who see the glass half-full, it’s a positive development that STM stock is still considered a bullish opportunity. Some of that is due to the overall picture, where the semiconductor contract manufacturing and design company has witnessed a 109% lift in its market value on a year-to-date basis.

Plus, analysts have overall been eyeballing the business. Sure, the third-quarter revenue guidance wasn’t flattering but one miss might not destroy the entire enterprise. And fundamentally, that’s where the optimism comes into play — relevant tech firms should receive the discount treatment.

Of course, this dynamic leads to an obvious question: when might investors (particularly the professional variety) buy the dip? Using an inductive analysis anchored to past market behaviors following similar bearish cycles, I believe there’s a solid chance that STM stock could march higher over the next five weeks.

Specifically, I’m targeting the 55/60 bull call spread expiring Sep. 18. This trade requires a net debit of $205, with speculators hoping for STMicroelectronics stock to rise through the $60 second-leg strike price. If it does, the maximum profit is $295, translating to a payout of nearly 144%.

The idea sounds enticing, right? Well, the problem is the high probabilistic risk. If you work the numbers in the Expected Move calculator backwards, the probability that STM stock will hit $60 on Sep. 18 is only 27.55%. Fortunately, the saving grace is the probability of breakeven, which comes in at 46.4% ($57.05).

Still, these numbers aren’t great. But the fascinating angle is that they could be overstating the risk.

STM Stock Could Encounter a Nonrandom Walk

Before I begin my analysis, we must recognize that market transactions are entirely probabilistic. There’s no way — as far as anyone has demonstrated — to determine what a security’s future market value may be. As such, my work, everybody else’s work, along with every single forward indicator, are entirely presuppositional.

What’s a presupposition? Imagine having a lazy stroll along a public park and a street preacher corners you and declares that there’s only one road to ultimate truth. That’s a presupposition. Until we discover this ultimate truth, it can come in the form of various entities and experiences.

Wall Street’s presupposition — when it comes to options pricing — is that all securities will move along what’s known as a random walk. To be fair, major institutions don’t actually believe this. However, it would be absolutely wild to price the future possibilities of an option using an asymmetric, nonrandom walk. Since the options market needs to satisfy all while failing to keep any one particular entity happy, a vanilla random-walk assumption represents the political compromise.

With all that said, I refuse to believe that STMicroelectronics stock will engage in a random walk — certainly not now. In the last 10 weeks, STM only printed three up weeks, leading to a sharply downward slope. Under this 3-7-D quantitative sequence, the forward tendency is for nonrandom, asymmetrical behavior.

How nonrandom are we talking about? Five weeks after the above signal flashes in the charts, the median STM stock price would be projected to hit the equivalent of around $58.50. That time period approximately corresponds with the Sep. 18 expiration date, which is why I’m interested in the 55/60 bull spread.

With any luck, STM stock may be able to hit the $60 strike at expiration. If not, there’s a decent chance (assuming the accuracy of the nonrandom observation above) of clearing the $57.05 breakeven price.

Expected Value Calculations Highlight the Risk

Unfortunately, the way that the Sep. 18 options are priced, there’s no call spread targeting the $58 strike. As such, options traders have to make a jump here, which may lead to a less-than-efficient transaction.

According to past historical data, STMicroelectronics stock has flashed the 3-7-D signal only 15 times on a rolling basis since January 2019. That’s an extremely small sample size so the probabilistic implications need to be taken with a grain of salt. Nevertheless, STM has cleared the equivalent of the $60 strike a total of six times at the end of week 5 (Sep. 18). That’s a success ratio of 40%.

So, over the theoretical long run, the 55/60 bull spread would be expected to win $118 (40% x $295) but lose $123 (60% x $205). You’re looking at a projected long-term loss of $5, which obviously isn’t great. But anything can happen on any one given trade. And when STM stock is quantitatively structured in a 3-7-D sequence, the near-term result tends to be nonrandom robustness.

Keep in mind, too, that out of the 15 times that the signal has flashed, STMicroelectronics stock has exceeded the $57.05 breakeven price a total of 11 times at the aforementioned period. At an observed success rate of 73.3%, it’s far higher than what Wall Street’s standard pricing model is implying.

Does that mean my model is better? Not necessarily — we’re not going to know until we know. But given the uncertainty, I believe that you may be better playing the numbers than simply taking a guess.