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A Trade Too Good To Ignore

solar

If you will forgive me, I would like to brag a little. On April 27th of this year I wrote that after a long period of bullishness on First Solar (FSLR) during which the stock gained well over 150%, I recommended not just taking a profit, but also selling FSLR short. On that day, First Solar hit a multi-year high of $81.72 and began a precipitous drop. After the market close yesterday, the company reported earnings that showed a swing to a loss in Q2, and, understandably enough, it dropped again, leaving it over 40% lower than when I made that call. From a long-term perspective, however, the drop now looks overdone, and covering those shorts and going long now looks like the best trade.

As usual with swing trades like this, the reversal is prompted by both technical and fundamental factors. Let’s look at the technical first.

(Click to enlarge)

Regular readers will know that when it comes to technical analysis, I favor a simple approach based on support and resistance levels and look at exit points rather than entry points. Those preferences are based on simple truths. First, traders tend to respond to the obvious, so the more obscure the analysis, the less likely it is to be accurate. An obvious support level such as the 52-week low of FSLR at just below $45 marked above will attract buyers and make rapid further declines much less likely. The second truth is that long-term success in trading is at least as much about limiting potential losses as taking profits. The proximity of a level such as that above allows for a logical stop-loss that would limit potential loses to around 10%, a manageable number given the profit booked so far on the way up and then down.

However, regular readers will also be aware that I frequently caution that no matter how compelling the technical case for a stock, fundamentals will always override the chart. In the case of FSLR right now, the fundamentals look terrible for all the reasons I outlined in April, including a fossil fuel friendly White House and Congress, and the continuing trade war with China. What investors should bear in mind though, is that the success of that trade was based not on prevailing conditions at the time, but on a logical assessment of what was to come. It is, as the old saying goes, always darkest before the dawn, and there are reasons to believe that another dawn for FSLR is coming.

The biggest cause of FSLR’s collapse has been the ongoing trade war with China. In June, Donald Trump added a 25% tariff on soar cells to the 30% tax he imposed in January. As First Solar acknowledged in the conference call following yesterday’s release, that has hit prices in the industry hard. What was also pointed out in that call though was that the hard times could turn out to be beneficial for FSLR in the long run given their strong balance sheet.

First Solar has used the good run for their business to shore up that balance sheet, and now has nearly $3 billion of cash on hand and a current ratio of nearly 7. That puts them in an enviable position as competitors struggle and will enable them to pick up some assets on the cheap as the industry consolidates.

Of course, that still leaves the difficult energy environment and the trade war as potential problems, but in both cases, it is reasonable to believe that this too shall pass.

There are two ways to look at the trade situation, and which you choose probably depends on your politics. Either Donald Trump is a master negotiator whose aggression will lead to long-term gains, or he is engineering crises and claiming credit when we return to the status quo. Either way, though, the facts suggest that massive tariffs will not last very long. The agreement this week with the E.U. shows that there is a way out, and a similar deal with China looks likely. The Trump administration is under enormous pressure on many fronts and a win on trade, even if it is a manufactured one, is sorely needed.

Last, but by no means least, after this latest collapse, it looks as if FSLR is oversold, if for no other reason that it is trading below the $49.25 book value.

Add all of that up and it is time to reverse again and buy the stock. We may not get another 150% climb, but with limited risk, the trade sets up as too good to ignore.




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