It's Time To Sell This Classic American Stock

David Goodboy's picture

Wednesday, March 8, 2017 - 11:30am

by David Goodboy

Even giants can fall in the stock market. History is full of companies once thought to be bulletproof that are now relegated to the dustbin of history. Even the great Warren Buffett is not immune to economic forces.

Right now, Buffett's third largest holding, the Coca-Cola (NYSE: KO) company is setting up for a sell-off. Despite its size, dividends, past performance, and investor interest, Coca-Cola stock is not beyond entering a downward period.

And this could have wide-reaching implications. Not only is Coca-Cola a huge holding for the Oracle of Omaha, but it is also a major part of the majority of diversified stock portfolios and a Dow component. This means that many giant index funds and ETFs are heavily invested in the stock.

But this is nothing to be afraid of. In fact, savvy investors can use the expected down period to profit handsomely on the short side.

How Can I Profit From Coke's Decline?
The coolest thing about active trading is that money can always be made, whether the stock is going up or going down. Unlike the majority of buy-and-hold investors, the active investor does not care what direction the stock moves. The secret is to be on the right side of the move.

Every stock moves in a series of up and down moves. Even the largest, most influential Wall Street names can have extended periods of negative returns.

There a several primary ways you can profit from the decline of stock.

The first way is by shorting the shares. Shorting entails borrowing shares from your broker with the goal of selling them back to the broker at a lower price, thereby pocketing the difference. The borrowing aspect is all automated by your broker, making the process as easy as purchasing the stock.

Alternately, you can purchase put options on the stock. These types of options increase in value inversely to the value of the stock. In other words, puts increase in value as the price of the shares declines.

Finally, you can patiently wait for the decline to reverse and use this opportunity to purchase the shares at a better price.

Why Will Coca-Cola Shares Fall?
Coca-Cola, the world's largest soft drink company and an iconic American brand, is up against insurmountable headwinds for further growth which will lead to a sharp decline in share price.

1. Fundamentals Are Declining
The leading reason for my bearish position is the continual fundamental decline of Coca Cola's critical metrics. The latest numbers show a 6% revenue decline for its fiscal second quarter. Also, net income and diluted earnings fell by over 50% during the same quarter year-over-year.

Worse, Coke cut its organic revenue projection. Organic revenue means all revenue generated by product sales excluding the effects of acquisitions, divestitures, and exchange rates. The company forecasts organic revenue will grow approximately 3% this year, compared with an earlier forecast for a gain of 4% to 5%. EPS is also expected to fall 4-7% in 2017. These are all warning signals for investors.

While the company points at its refranchising efforts as the culprit, I think the reasons are much more insidious macro-economic factors.

2. Global Slump In Soda Sales
The movement toward healthier alternatives has severely hurt Coke's flagship product lines. In 2015, Soda consumption plunged to a 30-year low, according to an industry group. As more and more consumers become aware of the health issues resulting from soda consumption, this number will only get worse for Coca-Cola.

3. Waves Of Product Taxation
When the government turns against it, there is little a company can do to fight back. Just think of the near-destruction of the tobacco industry at the end of the twentieth century.

Now, local governments have started the ball rolling to help solve the obesity health issue in the United States. Targeting soft drinks, several local governments have launched a soda tax.

Philadelphia hosted the first example of the soda tax. The city taxed soft drinks at 1.5 cents per ounce at the distributor level. This equates to an additional $1.01 per two-liter bottle. Sales were decimated by the tax, plunging 30-50%. This led to grocery stores slashing allotted shelf space by 50% in some cases.

San Francisco, part of Chicago, and Boulder, Colorado are all considering implementing the tax. Should the taxation become widespread, it will be a death blow to the company.

Risks To Consider: Coke has lasting power thanks to its sheer size. Although I think unlikely, it may be able to turn things around through innovation. Always be extra cautious when shorting a stock.

Action To Take: There are many ways to play to the pending decline in KO shares. If you decide to short, enter on a downside break of $42.00 per share with stops at $44.07 per share and a target price of $32.00 per share.

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David Goodboy does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.