Option Trading Idea for Amazon.com (AMZN)

03/30/2010 12:01 am EST

Focus: OPTIONS

Amazon.com (AMZN) has come a long way in the past year: They released a new-and-improved Kindle, their fourth-quarter sales rose 42% to $9.52 billion, and their stock almost doubled from $70 to $135. Not bad for a year’s work!

If you’re a stock trader looking for investments with potential upside, AMZN is not a bad place to start. But since the price has gone up so quickly, maybe you’re thinking it’s too late. Like some experts, maybe you think any upside is already baked into the price, which means you don’t expect it to do much in the short term. Wouldn’t it be great if you could pick your own price and make money on the stock until it dropped into your price range?

That’s what one of our favorite options strategies, the cash-secured put, allows you to do.

Here’s How It Works

First you pick the price at which you’d like to own shares of AMZN. Right now they are at $135, and let’s say you think $130 is a good price. So you sell one April 130 put contract for $1.65. What does that mean? It means you get $165 dollars (100 x $1.65) deposited into your account—no questions asked!

Of course, there is a catch: Once you sell the put, it means you are on the hook if and only if AMZN shares go down to $130 by the third Friday in April (that’s expiration week). If it does go down to 130 at expiration, you will be forced to buy 100 shares (that’s the size of one contract) of Amazon at…you guessed it: $130/share. That’s a total of $13,000 (offset by the original $165)—some serious scratch. But you wanted to own Amazon at $130 anyway, so you finally got what you wanted.

If Amazon stays above $130, you get to keep your $165.  And if you want, you can do it again and again every month and keep collecting money until you either own the stock or you don’t want to play ball with AMZN anymore. How sweet is that? A cash-secured put does mean you have to have the money to cover the position in your account (in this case, $13,000 for every put contract sold, minus the credit of $165). But if you really do like the stock at that price, this strategy allows you to make some money while you wait.

Here is a profit and loss chart created in a Click Herevirtual trading account:


Click to Enlarge

Breakeven is $128.35, or the strike price minus the credit collected.  Below this, the strategy loses money because it is just like owning AMZN shares.  Trust me, for those bullish on AMZN, selling a cash-secured put is much better than twiddling your thumbs waiting for the stock to fall to $130. 

By the Staff at ONN.tv

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