Massive covered call trade could net big returns for tech bull, writes Jay Soloff....
An Option Play for a Range-Bound Stock
09/06/2013 8:00 am EST
Credit card companies have been nonexistent for the summer, writes Adam Beaty of ino.com, but one company, in particular, could nevertheless be signaling an opportunity.
American Express (AXP) and Visa (V) have been trading in a range since May. Mastercard (MA) has seen a little bit of action thanks to some better-than-expected earnings. The stock that traders should focus on is American Express. AXP has traded in a range from $72.00 to $78.00, and right now, is bouncing off the lower levels. AXP is oversold, so a bounce is probable here, especially if there is a market bounce to go along with it. Traders could get long here with a first target at $73.30 and another target at $75.00.
AXP Daily Chart
But what if there isn't a bounce?
AXP IV Chart
Right now implied volatility 30 days out is sitting at 22.06 while its yearly average volatility only comes in at 19.50. Not a big gap between current and average, but traders will notice volatility is still elevated. In fact, for the last earnings volatility only rose to 23.00.
Where is the play in all this volatility mumbo-jumbo?
Traders need a play that is going to profit from a drop in volatility and take advantage of a stock that isn't moving.
This sounds like an iron condor!
Iron condors are generally neutral plays. "Generally" is used because traders will actually be short some delta thanks to volatility skew. The iron condor to look at is the October 62.5/65/80/77.5.
AXP Iron Condor Theoretical P/L Graph
That means traders will want to sell the 65 puts, buy the 62.5 puts, sell the 77.5 calls, and buy the 80 calls, and traders will want to do this for a .52 credit.
Traders will want to take advantage of maximum time decay so traders will want to place this trade now and take it off in 30 days. This will allow traders to profit quickly while AXP sits in a range of $64.50 to $78.00. When implied volatility comes in, it will reduce the premiums in the options, which will generate our profit.
The margin (max risk) on this trade will be 1.98, to generate a 26% return on margin with an estimated 80% chance of success.
By Adam Beaty of ino.com
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