Secure Profits with Network Security Stock

03/12/2014 8:00 am EST

Focus: OPTIONS

Suz Smith of ExplosiveOptions.net offers a trade idea for a tech stock that has been in the news in recent days.

Palo Alto Networks, Inc. (PANW) offers a network security platform for enterprises, service providers, and government entities. This is a red-hot sector; PANW trades with peers such as Intel (INTC), Fireeye (FEYE), F5 Networks (FFIV), Fortinet (FTNT), and Juniper Networks (JNPR).

On Friday, PANW jumped 11.04% (+$7.67) on news that a mistrial was declared in its patent infringement suit instituted by JNPR. An 11% move in any stock in the space of just a few hours has the ability to pump up the volatility of the options. When this happens, I like to choose a strategy that takes advantage of the inflated call options prices while still giving protection to the downside, just in case the overall market makes an adverse move. It will take a while for JNPR to start a new trial, so I am not worried about that as an adverse catalyst in the near-term.

The strategy I employ in these situations is a covered call. Lets take a look at the chart:

chart
Click to Enlarge

I see very bullish developments in the technicals of the PANW chart. The stochastic is oversold and hooked up, thus giving us an official “buy” signal. The MACD has reversed and is starting to stair-step up, while support was held at the 50-day ema on its last price cycle down. RSI is improving and volume has spiked—all signs of accumulation and a strong stock.

While I think this stock will pull back some, you can alter this trade to fit wherever the stock corrects back to. For now, I like buying the stock here at $77.12, selling the June $75 calls for $9.20 or better (that is the mid-line price as of Friday’s close). This gives you a 9.2% return, 11.9% downside protection, and a breakeven price of $67.92. If the trade resolves in the manner intended, you keep $7.08 per contract. The breakeven price is significant, because in order for it to be hit, the price would have to shrug off the JNPR news that made it jump 11% on Friday AND break the middle Bollinger Band that has historically been defended.

As an uber-conservative alternative, you could also consider selling the June $65 puts naked for a credit of $3.20 or better. As long as the stock stays above $65 by the third week in June, your profit is the premium received, which equates to a 5% return in 103 days. The strike was selected, as it also represents the 50-day ema that has been ferociously defended since November 2013. As always, with selling naked puts, pay proper attention to size and never sell more stock than you would want to own at that price.

Look for opportunity in the market to sell high volatility and buy low volatility—it is a winning combination for your portfolio growth!

By Suz Smith of ExplosiveOptions.net

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