The dollar has continued to show strength against foreign currencies, particularly the Japanese yen. Indeed, the greenback soared to a 12-year high against the yen on Wednesday, even as the euro made small gains on optimism in Greece. This caused oil prices to fall again, consistent with my “strong dollar/ weak oil” investment theme that has informed our Big Deal trades thus far.

The principal stocks on which we’ve established bearish positions – Phillip Morris International (ticker: PM) and McDonald’s (MCD) – have fallen since we entered our option plays, but the persistently low VIX has thwarted our ability to take profits*. These plays, along with our credit call spread on Boeing (BA), all benefit from the strong dollar, as PM, MCD, and BA all rely on a weak buck to boost international returns. All three positions are reviewed in greater depth in today’s Follow-up*.

The VIX Volatility Index has been trending higher since the end of the holiday weekend, and that makes credit spreads more attractive. We currently have around $4,000 deployed* in our debit put spreads on PM and MCD, which is another good reason to search for credit opportunities. The objective of Big Deal options trades is not to grow our options accounts, but to redeploy profits from our options trades into longer-term investments. In order to do this, we need to guard against losses, and one way to do that is by limiting the number of outstanding plays we have at one time – particularly on the debit side.

When pursuing credit opportunities, we’re looking for stocks that are unlikely to go up (credit call spreads) or stocks that are unlikely to go down (credit put spreads). The dominant leg of a credit spread is an option we sell short, hoping that it expires worthless. Without combining the short-sold option with a “recessive” leg on the long side, we’d be going “naked” – and subjecting ourselves to unlimited risk.

For example, an exercised naked call would require us to go into the open market and buy 100 shares of a stock for every contract we sold short, and then provide those shares to the exerciser at the strike price of the calls – that’s a lot of risk. To mitigate it, we’d buy another, higher-strike price call, which limits our losses. The same principle applies for put spreads, where we’d buy a lower-strike price option to prevent the underlying stock from being “put” to us. And the best thing about credit spreads is that we collect the income right away.

* = Good news: In the course of writing this report, shares of MCD plummeted, allowing us to take 20%+ gains on our MCD $95/$100 June debit put spread. Congratulations on this successful trade! This also means we only have around $2,000 deployed in debit plays, not $4,000, as stated above.

Investment Thesis

While the S&P 500 and Dow Jones Industrial Average were routinely making new highs throughout 2014, the Nasdaq only recently surpassed its dot-com boom best of March 2000. The S&P and Dow both exceeded their exuberant tech-bubble highs ahead of the Financial Crisis, but the Nasdaq never fully recovered until April 24. It then shot even higher in the next day’s intraday trading, before closing lower and pulling back by 4.6% over the next seven trading days:

The PowerShares QQQ Trust (QQQ) tracks the Nasdaq 100, a fair proxy for the Nasdaq market as a whole.

Yesterday, QQQ closed $0.01 above its April 27 open, its highest ever. QQQ faces firm resistance near $111, and even after yesterday’s debt-driven surge, the ETF’s intraday high was still $0.61 shy of its all-time intraday best. I think QQQ is a good-looking credit call opportunity.

The Nasdaq was down in early trading on Thursday, as expected. One thing that drove tech stocks higher on Wednesday was Avago Technologies’ (AVGO) announcement that it intended to buy fellow semiconductor firm Broadcom (BRCM), aided by $9 billion in low-interest debt financing. As Goldman Sachs said last week, earnings aren’t going to be able to drive stocks higher, which leaves only buybacks and dividends to feed the bulls. The problem: As interest rates continue to rise ahead of the Fed’s decision to hike them by force, debt-financed stock engineering is getting more difficult.

And while today’s Nasdaq is a far cry from the bubblicious version of the late 90s and early 2000s, there are segments of the tech sector – such as “software as a service” – that do have nosebleed valuations. Yesterday, “SaaS” leader Workday (WDAY) reported worse-than-expected sales growth at +31%, year-over-year. The stock had been growing its billings at an annual pace of more than 60%, and its shares were priced for that growth. Too many stocks are priced for perfection, and that’s another reason to have a bearish bias.

The Play

We’ll sell (sell-to-open)
QQQ’s $110-strike June calls. This is the dominant leg of our spread, we’ll receive a credit for short-selling it. As of 11:40am ET, these calls had a tight bid/ask spread of $1.75/$1.77, with ample open interest of 52,532 contracts, and early trading volume of 1,454 contracts on the day. Liquidity shouldn’t be a problem.

We’ll buy (buy-to-open) QQQ’s $113-strike June calls as a hedge. This is the recessive leg of our spread. As of 11:40am ET, these calls had a bid/ask of $0.35/$0.36, with 60,127 contracts in open interest and 345 in volume. We’ll spend less on this leg than we’ll receive for selling the dominant leg, and thus we’ll have a net credit. Hence, this is a credit call spread, also known as a “bear call spread.”

The logic of this play: We’ll receive a net credit of about $1.37 per share ($137 per contract) for entering this play. Our objective is to see QQQ close beneath $110 at expiration, thereby allowing us to keep 100% of the credit we receive. At a $1.37 net credit, we break even with QQQ at $111.37 at expiration.

Risk and position size: The maximum risk is equal to the distance between the strike prices ($3) minus our net-credit received (~$1.37), or around $1.63 per share ($163 per contract). To keep our maximum risk under $2,000, we’ll execute this credit call spread across 12 contracts on each leg of the spread. We break even with QQQ at $111.37 at expiration, and we lose money for every penny above that, up to a maximum of $1.63 at a $113 close.

Sample Ticket:

Follow-up

#1) PM $80/$82.50 September debit put spread

Entry price and date: $0.97 on 5/18/15

Position Size: 20 contracts per leg

Current bid/ask: $0.76/ $1.14 (11:58am ET)

Target: $1.15 bid

It’s hard to imagine a more frustrating position than this one. We entered it at precisely the right time, but the option premiums haven’t moved in time with the stock, and the gulf between the bid and ask prices on our puts has expanded and contracted with little rhyme or reason. As you can see from the chart below, PM has tanked since we entered our bearish play, and that’s good:

Hindsight is 20/20, and in retrospect, we would have been much better off buying PM‘s puts, unhedged, and making a more aggressive play on the stock, with a nearer-term expiration. Nevertheless, this remains a solid bet to hit our 20% price target, as the dollar has continued to post gains against international currencies, and PM receives virtually all of its revenue outside the U.S., while paying for a quarter of its inputs in more-expensive greenbacks.

Today, PM traded higher in early intraday trading, but faced resistance at its Bollinger band midpoint. An outdated analyst upgrade was temporarily bullish for the stock, but the analyst in question was excited about PM‘s earnings – which prompted its original share-price surge back in mid-April. The strong dollar will continue to weigh on PM. Let’s have patience.

#2) MCD $95/$100 June debit put spread

Entry price and date: $2.15 on 5/21/15

Position Size: 9 contracts per leg

CLOSED AT $2.60 on 5/28 for gains of 20.9%!

MCD announced that it would no longer be announcing monthly sales figures yesterday, which can’t be a good sign. The stock posted gains for the day, but at just +0.2%, it trailed the S&P 500’s +0.92% and the consumer-discretionary sector’s +0.75%. That set it up for a big sell-off today, which pushed the bid price on our $95/$100 June debit put spread to our $2.60 target and beyond, allowing us to take gains of greater than 20% — congratulations!

We bought 9 contracts of MCD‘s $100-strike June puts at $2.90 and simultaneously sold 9 contracts of MCD‘s $95-strike June puts at $0.75, for a net debit of $2.15. As of 11:23am ET, the bid on the $100-strike June puts was at a whopping $3.65, and the ask on our short $95-strike June puts was $0.93, for a $2.72 difference. Closing out the position at those levels would result in gains of over 26%, based on our $2.15 entry.

If you haven’t already, sell-to-close
MCD‘s $100-strike June puts, and buy-to-close
MCD‘s $95-strike June puts.

#3) BA $150/145 July credit call spread

Entry price and date: $1.45 credit on 5/26/15

Position Size: 5 contracts per leg

Current bid/ask: $1.39/$1.58 (11:58am ET)

Target: Hold until expiration for 100% of $1.45 credit received

We collected a $1.45 credit on this “bear call spread,” while risking a maximum of $2,000. We’ll get to keep 100% of the credit so long as shares of BA close at or below $145 at June expiration. As you can see from today’s action in the chart below, the stock faces firm resistance right at that level. This trade looks like a winner:

Jason’s Bio

Jason Seagraves is a 37-year old writer, options trader, entrepreneur, homeschool dad, and evangelist for free-market economics. He launched a successful dot-com business while still in college in the late 90’s, and then went back to school to graduate with a degree in Business, concentration in Finance, from Siena Heights University in 2006. That year, he also earned a Series 7 stockbroker’s license, but opted to pursue a career in freelance writing. From 2008 through 2013, he worked as a “ghostwriter” for a popular stock and options trading newsletter, before joining up with Dividend Lab for a stint in 2014. Now he’s back providing market commentary and actionable options trades for the Big Deal Newsletter, and he’s happy to be here!

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