After topping out on May 20, stocks went into a precipitous decline that ended, at least for the time-being, in a doji at the bottom of their downtrend – a telegraphed reversal signal.

Stocks surged by 1.2% yesterday and the S&P 500 ETF (ticker: SPY) reclaimed its Bollinger midpoint (dotted blue line) in early trading on Thursday. Our open positions have lost ground since Monday, due to our bearish bent, while our one bullish position opened this morning roughly where it was when Big Deal #7 was published.

Fortunately, we’ve already taken profits on three winners, giving us cumulative gains of $1,421. As of 11:35am ET, our open positions are down $627 in the aggregate – which still puts us up by $794, on a net basis. That’s an average of $113 per position taken, or around $900 on a monthly basis, i.e., well above the targeted gains of $2,000 per year. However, I think our plays on QQQ (which is up), BA, and UUP are still likely to give us gains, even if our short-term AAPL calls are unlikely to get back to breakeven. I’ve updated targets for QQQ and AAPL – please see the Open Plays section at the conclusion of the regular newsletter.

Investment Thesis

After generally trending downward since May 20, stocks caught a bounce yesterday and have continued to post gains in early trading today. However, nothing has fundamentally changed: Interest rates are still rising in the U.S., with the yield on the 10-year Treasury nearing 2.5%; the U.S. economy is bullish, which means the Federal Reserve is likely to hike rates in September, and the bond market is already guiding the way. This should translate into a stronger dollar, particularly with the world still awash in oil, even as Saudi ministers try to jawbone the price of crude higher. Oil and the dollar haven’t been behaving as anticipated, but the logical case for a strong dollar remains compelling, especially relative to the euro, given the deteriorating situation in Greece. A strong dollar creates headwinds for U.S. stocks, and that’s why I think stocks are unlikely to recover to their all-time highs in this leg of the rally.

Given this scenario, I decided to look for stocks that would make good credit call spread plays. Gilead (GILD) is a big-cap stock with heavy options volume that fits the bill. The maker of HIV and hepatitis B and C drugs has been a monster outperformer, and for good reason: GILD is a phenomenal biotech company run by terrific management, but it faces numerous competitive headwinds and political pressures. With the stock trading at its all-time high, it entirely bypassed the suffering of the recent pull-back in stock prices, and that’s why I think GILD will have difficulty pushing higher.

The Play

I want to sell GILD‘s $120-strike July calls, allowing me to collect a premium that I won’t have to repay so long as GILD closes below $120 on July 17. Of course, naked short calls carry unlimited risk, and thus they’re virtually never a good idea. Instead, we’ll also buy GILD‘s $125-stirke July calls to mitigate our risks, creating a credit call spread.

We’ll buy (buy-to-open) GILD’s $125-strike July calls for the recessive leg of our credit call spread.

We’ll sell (sell-to-open) GILD’s $120s-trike July calls for dominant leg of our credit call spread.

As of 11:40am ET, GILD‘s $120-strike July calls had a $2.50 bid, which is what we could receive for selling them. The $125-strike calls with the same expiration had a $1.00 ask, which is what we would have to pay to buy them. On a net basis, we’d collect a $1.50 credit, and our risk would be limited to the difference between the strike prices ($125 – $120 = $5) minus the credit we received ($5 – $1.50 = $3.50). Given that we want to risk a maximum of $2,000 per play, that means we can enter the GILD $125/$120 July credit call spread across 5 contracts per leg, risking a maximum of $1,750. We’ll receive $750 for entering the play, based on these bids and asks, and we’ll get to keep 100% of the proceeds if GILD closes below $120 on July 17.

Sample Ticket:


Open Plays

BA $150/145 July credit call spread

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

Position Size: 5 contracts per leg

Total Risked: $1,775

Current bid/ask: $1.41/$1.48 (11:55am ET)

Target: $0.71 ask (for 20% gains)

Shares of BA have surged in the past two days, increasing the value of our short calls and turning this play – which was up $0.33 on Monday – into a loser, for now. We received a $1.45 credit for entering the play on May 26, and we could have closed it out for $1.12 on Monday – it would cost us $1.59 as of 10:53am ET today. But as you can see from the chart below, BA has been unable to close above its Bollinger midpoint or the key $145 level. I advise continuing to hold these options, and to look for a $0.71 exit for 20% gains.

In the time since I made this chart, BA has already pulled back below $143, driving the ask on our spread down to $1.48 – just $0.03 above the credit we received.

QQQ $113/110 June credit call spread

Entry price and date: $1.36 credit on 5/28/15

Position Size: 12 contracts per leg

Total Risked: $1,968

Current bid/ask: $0.67/$0.70 (11:55am ET)

NEW TARGET: Continue to hold until expiration to keep 100% of the $1.36 credit received, however, if the ask price of the spread rises to $1.03, close out this position for 20% gains ($396 profit on $1,968 risked).

This position could have been closed out on Monday for $1,020 gains, versus $962 losses on our AAPL position, which was entered as a conscious hedge against our QQQ play. On a net basis, we were up $58 on this hedged pair. The erosion of time value should have been on our side with QQQ, but four days later, AAPL opened at $0.80 – right where it was on Monday at 12pm ET – and the ask on our QQQ credit spread jumped to $0.83. This means closing both plays out at today’s open would have produced $632 in gains for QQQ, which wouldn’t be enough to offset the losses in AAPL.

I want to continue holding this spread in pursuit of keeping 100% of the $1.36 we received on May 28, but should the ask rise to $1.03, we should close out the position for 20% gains.

AAPL $131-strike June calls

Entry price and date: $1.53 on 6/4/15

Position Size: 13 contracts

Total Risked: $1,989

Current bid/ask: $0.68/$0.69 (11:55am ET)

NEW TARGETS: Reduce price target to $1.00 to pare losses; initiate stop-loss at $0.55 to protect against total loss.

We’re in damage-control with this trade. I recommended it just a week ago to avoid becoming overweight in my bearish theses, which all turned out to be right, so this trade turned out to be wrong. The logic behind the AAPL play was that it would be a hedged pair with QQQ, and despite AAPL‘s losses, that was working out well when we last met. But with the market’s rebound, our AAPL calls haven’t gained as much as our short QQQ calls have, leading to a $400 swing against us.

These calls did reach as high as $0.90 in early trading today, and it would be good to get a buck back on them, reducing our losses to a more manageable 33% or so. Should they fall to $0.55, though, you should sell to salvage $715 of our original investment, to deploy elsewhere. AAPL is still one of the best stocks on the market, but our timing on this play was poor. Mea culpa.

UUP $25-strike September calls

Entry price and date: $0.58 on 6/8/15

Position Size: 32 contracts

Total Risked: $1,856

Current bid/ask: $0.50/$0.52 (11:55am ET)

Target: $0.70 bid

We entered the $25-strike September calls on the PowerShares DB US Dollar Bullish ETF (UUP) on Monday at $0.58. The May nonfarm jobs report had been released the prior trading day, sending the dollar surging – as I predicted. When the greenback sold off the next day, I reasoned it was likely profit-taking from dollar bulls. UUP then held at the key threshold of $25 on Tuesday, before selling off hard on Wednesday following a tag-team body slam from U.S. President Barack Obama and BOJ Chairman Haruhiko Kuroda.

President Obama allegedly told other G-7 leaders that the strong dollar posed a “problem,” and Mr. Kuroda then said he expected the yen to strengthen against the dollar. Kuroda said the BOJ wouldn’t use monetary policy to strengthen the yen, but Japanese Forex traders dutifully sold their greenbacks to buy yen, sending UUP below the $25 threshold. It was back up in early trading on Thursday, though, reclaiming the $25 level.

I selected the September expiration on these calls because I fully expect UUP to be above $25.60 by the time the Fed concludes its September meeting – the day before these options expire. UUP was above $25.60 on June 1, the first candlestick in the top left corner of the chart above. All we need UUP to do is reclaim this level sometime between now and September 18 in order to make a profit on these calls. Let’s be patient.

Previous Winners

PM $80/$82.50 September debit put spread

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

Position Size: 20 contracts per leg

Total Risked: $1,940

Closed: Sold at $1.19 on 6/5/05 (10:43am ET)

Profit/ Loss: +22.7% ($440 profit)

MCD $95/$100 June debit put spread

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

Position Size: 9 contracts per leg.

Total Risked: $1,935

Closed: Sold at $2.60 or higher on 5/28.

Profit/ Loss: +20.9% ($405 profit)

USO $21-strike July puts

Entry price and date: $1.48 on 6/1/15

Position Size: 12 contracts

Total Risked: $1,776

Closed: Sold at $1.96 on 6/5/15 (9:33am ET)

Profit/ Loss: +32.4% ($576 profit)

Previous Losers

None to report yet, although we are currently down on our BA, AAPL, and UUP positions. I suspect we’ll have to take a loss on AAPL, but I remain confident in our bearish play on BA and our bullish play on UUP.

Happy trading!

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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