[Options] Feed the Ducks in Biotech

Sean McLaughlin
March 10, 2021

The Biotech space has seen a lot of price action in both directions over the past several months. As such, there is no surprise that options premiums in that corner of the market have become a bit elevated.

There's a setup I've spotted that offers us a good opportunity to fade these premiums as the sector pauses to digest recent activity.

The Biotech ETF $XBI is currently sitting at the top of my list of ETFs in terms of implied volatility ranking. And one quick look at a daily chart shows the ETF may be finding itself getting stuck in the mud for a little bit:

With the premiums in these options pretty elevated, this gives us a great opportunity to take advantage of further consolidation in $XBI while giving it a wide berth.

Here's the Play:

I like an $XBI 120/160 Short Strangle for an approximately $2.75 credit. This means we'll be naked short both the 120 puts and an equal amount of 160 calls.

With naked short options comes the potential for unlimited risk if the trade gets away from us. With that in mind, I'll be trading this position small and if we see any $XBI close either above $160 or below $120 (our short strikes), then I'll look to close the trade, take my likely loss, and move on. I'm not going to wrestle with it.

In the meantime, I'll be looking to cover this spread (buy to close) whenever I can close the entire thing down for $1.40 or cheaper. I like to close naked strangles down when I've captured 50% of the original premium I sold at trade inception. Let somebody else sweat out the last nickels and dimes until expiration.

If you have any questions on this trade, please send them here.

~ @chicagosean

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