[Options] Putting on a Staple Position
Here's the chart of the Consumer Staples ETF $XLP:
As you can see we made a pretty hard bounce of the 68 level in mid-June, and we have some overhead suppy lurking in the 75 level. My gut tells me those levels will act as guardrails for XLP price action over the next couple of weeks, making this instrument an excellent candidate for premium selling.
Here's the Trade:
I like selling an $XLP August 69/76 Short Strangle for an approximately $1.10 credit. This means we'll be naked short both the 69 puts and the 76 calls. Naked short premium means we'll have theortically unlimited risk and will therefore be required to size our position smaller than normal and we'll have to manage our risk closely. (If naked risk makes me uncomfortable or margin requirements made it untenable for me, I could purchase some cheap further out-of-the-money puts and calls to define my risk. This would lower the potential profitablility, but provide a more comfortable sleep).
Here's how the PnL graph for this trade looks:
As you can see, we've got a wide berth in which to profit. If we held this position all the way until expiration (we won't), then as long as XLP ended up north of 68 or south of 77, we'd eke out a profit.
But we're not just going to sit on our hands and wait.
If we see XLP close below $68.50 or above $76 at any time during our hold, we'll exit the position to minimize the potential for any further losses. Our thesis is that XLP stays inside 69 and 76, if we're outside that, then we're wrong. Simple as that. We won't fight it.
In the meantime, I'll leave a resting order to close this entire spread down for a profit when I can buy-to-close for a 50 cents debit. This would represent capturing a smidge more that 50% of the maximum potential profit in the trade without holding the risk all the way until August expiration.
Let someone else sweat out that last couple of weeks for an extra few dimes.
If you have any questions on this trade, please send them here.
ASO subscribers who missed last week’s live video Jam Session can catch it here.
P.S. We do trades like this regularly. If you'd like to leverage Best-in-Class technical analysis into smarter directional options trades, try out All Star Options Risk Free! Or give us a call to learn more: 323-421-7991.