Trade #2 – Google
Recommended by Stutland Volatility Group
After the wild ride the news took the market on in 2011, many may give up trying to predict 2012. While what next year holds for politics and the economy is anyone’s guess, we are certain of one thing: The world’s access to the Internet will continue to grow at a staggering rate.
And what name comes to mind first when thinking about the World Wide Web and all its offerings? Google (NASDAQ:GOOG). In fact, it is such an ingrained part of our life that “Googling” is synonymous with searching the Web.
In 2012, the analyst consensus is for earnings to grow by 20%. That’s because, even with dismally low consumer confidence, Internet ad spending — Google’s bread and butter — is on the rise.
In the first half of 2011, $15 billion was spent on Internet ads, up 25% from 2010. Google has been able to capitalize on this growth by taking market share from competitors like Apple, Millennial Media, Yahoo! and Microsoft.
Typically growth like this is accompanied by a high P/E multiple, but Google is trading at only 16 times forward earnings. Because of this, we see Google as a great value stock with the potential for explosive growth.
However, we do not simply want to buy the stock here — not yet, anyway — but rather the market’s current volatility to our advantage by selling the GOOG March 555 Puts.
Yes, this is a bit of a departure from our covered-call theme. But these puts trade at a 33% implied volatility and are over 10% out-of-the-money, and could present a good level to enter a long position in the stock.
By selling these puts, we are agreeing to buy the stock at $555 should Google be trading there or lower at March expiration. Google at $555 would be a tremendous value and we would happily be buyers there. Then we would turn around and sell calls against them at the at- or just slightly out-of-the-money strike!
If Google is above $555 at expiration, then we keep the put’s juicy $13.50 premium and book a solid profit in the first quarter of 2012.
Here’s a closer look at how to construct this Google trade.
Stock Price: $625.50
Option Play: Short Put
Sell: March 555 Put @ $13.50
Net Cost: $13.50 (Credit)
Breakeven: $541.50 (Short Strike – Net Credit)
Max Profit: $13.50 (Net Credit)
Max Loss: $541.50 (Short Strike – Net Credit)