After Google Splits, What Options Do You Have?

by John Kmiecik | April 18, 2012 8:58 am

[1]Google Inc. (NASDAQ:GOOG[2]) has been one the most talked-about stocks for some time now. Part of the reason could be because of its incredible growth over the years. Many shall we say seasoned traders remember when the stock was trading in the $100 range back in 2004.

Just last week, the company announced its quarterly earnings, which beat estimates despite company reports that sales growth is slowing. Since the announcement, the shares have fallen to around the $600 level.

GOOG also announced a stock split in June. But this won’t be any ordinary stock split. Current shareholders will see their stock split but the new half won’t be like the old half. In fact, the new half will have no voting rights attached to it.

It remains to be seen what will happen with regards to the new and old shares pertaining to the share class. According to Nasdaq, generally a security in the index is not changed with another share class until the Annual Review in December. Taking all of this into consideration, this might make for some interesting trading once the split occurs.

Of course there is no way of telling how much GOOG shares will be worth after the split. Using today’s current price, it would still be relatively expensive. 

Bullish Outlook

One thought a trader could possibly have is to feel the shares are undervalued after the split. The stock has shown a clear propensity to increase in price over time. Buying 100 shares or more can be very expensive even after the split. A trader can instead by a call option.

An owner of a call option has the right to buy shares of stock (usually 100) at a certain price on or before an expiration day. Buying a call option can significantly lower a trader’s capital expenditure and still take advantage of a bullish outlook. A long call can profit if the stock increases in value, which in turn makes the call option more valuable and increases its premium.

As the stock increases in price, the call option becomes valuable because the owner still has the right to buy the stock at the chosen price. Plus, buying a call has unlimited maximum profit potential because the stock can continue to rise theoretically until expiration. The most at risk is what was paid for the call option.

Another way to take advantage of a bullish outlook on GOOG is to buy a bull call spread. A bull call spread involves buying a call option and selling a higher-strike call option against it with the same expiration. The cost of buying the lower-strike call option is somewhat offset by the premium received from the higher strike that was sold.

A bull call spread can be significantly cheaper than even buying call options and it can profit too if the stock heads higher. Unfortunately, maximum profit is limited with a long bull call spread because of the sold strike. 

Bearish Outlook

If a trader takes a bearish stance on GOOG after the split, one way to capture potential profits on a move lower is through buying a put option. Buying a put gives the owner the right to sell shares of stock (usually 100) at a certain price on or before an expiration day.

Just the opposite of a long call, a long put can profit if the stock decreases in value, which increases the put’s premium. As the stock decreases in price, the put option becomes valuable because the owner still has the right to sell the stock at the chosen price. Buying a put option has a nice profit potential but it is not unlimited due to the fact GOOG can only fall to $0. The maximum that is risked on a long put is what was paid.

Since there’s a spread trade that can take profit from a bullish move, there is also a spread trade to potentially take advantage of a bearish move. It’s called the bear put spread. A bear put spread involves buying a put option and selling a lower-strike put option against it with the same expiration.

Again, the cost of buying the higher-strike put option is somewhat offset by the premium received from the lower strike that was sold. A bear put spread can profit if the stock heads lower. Implementing this spread can be significantly cheaper than buying put options. The bear put spread’s maximum profit is limited just like the bull call spread because of the sold strike.

If a trader chooses to trade GOOG after it splits, he or she should know there are more choices than simply buying or selling the shares. Using options can really reduce the cost of the trade and still allow a trader to profit.

Source URL: https://investorplace.com/2012/04/after-google-splits-what-options-do-you-have/

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