Option traders know that options can provide many different types of insurance for their portfolios. Whether options are protecting gains on a stock position or simply being used to hedge against a catastrophic move, traders can sleep better knowing there is some insurance in place.
Here is a trade idea that allows traders to protect themselves by limiting losses on an unexpected move, but it also provides an opportunity to profit from an insurance company’s bullish outlook.
Allstate Corp. (ALL-$34.20): Long Calls
The trade: Buy the June 34 calls for $1.10 or less.
The strategy: Buying a call is an option strategy that can take advantage of a bullish outlook on a stock. A long call can profit if the stock rises and the call premium increases to an amount more than was paid. Maximum profit is essentially unlimited with a long call because the stock can continue to rise, and the maximum loss is $1.10 if Allstate (NYSE:ALL) finishes below $34 at June expiration. Breakeven is at $35.10 at expiration.
The rationale: ALL is the biggest publicly traded U.S. home and auto insurer. Just this past week, it posted its largest profit since 2007. Net income rose to $1.53 a share from 98 cents a year earlier. Sales have increased after Allstate purchased online car insurance seller Esurance and subsequently raised premiums for some coverage.
Technically, the stock has been setting higher pivot highs and higher pivot lows for the most part since later November 2011. This is an indication of a strong uptrend. Just before earnings were announced last week, the stock was pulling back and heading slightly lower. After the earnings announcement, the stock gapped over a previous pivot high, which is a possible bullish sign; bullish gaps tend to continue higher if the gap came after a move down over a previous resistance level like a pivot high.
Allstate might be a great provider of insurance, but these call options might be a trader’s best form of insurance.
As of this writing, John Kmiecik did not hold a position in any of the aforementioned securities.