Use Options to Play RIM’s BB10 Launch

by John Kmiecik | January 24, 2013 8:54 am

Looking to make a directional bet ahead of a big news event? Options are tailor-made for such a task.

Options let a trader look at multiple strategies and pick the one that suits the trader’s personality, as well as his or her outlook. And what’s more, you can define your maximum loss ahead of time if you pick the right play — not so easy if you just buy or short the stock instead.

Take a stock that has constantly been in the news lately like Research In Motion (NASDAQ:RIMM). Everyone is waiting to see what the stock does after the company unveils its new BlackBerry 10 operating system on Jan. 30, and analysts can’t make up their mind about which way the stock is headed. But suppose you what to take a stand amid all the uncertainty — well, options can help.

Most options expire on the third Friday of each month. But several stocks, including RIMM, have expirations that expire weekly — every Friday. The new OS will be released Wednesday; the next expiration is next Friday, Feb. 1. As such, we’ll focus on that expiration for possible trade ideas.

Also, the implied volatility (IV) of the options is elevated because of the anticipated announcement, which means basically the options are somewhat overpriced — we’ll remember that as we look for strategies.

Here are a couple of relatively conservative trade ideas on RIMM depending on your outlook.

Bullish

If you think the BB10 will be a big hit and the stock will move higher after the debut, here are a couple of plays. Even though a butterfly option strategy is considered a debit spread, it can still take advantage of elevated levels of IV. Normally a butterfly is implemented for a neutral strategy, but if the strikes that are bought and sold are moved up higher and out-of-the-money, it can profit from a directional move higher. RIMM has some previous support that can now act as resistance around $20, which makes it a perfect area for the stock to move to.

The trade: Buy the Feb. 1 18/20/22 call butterfly spread (buying one 18 call, selling two 20 calls, and buying one 22 call, all with Feb. 1 expiration) for $0.35 or better.

The payouts: The maximum potential profit for this trade is $1.65 if RIMM is trading right at $20 at Feb. 1 expiration. The long 18 call option would have $2 worth of premium and the other options would expire worthless. Then the cost of the trade is subtracted ($2 minus $0.35). The maximum loss of $0.35 — what we paid for the spread — is incurred if RIMM is trading below $18 (all options expire worthless) or above $22 (all options would have to be bought or sold) at Feb. 1 expiration. Breakeven is at $18.35 and $21.65 at expiration based on a cost of $0.35.

If you think RIMM will move past $19 or even higher at expiration, a more aggressive strategy is in order. For about the same amount of money, consider a bull call spread. Even though the implied volatility is relatively high, a spread trade can help negate some of this.

The trade: Buy the Feb. 1 18/19 bull call spread (buying one 18 call and selling one 19 call, both with Feb. 1 expiration) for $0.35 or better.

The payouts: The maximum potential profit for this trade is $0.65 ($1 minus $0.35) if RIMM is trading above $19 at Feb. 1 expiration. The maximum loss is $0.35 — what we paid for the spread — if RIMM is trading below $18 at Feb. 1 expiration. Breakeven is $18.35 at expiration based on a cost of $0.35.

Bearish

If you’re a RIMM bear and looking for a big flop, you can basically reverse the bullish strategies. The stock has a nice support area around $14, which would be a good downside target for these trade ideas. A directional butterfly using puts effectively captures a range below where the stock is currently trading. You could also implement a debit spread (bear put) to capture a move lower. Here are the trade ideas, starting with the directional butterfly.

The trade: Buy the Feb. 1 12/14/16 put butterfly spread (buying one 12 put, selling two 14 puts, and buying one 16 put, all with Feb. 1 expiration) for $0.35 or better.

The payouts: The maximum potential profit for this trade is $1.65 if RIMM is trading right at $14 at Feb. 1 expiration. The long 16 put option would have $2 worth of premium and the other options would expire worthless. Then the cost of the trade would be subtracted ($2 minus $0.35). The maximum loss of $0.35 — what we paid for the spread — would be incurred if RIMM is trading above $16 (all options expire worthless) or below $12 (all options would have to be bought or sold) by Feb. 1 expiration. The breakeven points are at $12.35 and $15.65 at expiration based on a cost of $0.35.

The bear put spread needs a smaller move down to profit, compared to the bull call spread idea above.

The trade: Buy the Feb. 1 16/17 bear put spread (buying one 17 put and selling one 16 put, both with Feb. 1 expiration) for $0.45 or less.

The payouts: The maximum potential profit for this trade is $0.55 ($1 minus $0.45) if RIMM is trading below $16 at Feb. 1 expiration. The maximum loss is $0.45 — what we paid for the spread — if RIMM is trading above $17 at Feb. 1 expiration. Breakeven is $16.55 at expiration based on a cost of $0.45.

A word of caution — always have a trade management plan in place before executing any trade. That means you need to know your exit points if you’re fortunate enough to have the trade go right … and what you’ll do if the trade moves against you. A little bit of planning now can stave off a big headache later.

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