by John Kmiecik | October 28, 2013 9:10 am
Whether or not you got a solid education from school, I think most us can agree that it was a major life experience. And in some ways, the stock market is very similar to school. Some people work hard, study up and perform well. Others don’t. Here’s a trade idea that bets on big movement in Apollo Group (APOL[1]) to bump the grade on your portfolio.
The trade: Buy the December 28 call and the December 27 put for 2.85 or less.
The strategy: A strangle is when a call and a put generally strike OTM with the same expiration. Strangles are volatility spreads used when an options trader expects volatility but isn’t certain about the direction. When a strangle is bought, it is done in the expectation of a big move either up or down. The maximum profit on a strangle is theoretically unlimited because the stock can continue to rise forever and pretty much fall to zero. Breakevens are at $24.15 and $30.85 at expiration based on a cost of $2.85. The maximum loss is $2.85 or whatever was paid for the strangle if APOL finishes between $27 and $28 at December expiration. Both options would expire worthless.
The rationale: Apollo Group is the for-profit parent company of University of Phoenix. The company reported earnings this past week and the stock surged higher. The company reported fourth-quarter earnings per share of 19 cents on revenues 15% lower than the previous year. Operating income dropped a whopping 61%. The reason the stock might have moved higher was because the company earned 55 cents per share which was way ahead of most estimates. But as enrollment continues to slide, expectations continue to be lowered. The company has rightly cut teachers and admission advisors but that also means it might continue to be even harder to recruit students.
That’s why a strangle makes sense. Even before this recent big move higher, the stock has been volatile in the past. After earnings the implied volatility of the options decreased, making them cheaper to purchase — which is a good thing since you’ll need to buy both a call and a put. With the uncertainly that lies ahead for this company and stock, buying a call and a put lets option traders profit on a significant move either way.
Is the bleeding over for Apollo and now is it time for the stock to move to highs it has not seen in a while, or will recent lows be more of an accurate target? This trade idea can profit either way!
As of this writing, John Kmiecik did not hold a position in any of the aforementioned securities. Get a free trial of John’s live options trading room here[2].
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