Range-bound small caps are giving it a go at another breakout attempt. Let’s dissect the action in the iShares Russell 2000 Index (ETF) (NYSEARCA:IWM) and highlight a trade idea to profit from the surge.
The land of the little guys has been sending mixed messages for over a year now. Initially it looked as if a major top had formed. Then the bears botched the breakdown attempt and IWM screamed back to the upper end of the range. Unfortunately, the bulls were equally impotent and their breakout bid was soundly rejected as well.
After licking their wounds for the past month, buyers have returned with yet another effort at breaking small-cap stocks out of their range-bound prison. Thursday’s pop in the IWM ETF succeeded in breaking resistance. The coming days will reveal if the current group of bulls can succeed where so many others have failed.
IWM ETF Options Play
Would-be buyers of IWM looking to stack the odds in their favor should consider using options to structure their bet. Bull put spreads in particular allow you to create a position that profits even if the breakout fails. Provided IWM stays above the lower end of its recent range the following put spread will still deliver a respectable return.
Sell the Mar $112/$107 put spread for 57 cents credit. The max reward is limited to the initial 57-cent credit and will be captured if IWM can remain above $112 for the next month. By going far out-of-the-money and using puts around the $112 level we set up a wide profit zone that generates gains whether we see strong follow through in the small cap breakout or not. So long as IWM remains within its recent range from $114 to $119 the put spread will still deliver the goods.
The max risk is limited to the distance between strikes minus the net credit, or $4.43, and will be lost if IWM falls below $107 by expiration. To limit the loss, however, consider exiting if the IWM ETF breaks the lower end of its trading range near $114.
At the time of this writing Tyler Craig owned bull put spreads on IWM.
