The crude crash continued in earnest, driving oil to a new low of $34.53 before finally bouncing back amid this week’s relief rally. While consumers everywhere are cheering falling gas prices, traders who have been trying to bottom-pick oil and oil stocks are cursing the relentless slide.
While a full-fledged bottom has yet to materialize for black gold, its decline has been punctuated by a few rallies offering opportunity for tactical traders. With Monday’s reversal (and today’s follow-through) we may have another such chance in the days ahead.
Traders looking for a direct way to wager on an oil price rebound should look no further than Wall Street’s favorite oil ETF — the United States Oil Fund (USO). Though USO isn’t a perfect proxy for oil futures, it’s about as good a trading vehicle as you can find in the world of exchange-traded funds.
The price chart of USO sure isn’t much to look at these days. It has been traveling southbound with only the occasional detour. With all major moving averages pointing lower the trend of USO remains firmly in the bears’ paws.
That being said, the oil ETF is extremely oversold at this juncture and if oil is able to stabilize or rebound a bit from current levels USO should turn decidedly more neutral, if nothing else.
USO Stock Chart
And fortunately, neutral is good enough for the type of option trade I’d suggest for USO here — the naked put. The cheap price tag of USO makes it a logical candidate for shorting puts since the margin requirement will be extremely low. A low margin requirement translates into a much higher return on investment for the premium available.
Sell the Jan $10.50 put for 32 cents or better. The max reward is limited to the 32-cent premium and will be captured if USO sits above $10.50 at January expiration.
By selling the put option, you obligate yourself to buy 100 shares of USO at $10.50 if the oil prices drop enough to take USO below $10.50 by expiration. Since you received 32 cents up front, your actual cost basis would drop to $10.18. If you’d prefer to avoid taking ownership of the stock, simply buy back the put prior to expiration if it moves in-the-money.
AS of this writing, Tyler Craig owned short puts and calls on USO.
