With Santa in sight, many traders are bidding adieu to a year that was characterized by disappointment across the board — and not just in stock land. Virtually every asset class failed to deliver in 2015.
But not all stocks succumbed to the bears’ influence.
Some served as bastions of strength, a safe haven amid the onslaught of mediocrity. Chief among them was Home Depot (HD) which is up 25% year-to-date. Relative strength has been its watchword, with continual outperformance versus the S&P 500. Much of HD stock’s gain has come in the fourth quarter, delivering an early Christmas presents for shareholders across the globe.
Home Depot stock’s uptrend is a thing of beauty. Moving averages of varying duration are stacked atop each other in true bullish fashion. What’s more, the Q4 liftoff has allowed the 50-day moving average to distance itself from the 200-day moving average confirming the momentum surge for HD in recent months.
Since tagging its new all-time high around Thanksgiving at $135.47, a bull flag has formed, showing buyers’ reticence to relinquish control. Really the flag’s behavior has been about as clean as it gets. A slight down sloping channel retracing no more than 38.2% of the prior ascent (the flagpole, if you will) is the ultimate digestion of November’s rapid gains.
Once rested, I suspect the bulls will sally forth yet again, driving Home Depot stock to fresh highs.
Build a Home Depot Option Trade
So what’s the play?
Strategy selection for option traders is currently made easier by the fact that HD stock options are on sale this holiday season. With an IV rank of 18%, implied volatility is nestled close to the low end of its one-year range. Long option trades are the way to go here.
Consider buying the HD March $130 call for $5.65. To reduce the cost, you could sell the March $140 call against it for $1.54 to create a March $130/$140 call vertical for a net debit of $4.11. The max risk is limited to the initial $4.11 cost and will be forfeited if HD stock price sits below $130 at expiration.
The max reward is limited to the distance between strike prices minus the net debit, or $5.89, and will be captured if HD stock price can ascend past $140 by expiration.
By risking $4.11 to capture $5.70, the option spread offers the potential for a 138% return.
At the time of this writing Tyler Craig had no positions in any of the aforementioned securities.
