In 2016, I shared a long-distance trade in Alibaba Group Holding Ltd (NYSE:BABA) that generated over $2 in pure profit, and out of thin air. Since then, the fundamentals in BABA stock haven’t significantly changed, so why change what’s working?
In fact, if anything, the fundamentals have gotten a touch more attractive. Alibaba recently just announced that it’s going to enter the game distribution industry, and Wall Street so far likes what it hears.
So for now, let’s make another run at some free profits.
Technically, BABA stock is knocking on levels that, if breached, should invite more momentum buyers. There could be an additional $9 left in this run in a step-up pattern: $108.50 per share could bring a new six-months high into view, which likely will cause an overshoot to $115 or more.
Of course, you and I don’t usually chase prices by risking $108 per share, do we?
Instead, the smart option is to sell risk for income that would benefit from the rally. The advantage is that by selling the downside risk, I can still profit even if nothing happens as long as my support levels hold up. After all, it’s easier to find where Alibaba stock is not going than try to predict an upside target price.
How to Trade BABA Stock
The bet: Sell the BABA Oct $80 naked put to open my risk. This is a bullish trade that gives me a 90% theoretical chance of earning $1.10 contract in free profits. However, if Alibaba shares fall below my strike, I am committed to buying the stock at that price. So I only sell naked puts if I am willing and able to own the shares at $80. That worst-case scenario would force me long the stock at a 25% discount from current price.
To moderate this open-ended risk, I can modify this trade on BABA stock to be a credit put spread instead. There the risk would be finite to better suit milder risk tastes and smaller accounts.
The alternate: Sell the BABA Oct $85/$80 credit put spread for 60 cents per contract. This trade also has a 90% theoretical chance of success to yield 12% on money risked. Here the buffer from current price is slightly smaller than the original bet.
I usually like to sell opposing risk to balance my trades, but in this uber-bullish animal-spirited equity market, I will delay such entry. Selling options can be risky so I only risk money I can afford to lose. I can close any of my trades at any time for partial gains or losses.
Learn options as easy as 1-2-3 here. Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @racernic and stocktwits at @racernic.