Costco Wholesale Corporation (NASDAQ:COST) stock went on sale two weeks ago, in a 6% correction from the high.
I was a fan of Costco stock before this dip and am more so now. Usually I prefer trading longer-term risk like in this trade that delivered profits with zero out-of-pocket expense. But today it’s going to be different.
We just had a market-wide tizzy that, although it wasn’t too deep, shook some weak hands off the tree. Seeing how COST behaved through it, I am now more convinced of its value here. I believe that when a stock trades with momentum and sets a wide trading range, chart extremes are usually overshoots. In this case, COST stock at $183 per share was too high much like at $143 was too low. So it being in between suggests that it’s in better equilibrium or close to it.
COST is due to report earnings on May 25 and those can add uncertainty into the equation. But with uncertainty we get higher premiums and therein lies the opportunity. With visibility on support levels, I want to sell risk into the uncertainty.
Click to Enlarge But first I need to fundamentally vet Costco stock. At first glance, it appears expensive relative to its peers but look a little deeper and it becomes clear that management has earned it since they made COST one of few retailers thriving even in the age of Amazon.com, Inc. (NASDAQ:AMZN).
But during the earnings season, expectations are what matter as they temporarily overshadow long-term value. That’s especially true for COST since it’s missed two of the last four reports. So the stock could take some heat.
Technically this is not an obvious entry level, but it has good points about it. For one, the overall trend is up and $168 per share looks like it is holding as support. But if lost, COST could retest $164 which in turn should also be potential support. In the event that the earnings trigger a 5% selloff, I bet that I won’t be the only one who sees value in it meaning there would be incremental buyers.
COST Stock Trade Idea
The Trade: I bet, and this is purely a bet, that COST will not fall through $165 per share by the end of next week. But if it does, then I am willing to own it at $165 even if it falls lower. For that risk I collect 80 cents per contract now, which means that I breakeven at $164.20.
The Trade Setup: Sell the COST May 26 $165 put for 80 cents. If COST stays above my strike I keep the premium for maximum gains else I own the stock.
I only sell naked puts if I am willing and able to own the shares otherwise I would use credit spreads instead. In general, selling options is risky business so I only risk as much as I am willing to lose.
Learn how to generate income from options 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.