As consumers, we owe T-Mobile US Inc (NASDAQ:TMUS) gratitude for starting a price war that is lowering our cell bills. Sprint Corp (NYSE:S) stock, however, shows no evidence of pain as a result. It is up about 100% in 12 months.
Part of the levitation is from lingering buyout headlines. Rumor has it that someone is ready to make a bid for S stock. Most recently, I read that it could be TMUS in a merger of sorts.
Fundamentally, S stock is way too expensive for me to brave it long based on pure fundamentals. Verizon Communications Inc. (NYSE:VZ) and TMUS would make better bets on the telecoms from an investment perspective. But given the presence of the looming headline, I think Sprint stock will find support on dips. Therein lies the opportunity.
Instead of buying Sprint stock hoping for a headline, I will sell downside risk to generate income. I used this strategy several times with Twitter Inc (NYSE:TWTR). Here is an example that delivered profits of thin air. The trick is to use proven support levels that are likely to hold in the face of selling pressures should they come.
For the mid-term, I need to acknowledge that S stock needs to hold $7.40 or risk inviting momentum sellers. Besides that area being a pivot point, it has served as a bounce level. If breached, bears will have a chance to overshoot lower and retest $6.50. This is not a forecast, but one mere scenario of many.
The Trade: Sell the S Nov $7 put naked. This is a bullish trade for which I collect 65 cents to open. Here I have a 75% theoretical certainty that I will keep my maximum gains. But if price falls below my strike then I would own the shares and suffer losses below $6.35.
The merger headline presents another potential threat, because if it gets debunked I will likely end up owning the shares. But that is an acceptable outcome since the talks of another bid will resurface, much like what happened in Whole Foods Market, Inc. (NASDAQ:WFM).
Those who do not want to bear the risk of owning Sprint stock can use spreads instead.
The Spread Alternative: Sell the S Nov $7/$6 credit put spread which has about the same certainty but with much less risk. If successful, the spread yield 25%. Compare this with buying the shares at face value here with no room for error then hope for a 25% rally just to match the performance of the spread.
Just remember, selling options is risky business. Never risk more than you are 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.
