Wall Street tends to trade oil in spurts. We go through periods where conviction is too swayed one way or the other. This usually creates blindsides, but with the right option strategy this also creates lucrative opportunities. Today I want to explore one in Chevron Corporation (NYSE:CVX) stock.
CVX stock tracks the performance of the price of oil, so it’s needless to say that 2017 has not been easy for its investors. Luckily, this comes on the heels of an equally impressive rally that started on the OPEC announcement of production cuts last 2016.
A few years ago, experts believed that OPEC had lost its influence on the price of oil. Such rhetoric drove investments into new venues for oil production. Then came OPEC’s retaliation that drove oil prices down to $30. This pretty much decimated the oil exploration boom and nearly took the banking sector with it.
CVX stock is financially secure, but that’s only true at the top of the industry heap. Energy companies tend to leverage exploration efforts. When oil was in a free fall, collateral asset assumptions changed dramatically so lenders were thought to be exposed to massive risk.
Since then, OPEC has changed its stance on price and has been trying to support crude oil prices near $50 per barrel. While OPEC may have won the battles during the great oil price slide, the win came with two major losses.
The first is that their socioeconomic budgets were greatly hurt. While their oil industries breakeven below $20 per barrel, their overall sovereign budgets need oil to be above $70. The second blow, which I think is worse, is that when the ailing alternative exploration methods were pushed to the limits they became more efficient. And with the help of technology, experts now estimate that they, too, now can break even at much lower than $70.
Mega energy companies like Chevron and Exxon Mobil Corporation (NYSE:XOM) have enough control over their finances that they can maneuver the deep waters of temporary extreme drops in the price of oil. Nevertheless, this doesn’t alleviate all of Wall Street’s worries. Markets trade the sector as one unit and therein lies the opportunity in CVX stock.
Click to Enlarge I want to generate income from the unreasonable fears that still plague the sector. Instead of buying CVX stock here with no room for error, I will sell downside risk below support.
Using options eliminates the need to be surgical with timing. Case in point this trade that I shared on March 20 still yielded easy profits even though the Chevron price action was negative. The same outcome also came from this May trade in spite of a less-than-ideal stock price.
Fundamentally, CVX stock is not the ideal choice between it and XOM. But technically, I do like the upside potential better in Chevron at these levels. I do have to recognize that $104 per share is an important level to hold. Else CVX could suffer more selling pressure from momentum traders.
CVX Stock Trade Idea
The Bet: Sell the CVX Jan $92.50 naked put and collect $2 to open the risk. Here I have 90% theoretical odds that I will retain all the premium for maximum gains. But if price falls below my strike, then I have to own Chevron stock and would be open to losses below $90.50 per share.
Selling naked puts carries a lot of risk, so it does require significant margin requirements. This could restrict some investors, but for that purpose, I can use spreads instead. There the risk is finite, making the risk smaller in size and easier to manage.
The Alternate Bet: Sell the CVX Jan $92.50/$90 credit put spread where I risk less yet still can profit with 20% in yield.
Investing is risky business, so I never risk more than 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.
