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Last week, the CBOE Volatility Index (INDEXCBOE:VIX) was showing some signs of turning higher. While it still settled above its 50-day moving average yesterday, the close at 10.89 was 13% lower than last Thursday’s reading above 12.50. So although I’m still cautious, the “fear index” is showing signs of improvement — and one stock that looks particularly ripe for a bullish play is Macy’s Inc (NYSE:M).
I think Macy’s is probably undervalued at this point…it’s been hit so hard. And it’s one of the few retailers that I think will survive. So I’m looking for a snapback, and the strategy I’m recommending is a ratio call debit spread:
Using a spread order, buy to open 1 M Nov. 17th $24 call and sell to open 2 M Nov. 17th $28 calls for a net debit of about $0.50.
A ratio debit spread is simply a way to lower the cost of buying options, as the two options that you sell to open (short) help offset the cost of the option that you buy to open. Therefore, this ratio call debit spread is a way to lower the cost of establishing a bullish call option trade. Many brokers will require the use of margin and/or a set amount of reserved capital to execute a ratio debit spread; contact your broker directly for specific requirements.
The November expiration allows us to get enough premium from our short calls to significantly lower the cost of the long calls; plus, more time is better when you own an option anyway.
And with these ratio spreads, you don’t want to use a stock that’s about to rally too quickly. If that happens and M were to get up to $28, we would need to buy back to cover and close the naked call option for a loss. M shares seem unlikely to get to $28 very quickly, with the market looking unimpressive and retail kind of down in the dumps right now. I’m anticipating a fairly slow climb, and once I do get a profit, I’ll take it.
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Ken Trester is editor of the popular Maximum Options program. Trester has been trading options since the first exchanges opened in 1973 with a winning streak that goes back to 1984 with money-doubling average annual profits since 1990.
