Experts are always eager to call the top in Amazon.com, Inc. (NASDAQ:AMZN). Of late, consensus in the media has been regurgitating the same message that AMZN stock is headed for trouble with the Whole Foods Market, Inc. (NASDAQ:WFM) acquisition. In reality, it’s the companies in yet another sector who are in deep trouble.
Don’t take my word for it.
On Thursday, Amazon announced that the WFM deal would close by Monday, and that price reductions would start immediately thereafter. Retail grocers — most notably Wal-Mart Stores Inc (NYSE:WMT), Kroger Co (NYSE:KR) and Costco Wholesale Corporation (NASDAQ:COST) — were decimated.
They might be jumping the gun and overstating the downside potential, but the threat from Amazon is real.
This is not the first time grocery stocks fell on this headline, either, with the initial bump coming from the first announcement in June. But apparently, there still was some hopium to price out. Markets may have hoped that the deal wouldn’t pass, and word was that Walmart could outbid Amazon for Whole Foods.
Didn’t happen. Hopium is dead.
After Monday, it’s business as usual for Amazon. Continue to operate flawlessly on thin margins to dominate its new arena. It has a lot of learning to do there, but I am sure that management is up to the challenge.
So today, I will rinse and repeat my usual strategy for trading AMZN stock. Sell downside risk on dips against what others fear.
Fundamentally, Amazon shares aren’t even close to cheap, trading at a triple-digit price-to-earnings ratio. But that’s no secret. I still consider AMZN a growth company, and thus I don’t use profitability as the gauge of success. And in the absence of value, I trade price action.
Click to Enlarge Technically, Amazon stock has been vulnerable for a while. I’ve charted what looks like a bearish head-and-shoulders price pattern. And Thursday, it appeared to have lost the neckline, which could have triggered a trip to $900. Even if it does eventually fill this downside measured move, as long as the broader markets stabilize, I’m confident AMZN stock won’t fall far from it.
Therein lies my thesis. I bet that Amazon will stay above $850 through October.
However, I don’t want to buy Amazon shares outright to make that bet. Instead, I want to rely on proven support levels to create income without any out-of-pocket expense.
How to Trade AMZN Stock
The trade: Sell the Oct $850 naked put and collect $6 to open risk. Here I have an 85% theoretical chance of winning. But if price falls below my strike price, then I’ll have to buy the shares and would suffer losses below $844.
Selling puts in a $950 stock is daunting and requires a lot of margin. Traders could greatly mitigate that risk by selling spreads instead.
The alternate trade: Sell the Oct $850/$845 bull put spread for a chance to yield 10% on risk. In either setup, I have a price buffer of 10% from current levels.
Investing in the stock market never comes with guarantees. That’s why you should never bet more than you can afford 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.
