Ken Trester’s Play of the Week – Kinder Morgan Energy Partners (NYSE: KMP)
Every week Ken Trester scans the options trading market to find the best credit spreads to write for high income. This Play of the Week position provides more than an 80% probability of expiring out of the money and earning full profits.
Put Credit Spread to Open — Sell the KMP Jun 67.5 Put and buy the KMP Jun 62.5 Put for a spread credit of 35 cents or higher.
KMP is a Master Limited Partnership (MLP) that owns and operates oil and gas pipelines. The stock rallied steadily along with other energy stocks until about a month ago, when it jumped higher on what now looks like a blow-off top. It has corrected that blow off and now sits at support at $72. It also has additional support at $71 with its 200-day moving average.
A credit spread involves writing (selling to open) an option and purchasing (buying to open) an option at a different strike price in the same underlying security. The position, or leg, of the spread trade that you sell gives you a cash credit to your trading account. The option you buy limits your risk and lowers your margin requirement for the trade.
In a credit spread trade, you collect more money on the leg you write than you spend on the leg you buy, so you are getting paid to enter the trade. For maximum profits, you want both options involved in the spread to expire out-of-the-money. But regardless of what happens to the options, the money you receive for opening the position is yours to keep.
To open the Kinder Morgan Energy Partners put credit spread:
Underlying Stock: Kinder Morgan Energy Partners (NYSE: KMP)
Current Stock Price: $72.56
Trade Type: Put credit spread
This position generates a 7% return on margin (42% annualized) for a five-week holding period. Your maximum risk is $465 per contract.
Making the Trade: Use a spread order to Sell to Open the KMP Jun 67.5 Put, and Buy to Open the KMP Jun 62.5 Put, for a spread credit of 35 cents or higher.
A put credit spread is a bullish position in which you want the stock price to stay above the upper strike price of the spread. Use an auto-stop order to close this position if KMP trades below $67 prior to June options expiration and you do not want to buy the stock. If you do not close the position and the KMP Jun 67.5 Put expires in the money you will be obligated to buy 100 shares of the stock at $67.50 per share for each credit spread contract you open.
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.
