Google Gap Spells Opportunity for Dip-Buyers

by Tyler Craig | July 19, 2013 11:46 am

The king of search served up a less-than-stellar earnings announcement last night[1]. Wall Street’s response was unforgiving, and Google (GOOG[2]) shares were taken down as much as $51 in after-hours trading.

Of course, while a $51 haircut sounds like a lot, it’s really only a 5.7% draw-down for a $910 stock … so it’s not as if this was a bloodbath.

Fortunately for its shareholders, Google stock staged a fairly convincing rebound, rising to $886 by the time the U.S. markets opened up this morning. All in all, the earnings damage was reduced to a mere 2.6% drop in the stock price that was shrinking into midday trading.

What’s more, the popular tech stock failed to break any key support levels and remains firmly entrenched in a compelling uptrend. Further buttressing the bullish case is the fact that Google stock has pulled back to its rising 50-day moving average, which often acts as a support level during uptrends. Think of it as a gathering ground where would-be buyers congregate to snatch up shares on the cheap.

As always, it’s important for technical traders to look for price to confirm their thesis. So far, GOOG has developed a bullish hammer candle in today’s trading session, indicating that dip-buyers have indeed come out in force.

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The options mart offers a few different avenues for playing a potential rebound. The customary post-earnings volatility crush has occurred in spades today, making short-term options quite a bit cheaper than they were pre-earnings. This perhaps supports looking for option-buying strategies like going long calls or call spreads.

And yet, if you want to traverse the higher-probability route to give yourself a larger margin of error, you still could consider selling out-of-the-money put spreads as the potential credit is sufficient enough to make the trade worthwhile.

With major support in GOOG residing in the $850 area, you could sell the Aug 850-840 bull put spread by simultaneously selling the Aug 850 put and buying the Aug 840 put for a net credit of $1.55. Consider it a bet that GOOG remains above $850 by Aug expiration — which it should if its uptrend remains intact. The max reward is limited to the initial credit received, or $1.55. The max risk also is limited and can be calculated by taking the distance between strikes minus the net credit, or $10-$1.55. To incur the max loss of $8.45 would require holding the trade all the way to expiration and allowing GOOG to fall below $840. Not a good idea.

Instead, consider these two potential exit strategies: You could close the put spread if GOOG breaks today’s low (a tight stop) or consider waiting until it breaks below the short put strike at $850 (a loose stop).

As of this writing, Tyler Craig did not hold a position in any of the aforementioned securities.

  1. less-than-stellar earnings announcement last night:
  2. GOOG:

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