Defense contractors have been slowly moving higher over the last several months. Both Lockheed Martin Corporation (NYSE:LMT) and Northrop Grumman Corporation (NYSE:NOC) have been able to move up substantially since the beginning of February this year.
Take a look at the daily six-month chart below. Just this holiday-shortened week, LMT stock has moved over $4 higher at the time of this writing and looks to be challenging a potential pivot area around $284 that has acted as resistance two previous times before.
Click to Enlarge What may be giving this stock some extra lift and as they say “adding fuel to the fire” is the potential conflict with North Korea.
With the continued assertion that North Korea is testing missiles and the United States condemning the launches, defense-orientated stocks like LMT and NOC have been known to rally in similar situations.
The trade idea listed below is very similar to the one I discussed last week on Boeing Co (NYSE:BA) entitled “This Boeing Co (BA) Stock Ticket Won’t Keep You Grounded”
Boeing was threatening to move higher but the trade reviewed was more on the expectations of the stock not moving below a certain area. Taking another look at an hourly chart of LMT stock just below.
It is apparent that the $275 area has acted as a support level after acting as previous resistance. Counting on that area to continue to act as support will benefit this trade idea.
An Option Strategy to Consider on LMT Stock
The Trade: Sell the July $275 put and buy the July $270 put for a credit of 60 cents or more.
The Strategy: The maximum potential profit for this trade is 60 cents ($60 in real terms) if LMT stock is trading at or above $275 at (July 21) expiration. Both put options would expire worthless. The maximum loss is $4.40 ($440 in real terms). This would occur if LMT trades at or below $270 at July expiration. Breakeven is $274.40 at expiration based on a credit of 60 cents.
It is often asked why would an option trader risk severely more than he or she would be willing to make? The answer is the odds of the trading being successful. Option traders often say that option delta represents the odd of the option expiring in-the-money (ITM).
Although this cannot be proven to be completely accurate, it is often used as a discussion point for option traders. At the time of this writing, the short July $275 strike put had a delta around 30 cents. An option trader would say that has the probability of about 70% of expiring worthless at July expiration thus leading to a max profit for the position.
Consider it to be a bearish sign if the stock closes below that potential support area at $275. Good luck!
John Kmiecik is the head options instructor for Market Taker Mentoring, and co-author of the eBook 3 Secrets to Making Money in Any Market. Get your complimentary copy of his option trading eBook here. He can be reached at email@example.com. At the time of this writing, he did not own a position in any of the aforementioned securities.