General Motors Company (NYSE:GM) has seen its shares reverse and skid lower following a recent earnings confessional. However, there is evidence it’s time to get long GM stock by purchasing a non-pricey and limited-risk option known as a bull call spread.
As they say, hindsight is 20/20. That appears to be mostly the case for GM stock and shareholders who failed to properly anticipate a solid earnings report would result in a “sell-the-news” style reaction. Shares of GM reversed by nearly 3% from all-time-highs and it has been all downhill ever since.
Of course, there could be other issues at play and behind the sudden downshift in enthusiasm for GM stock. For one, as InvestorPlace’s Ian Bezek wrote on Wednesday, the company may face some potential headwinds from the growing rideshare phenomenon.
As well, GM’s recent pledge to rev up its SUV production at the expense of the compact auto market could, according to Ian, spell trouble. Ultimately, there are some clues which suggest General Motors isn’t paying close enough attention to similar conditions and decisions made during the financial crisis which proved very painful.
Also, let’s not forget Goldman Sachs. Last Monday the investment house cut shares to a “sell” rating. The reason? Analysts stated GM stock price has “benefited from too much hype about electric vehicles and self-driving cars.”
The downgrade on General Motors was good for lopping off a near identical amount of shareholder value as the earnings report. Personally, I enjoy when investors are so committed to being rational — or simply generous enough to park shares where backing up the truck looks like a good option on the price chart.
GM Stock Monthly Chart
If you played GM stock into and through earnings as a long, it hasn’t been a particularly enjoyable ride. Shares are off about 10% since reporting a couple weeks back. The good news is the path of least resistance remains up.
GM stock’s monthly uptrend is still intact after forging a breakout from a massive price pattern resembling a cup-like base with handle. The aforementioned pullback has put General Motors shares into a test of both the 50-day simple moving average and prior all-time-highs set back in late 2014 as part of a failed breakout. Back up the truck, anybody? Bueller?
GM Stock Bull Call Spread
Given an anticipated successful test of the key chart support discussed above and resumption of General Motors uptrend, I want to approach shares as having upside potential. I also wish to position without taking on additional downside risk in the event support fails to hold.
One strategy that incorporates this with both reduced and limited risk is an out-of-the-money bull call spread. Reviewing GM stock’s options one favored vertical combination which fits nicely is the Jan $43/$45 call spread. With shares at $42.11 the bull call spread is priced for 60 cents. That’s a smidgen under 1.5% stock risk.
That’s definitely an acceptable level of risk if for no other reason than GM having shown itself to be a volatile stock the last few months. At the same time the spread offers an attractive max payout of $1.40 if GM is trading above $45 or up 6.8% at January expiration, sans a December dividend this trader is likely to forego.
Lastly and on the downside, if there is to be more weakness in GM stock’s future, I’d personally look to use a money stop if the spread drops by 30 cents in value. Bottom line, if a 50% money stop is needed, it likely means our technical thesis was wrong while still allowing for a bit of wiggle room that doesn’t play too easily into the hands of the algorithmic traders.
Investment accounts under Christopher Tyler’s management do not currently own positions in any securities mentioned in this article. The information offered is based upon Christopher Tyler’s observations and strictly intended for educational purposes only; the use of which is the responsibility of the individual. For additional market insights and related musings, follow Chris on Twitter @Options_CAT and StockTwits and feel free to click here to learn more about how to design better positions using options!